The Tycoon Report

How Uncle Sam Will Keep Crushing Real Estate

Tuesday, February 9, 2010 | Chris Rowe

The more I hear about Freddie Mac (Symbol: FRE) and Fannie Mae (Symbol: FNM), the more I start to feel like I’m one of the kids in the scene from the movie “Stand By Me,” where the kids are crossing over the old wooden bridge.



“Gordy” reached down and felt the train track for vibrations with his hand, turned around, and saw the giant puffs of black smoke making their way through the high trees.

Then suddenly, he screamed at the top of his lungs, “TRAAAIN!!!!!!!”



The Train Hasn't Passed Yet

For anyone who thinks we are on the road to recovery, you are in for a rude awakening. 

As investors, we can make plenty of profits from the market’s volatility, but don’t get that confused with “economic recovery.” 

For those who don’t know, Fannie Mae and Freddie Mac are the two mortgage giants, bailed out by the government in the midst of the financial crisis, who buy mortgages originated by other banks. 

Between the two, and the Federal Housing Administration, they fund 9 out of 10 mortgages.

Well, actually, since the government owns them, YOU fund 90% of the country’s mortgages. 

So let’s talk about how YOUR real estate portfolio is doing, shall we?

Mortgage delinquencies are piling up, and we haven’t even begun to understand what the peak is going to look like. 

With the different forms of shadow inventory (i.e., the amount of homes that have mortgages that are behind on payments and are facing potential liquidation), we have no clear understanding of what the real numbers are. 

But "the official numbers" are that 3.87% of Freddie Mac's single-family mortgages were at least 90 days past due at the end of December, and that's up from 1.72% a year earlier. 

I assure you that this number is way understated. 

Fannie Mae said 5.29% were 90 days past due in November, up from 2.13% a year earlier. 

Once again, I would bet dollars to doughnuts the number are more-understated than our unemployment numbers.



Analysts will tell you the delinquency peak is coming later this year.  But that’s just like the analysts commenting on banks' exposure to subprime mortgage securities in 2006.  

The truth is, these analysts are just taking semi-educated guesses with what little information they have. 

In fact, they’re just parroting the numbers they hear from the the Mortgage Bankers Association. 

Don't listen to the MBA or analysts.  If they don't give you numbers, and say them with confidence, they won't have jobs tomorrow.  

The fact is, as I've stated in recent Tycoon Report articles, we are nearly back to where we were when the stock market was cut in half in the 2008 crash. 

There is no visibility, either.

This reminds me of my 3-year-old daughter when we ask her to eat her dinner, so she just spreads it around and picks some up on her fork and puts it down, and then looks at me as though she made any progress. 

Sure, it will shut me up for a little while, but nothing has changed.  About 5% of Freddie Mac's and 6% of Fannie Mae's loans are expected to go into default over the next 18 to 24 months.

And the guys who are on the front lines, who have the most visibility, are straight-out telling us that they are using the two bailed-out mortgage giants for “backdoor bailouts” so they don’t have to get approval from Congress before spending your tax dollars. 

You may recall the article I wrote for you in late December titled “How the Government is Hiding Massive Losses!"

In it, I talked about how, on Dec. 24, the Treasury Department said there would be no limit to the taxpayer money it would be allowed to deploy to Fannie and Freddie over the next three years.  

The scary part of that is they originally had a $400 billion limit set, and they had told us they doubted they would even need half of that.  

So, why did they remove the limit if they supposedly didn’t even need half of it?

It's because -- while the Obama administration will publicly celebrate the fact that the Fed no longer has to buy mortgages to keep rates down -- the truth is, the Treasury will be funding Freddie and Fannie, thus using them as a tool to keep on buying!

When mortgage delinquencies rise, the government-owned mortgage giants have to commit more capital to cover anticipated losses. Whenever revenues aren't enough to cover losses, the Treasury simply sends them more of your tax money.

This is a huge slap in the face to the taxpayer. 

