Reply #25: Fannie Mae and Freddie Mac did not, by themselves, cause the subprime mortgage crisis. [View All]

[Cool Logic]

However, Fannie and Freddie str government sponsored entities (GSEs). This meant that they had to be competitive, like a private company, and maintain their stock price. On the other hand, the value of the mortgages they re-sold on the secondary market was implicitly guaranteed by the government. This caused them to hold less capital to support their mortgages in case of loss. As a result, Fannie and Freddie were pressured to take on risk to be profitable but knew they wouldn't suffer the consequences if things turned south.

The government set them up this way to allow them to buy qualified mortgages, insure them and resell them to investors, thus freeing up funds for banks to make new mortgages. In this way, they were traditionally involved in at least half of all new mortgages made each year. By December 2007, when banks began to constrict their lending, Fannie and Freddie were really the only lender still operating, responsible for 90% of all mortgages.

Between 2005-2007, few of the mortgages acquired were conventional,fixed-interest loans with 20% down. Fannie Mae's loan acquisitions were:

62% negative amortization
84% interest only
58% subprime
62% required less than 10% downpayment.
Freddie Mac's loans were even more risky, consisting of:
72% negative amortization
97% interest only
67% subprime
68% required less than 10% downpayment.

It was the preponderance of exotic loans in addition to subprime borrowers that made Fannie and Freddie's loan acquisitions so toxic.