PrefBlog

Yesterday, Citigroup was reported to have advised that Fannie & Freddie aren’t dead yet. Today it was Merrill’s turn:

Merrill Lynch & Co. analysts said a bailout of the mortgage-finance companies is “premature” because losses won’t cause capital to deplete for several quarters.
…
The market may be premature in expecting a rescue is imminent because the companies may not need to raise more capital to meet current requirements, the analysts said.

It’s not clear that Fannie and Freddie “need a capital injection,” [Kenneth] Bruce and [Cyrus] Lowe said in two separate reports. Still “policy makers may be forced by the controversy playing out in the market to consider various options to stabilize” the companies.
…
The two mortgage-finance companies “will likely be plagued by poor visibility into the future of credit losses and the uncertainty surrounding the possible public policy actions that could jeopardize shareholders,” the analysts wrote. “Risks of further contraction in the mortgage market are as unpalatable as a high-profile bail-out.”

Both stocks are rated “underperform” at Merrill, the reports said.

Fannie & Freddie sold some more money market paper today:

Investors have been watching the debt sales for any “tell- tale” signs that Washington-based Fannie and McLean, Virginia- based Freddie can’t fund themselves, UBS AG analysts in New York including William O’Donnell wrote in a report. Today’s spreads were wide enough to attract demand, yet narrow enough to dim speculation that the government-sponsored enterprises will be forced to turn to Treasury Secretary Henry Paulson for support.
…
Fannie sold $1 billion of three-month notes at a yield of 2.58 percent, the company said.
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Freddie raised $1 billion of one-month debt at a yield of 2.28 percent, or 66 basis points more than Treasuries and 18 basis points less than one-month Libor, separate data shows.
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Fannie also sold $1 billion of six-month debt today at a yield of 2.87 percent, about 93 basis points above Treasury bills

Geez, I wish that reporters would learn some of the jargon of the trade! I was all excited about the “short term notes” headline – indicating a 1-5 year term – only to find out it was money-market paper.

Assiduous Reader prefhound noted in yesterday’s comments:

You noted the other day that they needed to rollover about $120B of debt in the next 35 days. This looks to be about 7.5% of their combined debt of $1.6T, which seems an odd calendar concentration. Their recent tendency to go short term (in response to market conditions?) could make rollovers get bigger quite quickly.

Some long overdue poking around in Fannie Mae’s website uncovered their Monthly Summary Archive, which includes their Summary for July 2008. According to Table 7 of this summary, FNM has slightly under $273-billion in money market issuance outstanding and $573-billion in bonds, for a total of $846-billion. The ratio of Money-Market to Bonds outstanding has increased from 1:3.7 in July 2007 to 1:2.0 in July 2008, which is kind of interesting. It might be analytically important; it might be a cause for concern; it might not be. It is certainly something that should be understood before plunking money down on the table, however!

Anyway, if we say that one-quarter of the MM paper outstanding needs to be rolled every month (which assumes an average 4-month initial term; I have no idea how accurate this assumption might be), we arrive at required gross issuance of $68-billion monthly in MM paper simply to refinance the programme.

Bond issuance has totalled $190-billion year-to-date (compared to $194-billion for all of 2007!). If we assume that the YTD rate is representative, this comes to monthly gross issuance of $16-billion bonds.

The total comes to $84-billion to be financed monthly, which makes the figure of $120-billion in the five weeks to September 30 that I passed on in the August 25 report look at least halfway credible.

This level of dependence upon the wholesale market has been blamed for (among other things) the Northern Rock debacle; the Economist has dealt with the subject:

Start with liquidity, the obvious gap in the regulatory firewall. Liquidity risk is barely mentioned in the Basel 2 accord, largely because capital and liquidity were seen as separate (if entwined). The Basel rulemakers are due to issue an updated set of liquidity standards later this year, but devising a sensible regime is no easy task. “Liquidity risk is a kind of catastrophic risk—you either have it or you don’t,” says a senior regulator.

Authoritative references to the Northern Rock fiasco may be found in my post Earth to Regulators: Keep Out!.

Now, I don’t want anybody running out and shorting Fannie Mae because I’ve pointed out that they have an awful lot of short term financing to roll! I will simply point out that a rational investor will understand the nature and vulnerability of their funding mismatch – if any – prior to plunking money down on the table. I will stress yet again that I do not have a view on the investment merits of Fannie Mae preferreds; I’m simply pointing out the various considerations that never make it into the press due to the number of syllables in the words required to explain them.

Scared enough yet? Bloomberg reported a Moody’s press release on prime-Jumbo loans, inter alia:

The performance of mortgage pools in Jumbo transactions from 2006 and 2007 has also weakened relative to that of prior years. While the absolute level of delinquencies remains low in comparison to other RMBS segments, Jumbo delinquencies are building more quickly in recent months.

Moody’s had previously identified some recent-vintage Jumbo transactions that were at risk of downgrade based upon the performance data available at the beginning of 2008. Given the continued performance deterioration in the Jumbo sector, Moody’s is currently reviewing all Jumbo transactions that were originated in 2006 and 2007 .

Second lien pools, a much smaller proportion of RMBS issuance in comparison to first liens, have also experienced extreme poor performance. Moody’s expects 2005 vintage subprime closed-end second (CES) pools to lose 17% on average, 2006 vintage pools to lose 42% on average, and 2007 pools to lose 45% on average. However, given the wide range of deal characteristics and pool performance among transactions, Moody’s expectations for any given transactions can vary significantly.

Prime CES pools have experienced far lower losses than have subprime ones, although, like in every other RMBS sector, 2006 and 2007 vintage delinquencies and losses have been increasing. On average, Moody’s expects 2005 vintage prime CES pools to lose about 6% of their original balance, 2006 vintage pools to lose about 13%, and 2007 vintage pools to lose about 17%.

The performance of recent vintages of home equity line of credit (HELOC) pools has also weakened significantly. Moody’s projects that pool losses on 2005 vintage HELOC transactions will average about 9%, while 2006 vintage transactions will on average lose around 24% and 2007 vintage around 26%.

PerpetualDiscounts were off a bit today, with reasonable volume but a much higher than usual number of big blocks. The average YTW is 6.13%, equivalent to 8.58% interest at the standard conversion factor of 1.4x. Given that long corporates yield about 6.18%, this represents a spread of 240bp; still quite high by historical standards.

There were twenty-three other index-included $25-pv-equivalent issues trading over 10,000 shares today.

This entry was posted on Wednesday, August 27th, 2008 at 7:38 pm and is filed under Market Action. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.