Friday, March 23, 2012

Fannie May and US Mortgage Market

Us Mortgage Market:
Us mortgage market is considered to be the most vibrant and developed mortgage market in the world, especially before sub prime mortgage crisis thumped its reputation. First because it has fueled the progress towards the achievement of American dream (home ownership), and second because it offers various types of mortgage products. A home ownership rate as high as 67% (approx) and the flexibility of this huge mortgage market is largely influenced by The Federal National Mortgage Association (AKA Fannie Mae).

Fannie Mae:
The Federal National Mortgage Association (Fannie Mae), when launched in 1938 was intended to support and enable poor people so they will be able to buy houses for themselves. Fannie Mae is responsible for standardizing the mortgages. They modify mortgages into mortgage backed securities (just like any other asset backed securities, MBS are "securities backed by mortgage"); these MBS are then sold in secondary markets. Fannie Mae also holds some of these securities in their own portfolio. This mechanism allows a wide range of investors to invest in mortgage market. By doing this, Fannie Mae not only assumes risk for the investors but also injects the much needed liquidity for the banks and mortgage lenders.

Back in 1938, the primary purpose of launching Fannie Mae was to encourage banks and other conventional lenders to lend out home loans to middle class people at conditions that suit them most (e.g. low monthly payments). These "subprime" loans have higher interest rates because they are more risky then traditional loans. Fannie Mae grew rapidly as a company and in 1968 it was converted into a public shareholder owned company. Later in 1970, Freddie Mac was launched as a competitor, just to deal with its monopoly. Even though the securities issued by Fannie Mae carry no government guarantee, the investors had their trust in securities issued by these two huge companies. Despite of some scandals causing public outrage, these companies were doing well till the mortgage crisis of late 2007.

Mortgage Crisis:
Large numbers of "subprime" borrowers ended as defaulters, and lots of foreclosures resulted in the present credit crunch. Despite Government coming forward to help these mortgage giants by taking Fannie Mae into conservatorship along with a huge bailout plan, both companies suffered a sharp fall in their stock prices (as much as 95% in just one year). The truth is that future looks dismal for Fannie Mae, which recently wrote 29 billion losses in the third quarter. Will this huge system that was established to deal with consequences of "the great depression", collapse in the wake of ongoing recession? Only time will tell.

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