If you think Dylan Jovine got people all riled up last Thursday about Joe Smith walking away from his upside-down mortgage and sticking it to the taxpayer, then try chewing on the fact that, on Dec. 24, 2009, the government basically told us (or told those who paid attention to what the Treasury was doing on Christmas eve) that it would really be using a dollar amount in the trillions (of YOUR money) to absorb unlimited losses without having to ask Congress. 

So, that means they don’t have to ask you. 

If you still don’t feel like you’ve just been kicked in the family jewels, then put on some protection before I tell you that the administration approved multimillion-dollar pay packages for executives at both companies shortly after lifting the $400 billion cap.

Using Fannie’s 'Backdoor' Bailouts:
There’s a Joke in Here Somewhere…

In my opinion, Assistant Treasury Secretary Michael Barr implicitly admits to the backdoor bailout by justifying it. 

He said that, because Fannie and Freddie are "owned by the taxpayers in the middle of the biggest housing crisis in 80 years, it would be unrealistic to expect the companies wouldn't be used to help stabilize the market.”

Barr also said the administration's actions were "prudent" and "consistent with taxpayer protection."

Yeah. This reminds me of how AIG was advised to hide the extent of its losses so it wouldn't cause a panic.  Or how Ken Lewis was told by the administration that he shouldn't back out of the Merrill Lynch deal. Etcetera.

The point is, in a crisis situation, these guys feel that it's their God-given right to run around and do whatever they want to, without admitting the truth.

The truth is scary, and would probably cause another panic.

Hmm.  What are some other quotes I’ve read from people with the most-reliable opinions?

“Former Federal Housing Finance Agency head James Lockhart, the company's top regulator until last August, says the U.S. is unlikely to ever fully recoup its investment in the two companies.”

Rep. Barney Frank (D-Mass.), a man who fought for these companies even more than my mom used to fight with the school principal on my behalf (while I continued to misbehave in elementary school), now says, “Ultimately, they should be abolished and replaced with an entirely new housing-finance system.”

David Moffett is Freddie Mac’s former CEO. (He took the job when the government assumed control of the company.)

Apparently "he and others warned administration officials that the loan-modification goals were unrealistic, that borrowers whose homes weren't worth what they owed were unlikely to take part, and that many participants would be likely to re-default within months." 

Moffett then went on to say, "They really didn't want our views.”

Seems like anyone who speaks up doesn’t get to keep their job for a very long time. 

'Look at the Emperor's New Clothes! They're Beautiful!'

The list goes on and on. 

The truth, however, is that there are about 15 million troubled (past-due) mortgages out there.  What kind of help are they getting as real estate prices continue to drop?  

HAMP!

The program that Freddie and Fannie are supposed to to oversee, called the Home Affordable Modification Program (HAMP), is supposed to be the main focus at the two firms. 

HAMP provides financial incentives for banks and other owners of mortgages to reduce monthly loan payments for at-risk borrowers.

The first problem is the Obama administration says it will offer 3 million to 4 million borrowers the chance to modify loans. 

The second problem, perhaps more disturbing, is fewer than 70,000 of them have received permanent loan modifications so far. 

Will HAMP Bring Change?  

There's only one thing that can save the economy now!  And that's "HOPE"! (Or was it "HAMP?") Er... "Change"?

Good luck, my fellow Americans.  I strongly believe rates will stay low for some time, due to the flight to quality as the sovereign debt worries around the world continue to materialize. 

I think this is true because the Treasury will be funding Fannie and Freddie with your money, and this will keep rates down as the two continue to buy mortgages. 

But at some point, we have to admit that the housing and mortgage markets are much like ... OK, one more movie reference...

Our housing and mortgage market reminds me of the classic move "A Christmas Story."   

Remember when the father won the "leg lamp" that the mother shattered to pieces?  The father tried desperately to glue all of the small pieces together and stood it up very carefully. 

He took two steps back to get a better look at his repair job. 


Of course, we know what happened next. 

Until next Tuesday!




“Profit from the Trend”

Chris Rowe
Chief Investment Officer
The Trend Rider