The Federal National Mortgage Association (FNMA), commonly known as Fannie Mae, is a United States government-sponsored enterprise (GSE) and, since 1968, a publicly traded company.
Founded in 1938 during the Great Depression as part of the New Deal, the corporation’s purpose is to expand the secondary mortgage market by securitizing mortgage loans in the form of mortgage-backed securities (MBS), allowing lenders to reinvest their assets into more lending and in effect increasing the number of lenders in the mortgage market by reducing the reliance on locally based savings and loan associations (or ‘thrifts’).
Fannie Mae’s brother organization is the Federal Home Loan Mortgage Corporation (FHLMC), better known as Freddie Mac. As of 2018, Fannie Mae is ranked #21 on the Fortune 500 rankings of the largest United States corporations by total revenue.
Historically, most housing loans in the early 1900s in the USA were short term mortgage loans with balloon payments (plans with large final payments). The Great Depression wrought havoc on the U.S. housing market as people lost their jobs and were unable to make payments. By 1933, an estimated 20 to 25% of the nation’s outstanding mortgage debt was in default. This resulted in foreclosures in which nearly 25% of America’s homeowners lost their homes to banks.
To address this, Fannie Mae was established by the U.S. Congress in 1938 by amendments to the National Housing Act as part of Franklin Delano Roosevelt’s New Deal. Originally chartered as the National Mortgage Association of Washington, the organization’s explicit purpose was to provide local banks with federal money to finance home loans in an attempt to raise levels of home ownership and the availability of affordable housing.
Fannie Mae created a liquid secondary mortgage market and thereby made it possible for banks and other loan originators to issue more housing loans, primarily by buying Federal Housing Administration (FHA) insured mortgages. For the first thirty years following its inception, Fannie Mae held a monopoly over the secondary mortgage market.
The New Deal focus on the housing market was also motivated by the fact that about a third of the nation’s unemployed were in the building trade, and the government had a vested interest in getting them back to work by giving them homes to build.
Fannie Mae was acquired by the Housing and Home Finance Agency from the Federal Loan Agency as a constituent unit in 1950. In 1954, an amendment known as the Federal National Mortgage Association Charter Act made Fannie Mae into ‘mixed-ownership corporation,’ meaning that federal government held the preferred stock while private investors held the common stock; in 1968 it converted to a privately held corporation, to remove its activity and debt from the federal budget.
In the 1968 change, arising from the Housing and Urban Development Act of 1968, Fannie Mae’s predecessor (also called ‘Fannie Mae’) was split into the current Fannie Mae and the Government National Mortgage Association (‘Ginnie Mae’). Ginnie Mae, which remained a government organization, buys FHA-insured mortgage loans as well as Veterans Administration (VA) and Farmers Home Administration (FmHA) insured mortgages. As such, Ginnie Mae is the only home-loan agency explicitly backed by the full faith and credit of the United States government.
In 1970, the federal government authorized Fannie Mae to purchase conventional loans, i.e. those not insured by the FHA, VA, or FmHA, and created the Federal Home Loan Mortgage Corporation (FHLMC), colloquially known as ‘Freddie Mac,’ to compete with Fannie Mae and thus facilitate a more robust and efficient secondary mortgage market. That same year FNMA went public on New York and Pacific Exchanges.
In 1981, Fannie Mae issued its first mortgage passthrough (where the interest and principal payments from the borrower or homebuyer ‘pass through’ it to the security holder) and called it a mortgage-backed security. Ginnie Mae had guaranteed the first mortgage passthrough security of an approved lender in 1968 and in 1971 Freddie Mac issued its first mortgage passthrough, called a participation certificate, composed primarily of private mortgage loans.
In 1992, President George H.W. Bush signed the Housing and Community Development Act of 1992. The Act amended the charter of Fannie Mae and Freddie Mac to reflect the Democratic Congress’ view that the GSEs ‘have an affirmative obligation to facilitate the financing of affordable housing for low- and moderate-income families in a manner consistent with their overall public purposes, while maintaining a strong financial condition and a reasonable economic return.’
