Federal National Mortgage Association (FNMA)
A United States Government Sponsored Enterprise (GSE) that expands the secondary mortgage market by securitizing mortgage loans in the form of mortgage-backed securities. Being a GSE, this is a company designed by Congress with the intent of enhancing the flow of credit to the economy. In short, this is done to make the capital markets more efficient.
Fannie Mae is now a publicly traded corporation, having gone public in 1968. It was originally part of the New Deal, created during the Great Depression. The goal is to enable lenders to reinvest more of their assets while also removing the dependence on local thrifts.
Business Model
Fannie Mae's business model centers around borrowing at low interest rates. It then takes the money and invests in mortgage loans or mortgage-backed securities.
The money is borrowed from the debt markets, in the form of bond issuance. This is, in turn, used to provide liquidity to mortgage providers by buying the loans. From here, the loans are then securitized by creating mortgage-backed securities. These investment products then are either sold or retained to generate a return for the corporation.
Since it is a GSE, Fannie Mae is required to purchase mortgages regardless of the economic condition. If the loan meets underwriting guidelines, the corporation must purchase it, thus providing liquidity. It is in keeping with the idea of protecting the mortgage market from freezing up due to lenders suffering from a lack of liquidity. By always creating a market, Fannie Mae ensures there is always an options for the banks and other financial institutions to sell their mortgages.
The corporation also profits 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 are willing to pay the fees to transfer the credit risk to Fannie Mae. This ensures the payments will be made even if the borrower defaults on the loan.
Traditionally, Fannie Mae only accepted loan of up to 80% of the property value. This meant that anything above this level required insurance to be accepted by Fannie Mae. They did engage in subprime buying during the Great Financial Crisis.
Liquidity
Fannie Mae purchases loans from approved mortgage sellers and securitizes them. When they are packaged into mortgage-backed securities, they are sold to investors on the secondary market, along with a guarantee that the principal and interest will be paid in a timely manner from the borrower.
The purchasing of the mortgages provides the banks and other financial institutions with liquidity to offer out new loans. By removing the existing mortgages from their balance sheets, banks are able to take the cash paid and increase their lending limit. This ensure there is liquidity in the mortgage market.
Conforming Loans
To be eligible for purchase, loans must conform to the standards established by Fannie Mae. This is done so a guarantee can be provided to the mortgage-backed securities it offers.
The biggest criteria is the loan limit. This is set by Office of Federal Housing Enterprise Oversight (OFHEO), which oversees both Fannie Mae and Freddie Mac. Each year, the regulator sets the loan limit based upon the average mean price for that year. Anything outside of this is a jumbo loan, which is considered non-conforming. For this reason, it is harder for banks and financial institutions to unload on the secondary market since there is no guarantee in place.
With jumbo loans, the originator will often charge a higher interest rate to make up for the fact the loan is likely to be carried on the books.
Guarantee And Government Support
Originally, Fannie Mae had a full guarantee from the government. This ended with the move to being a public corporation in 1968. At this time, Fannie Mae and Ginnie Mae were split, with the government guarantee going with Ginnie. Fannie became a true private corporation with no explicit guarantee or government backing. It does have a direct line of credit from the United States Congress.
Unlike other private corporations though, Fannie Mae was limited to engaging in the mortgage market only.
While there is no guarantee from the U.S. Government of payment of either principal or interest, there is an implicit guarantee. This does have its advantages.
The implied guarantee saves the corporation billions in borrowing costs. They also get a very high credit rating from this. It all stems from the belief that the Federal Government will not allow Fannie Mae to go under.
Capital requirements are significantly lower than other financial institutions. At the same time, money market mutual funds are prohibited from having too much of one holding in its portfolio. This is not the case with Fannie Mae. It can exceed the typical 5% threshold.
It is not unusual for a mutual fund to have the vast majority of its holding in Fannie and Freddie debt. This shows how it is viewed in a much different capacity by the regulators and government as compared to other private corporations.
Fannie Mae uses derivatives to hedge its cash flow. The primary vehicle is interest rate swaps along with options to enter interest rate swaps.
CEOs
- Hugh R. Frater (October 16, 2018–)
- Timothy Mayopoulos (2012–2018)
- Michael Williams (2009–2012 )
- Herbert M. Allison (2008–2009)
- Daniel Mudd (2005–2008)
- Franklin Raines (1999–2004)
- James A. Johnson (1991–1998)
- David O. Maxwell (1981-1991)
- Allan O. Hunter (1970–1981)
Canada Mortgage and Housing Corporation is the Canadian equivalent to Fannie Mae although that is not a private corportionat. It is owned by the state. This is wholly owned Crown Corporation of the Government of Canada. With over CA$290 billion in assets, it is the largest Crown Corporation.