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Wednesday, July 9, 2008

Fannie Mae, Freddie Mac: Downgraded by Traders

Fannie, Freddie Downgraded by Derivatives Traders (Update1): “Fannie Mae and Freddie Mac, ranked Aaa by the world's largest credit-rating companies, are being treated by derivatives traders as if they are rated five levels lower.”

Wait. Where have I seen this before?

Aaaah, right! MBIA (MBA) and Ambac (ABK) were “treated by derivatives traders as if they were rated five levels lower” long before the clowns over at the ratings agencies even began to think about maybe, possibly putting these names on some kind of ‘negative watch’ list.

“Credit-default swaps tied to $1.45 trillion of debt sold by the two biggest U.S. mortgage finance companies are trading at levels that imply the bonds should be rated A2 by Moody's Investors Service, according to data compiled by the firm's credit strategy group. The price of contracts used to speculate on the creditworthiness of Fannie Mae and Freddie Mac and to protect against a default doubled in the past two months.

Traders are overlooking the government's implied guarantee of the debt as credit losses grow and concern rises that the companies don't have enough capital to weather the biggest housing slump since the Great Depression.”

Hmmmmm. Let’s do some quick, back of the envelope math. 1% of $1.45 trillion is $145 billion. Suppose then that Fannie Mae (FNM) and Freddie Mac (FRE) end up with losses of 1% on their portfolios. FNM has a market cap of 17.19 billion, $133.05 billion in cash and $761.05 billion in debt. FRE has a market cap of $8.70 billion, cash of $132.24 billion and $759.77 billion in debt. It would appear to me that these entities could not weather a $145 billion hit should it occur over a short period of time.

Recent estimates, which I covered in IndyMac: Failure by Friday? Fannie, Freddie: We Need Capital, are that they have to raise a combined $75 billion as FAS 140 forces off-balance sheet entities back onto the books.

It is likely that FNM and FRE would eventually get exempt from implementing this new accounting rule, but even having to raise the much smaller $75 billion would be damn near impossible in these market conditions.

Now imagine trying to raise about $145 billion with your credit rating under assault.

Imagine also that their portfolios start to show losses greater than 1%...

I’m betting against the Bulltards on this one and going with the derivatives traders…

Oh and this isn’t going to help at all:

Pending U.S. Home Resales Decline More Than Forecast (Update2): “Contracts to buy previously owned U.S. homes declined more than forecast in May, a sign prices that have been sliding for more than two years have yet to touch bottom.

The index of pending home resales fell 4.7 percent following a revised 7.1 percent gain in April that was greater than previously reported, the National Association of Realtors said today in Washington.

The prospect of further price declines may be discouraging offers, while rising mortgage rates and tougher lending standards make it harder to qualify for loans. Record delinquencies on home loans have led to concerns that Fannie Mae and Freddie Mac, the two biggest U.S. mortgage finance companies, may need to increase their capital by $75 billion.”


Anonymous said...

"Let’s do some quick, back of the envelope math. 1% of $1.45 trillion is $145 billion"

Next time you do quick math, use a calculator. Correct answer is 14.5 billions.

Ben Bittrolff said...

Me: "Let’s do some quick, back of the envelope math. 1% of $1.45 trillion is $145 billion"

Anonymous: "Next time you do quick math, use a calculator. Correct answer is 14.5 billions."

Shit. You're right.

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