For the first time, the GSEs were required to meet ‘affordable housing goals’ set annually by the Department of Housing and Urban Development (HUD) and approved by Congress. The initial annual goal for low-income and moderate-income mortgage purchases for each GSE was 30% of the total number of dwelling units financed by mortgage purchases and increased to 55% by 2007.
In 1999, Fannie Mae came under pressure from the Clinton administration to expand mortgage loans to low and moderate income borrowers by increasing the ratios of their loan portfolios in distressed inner city areas designated in the Community Reinvestment Act (CRA) of 1977. In 1999, ‘The New York Times’ reported that with the corporation’s move towards the subprime market ‘Fannie Mae is taking on significantly more risk, which may not pose any difficulties during flush economic times. But the government-subsidized corporation may run into trouble in an economic downturn, prompting a government rescue similar to that of the savings and loan industry in the 1980s.’
In 2000, because of a re-assessment of the housing market by HUD, anti-predatory lending rules were put into place that disallowed risky, high-cost loans from being credited toward affordable housing goals. In 2004, these rules were dropped and high-risk loans were again counted toward affordable housing goals.
As loan originators began to distribute more and more of their loans through PLS’s (private label securities), the GSEs lost the ability to monitor and control loan originators. Competition between the GSEs and private securitizers for loans further undermined GSEs’ power and strengthened mortgage originators. This contributed to a decline in underwriting standards and was a major cause of the 2007 financial crisis.
Investment bank securitizers were more willing to securitize risky loans because they generally retained minimal risk. Whereas the GSEs guaranteed the performance of their MBSs, private securitizers generally did not, and might only retain a thin slice of risk. Often, banks would offload this risk to insurance companies or other counterparties through credit default swaps (the seller of the CDS compensates the buyer in the event of a debt default by a debtor), making their actual risk exposures extremely difficult for investors and creditors to discern.
The shift toward riskier mortgages and private label MBS distribution occurred as financial institutions sought to maintain earnings levels that had been elevated during 2001–2003 by an unprecedented refinancing boom due to historically low interest rates. Earnings depended on volume, so maintaining elevated earnings levels necessitated expanding the borrower pool using lower underwriting standards and new products that the GSEs would not (initially) securitize.
Thus, the shift away from GSE securitization to private-label securitization (PLS) also corresponded with a shift in mortgage product type, from traditional, amortizing, fixed-rate mortgages (FRMs) to nontraditional, structurally riskier, nonamortizing, adjustable-rate mortgages (ARM’s). The growth of PLS, however, forced the GSEs to lower their underwriting standards in an attempt to reclaim lost market share to please their private shareholders. Shareholder pressure pushed the GSEs into competition with PLS for market share, and the GSEs loosened their guarantee business underwriting standards in order to compete.
In contrast, the wholly public FHA/Ginnie Mae maintained their underwriting standards and instead ceded market share.
The growth of private-label securitization and lack of regulation in this part of the market resulted in the oversupply of underpriced housing finance that led, in 2006, to an increasing number of borrowers, often with poor credit, who were unable to pay their mortgages – particularly with adjustable rate mortgage loans (ARM), caused a precipitous increase in home foreclosures. As a result, home prices declined as increasing foreclosures added to the already large inventory of homes and stricter lending standards made it more and more difficult for borrowers to get loans. This depreciation in home prices led to growing losses for the GSEs, which back the majority of US mortgages.
In the summer of 2008, the government attempted to ease market fears by reiterating their view that ‘Fannie Mae and Freddie Mac play a central role in the US housing finance system.’ The US Treasury Department and the Federal Reserve took steps to bolster confidence in the corporations, including granting both corporations access to Federal Reserve low-interest loans (at similar rates as commercial banks) and removing the prohibition on the Treasury Department to purchase the GSEs’ stock. Despite these efforts, shares of both Fannie Mae and Freddie Mac tumbled more than 90% from their one-year prior levels.
By fall of 2008, James Lockhart, director of the Federal Housing Finance Agency (FHFA), announced that Fannie Mae and Freddie Mac were being placed into conservatorship of the FHFA. The action was ‘one of the most sweeping government interventions in private financial markets in decades.’ Lockhart also dismissed the firms’ chief executive officers and boards of directors, and caused the issuance to the Treasury new senior preferred stock and common stock warrants amounting to 79.9% of each GSE. The value of the common stock and preferred stock to pre-conservatorship holders was greatly diminished by the suspension of future dividends on previously outstanding stock, in the effort to maintain the value of company debt and of mortgage-backed securities. FHFA stated that there are no plans to liquidate the company.
