FANNIE MAE & FREDDIE MAC

OK, you've been hearing a lot about Fannie Mae and Freddie Mac in the last week or so. You've got an idea about who they are but aren't quite sure or, maybe, you think they are two cartoon characters. As always, I'm here to help.


Both are Government Sponsored Enterprises (GSE). That means that they are private, owned by the public, but backed by the U.S. Government. They sell stock and float bonds just like any private company and you can be an owner. In fact, some of their stock or bonds my be included in some funds in your IRA or 401K.

Fannie Mae stands for the Federal National Mortgage Association (FNMA). This was a government entity from the 1930's until the 1960's when it was changed to a GSE. Freddie Mac stands for Federal Home Loan Mortgage Corporation (FGLMC). It was created in 1968 to complete with Fannie Mae. Between the two of them, they guarantee about 50% of all mortgages in the country. How did they get all these mortgages, you ask. They operate mostly in the secondary mortgage market.

Here's how they work. Every financial institution, like your bank for instance, has requirements set by the government as to how much liquidity (cash on hand) they must maintain relative to how much money they owe or have loaned out. It is to their advantage to have someone else secure or gaurantee part of their debt so they can lend more money. Fannie Mae and Freddie Mac do this. As you can see, this increases the cash available for the whole country. More money is loaned, more houses are built, more furniture is bought, etc, etc, etc. This set-up is part of what has given us great prosperity.

Fannie Mae and Freddie Mac can charge less for their bonds (money to operate)than any other private company because they are backed by the U.S. government--big advantage. Fannie Mae and Freddie Mac have less liquidity requirements than anyone else--big advantage and now a big problem.

Liquidity requirements (the cash an institution has to have on hand) are based on how good it's loans are ... on average, how many loans would default. Now you see what is happening. Because loans were given out (mortgages, that is) to bad risks and many are failing, these two cartoon characters don't have enough cash on hand to cover the losses. Now, they expect the U.S. Government to give them some money so they don't fold altogether. Now please substitute "people of the U.S." for U.S. Government. It is our money they are asking for. It's a tough situation. We can't let these guys fail.