Fannie Mae and (Freddie Mac owned or guaranteed about half of the U.S.’s $12 trillion mortgage market. If they were to collapse, mortgages would be harder to obtain and much more expensive. Fannie and Freddie bonds were owned by everyone from the Chinese Government, to money market funds, to the retirement funds of hundreds of millions of people. If they went bankrupt there would be mass upheaval on a global scale.
The authority of the U.S. Treasury to advance funds for the purpose of stabilizing Fannie Mae, or Freddie Mac is limited only by the amount of debt that the entire federal government is permitted by law to commit to. The 2008 law enabling expanded regulatory authority over Fannie Mae and Freddie Mac increased the national debt ceiling US$800 billion, to a total of US$10.7 Trillion in anticipation of the potential need for the Treasury to have the flexibility to support the federal home loan banks.
In 2010, Fannie Mae and Freddie Mac announced their stocks would be delisted from the NYSE. The Federal Housing Finance Agency directed the delisting after Fannie’s stock traded below $1 a share for over 30 days. Since then the stocks have continued to trade on the Over-the-Counter Bulletin Board.
In 2013, Fannie Mae announced that it is going to pay a dividend of $59.4 billion to the United States Treasury. Fannie Mae’s 2014 financial results enabled it to pay $20.6 billion in dividends to Treasury for the year, resulting in a cumulative total of $134.5 billion in dividends – approximately $18 billion more than Fannie Mae received in support.
Fannie Mae makes money partly by borrowing at low rates, and then reinvesting its borrowings into whole mortgage loans and mortgage backed securities. It borrows in the debt markets by selling bonds, and provides liquidity to loan originators by purchasing whole loans. It purchases whole loans and then securitizes them for the investment market by creating MBS that are either retained or sold.
As a Government Sponsored Enterprise, or GSE, Fannie Mae is compelled by law to provide liquidity to loan originators in all economic conditions. It must legally ignore adverse market conditions which appear to be unprofitable. If there are loans available for purchase that meet its predetermined underwriting standards, it must purchase them if no other buyers are available.
Because of the size, scale, and scope of the United States single-family residential and commercial residential markets, market participants viewed Fannie Mae corporate debt as having a very high probability of being repaid. Fannie Mae is able to borrow very inexpensively in the debt markets as a consequence of market perception. There usually exists a large difference between the rate at which it can borrow and the rate at which it can ‘lend.’ This was called ‘The big, fat gap’ by Alan Greenspan.
Fannie Mae also earns a significant portion of its income from guaranty fees it receives as compensation for assuming the credit risk on mortgage loans underlying its single-family Fannie Mae MBS and on the single-family mortgage loans held in its retained portfolio. Investors, or purchasers of Fannie Mae MBSs, are willing to let Fannie Mae keep this fee in exchange for assuming the credit risk; that is, Fannie Mae’s guarantee that the scheduled principal and interest on the underlying loan will be paid even if the borrower defaults.
Fannie Mae’s charter has historically prevented it from guaranteeing loans with a loan-to-values over 80% without mortgage insurance or a repurchase agreement with the lender; however, in 2006 and 2007 Fannie Mae did purchase subprime and Alt-A loans as investments.
Fannie Mae is a purchaser of mortgages loans and the mortgages that secure them, which it packages into MBS. Fannie Mae buys loans from approved mortgage sellers and securitizes them; it then sells the resultant mortgage-backed security to investors in the secondary mortgage market, along with a guarantee that the stated principal and interest payments will be timely passed through to the investor. In addition, Fannie MBS, like those of Freddie Mac MBS and Ginnie Mae MBS, are eligible to be traded in the ‘to-be-announced,’ or TBA market. By purchasing the mortgages, Fannie Mae and Freddie Mac provide banks and other financial institutions with fresh money to make new loans. This gives the United States housing and credit markets flexibility and liquidity.
The Daily Omnivore 
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