Freddie Mac is actually a nickname for the Federal Home Loan Mortgage Corporation. It was created in the 1970s to bring liquidity to the secondary mortgage market and to create a better borrowing environment for Americans. It does this by purchasing loans from lenders, bundling them and then reselling them as securities on the secondary market. The key element of this process is Freddie Mac guarantees the debt. It, in turn, makes money by charging a fee for doing so.
As long as the real estate market remains generally stable, Freddie Mac is fine. It moves so much money in the mortgage securities market that even a bump in the number of bad loans will not hurt it. As we all know, the current market represents more than a bump. This has resulted in concerns that Freddie Mac and other semi-government entities in the mortgage market might fail. Given the fact these entities essentially underwrite nearly half of all the mortgages in the country, such a result could very well collapse the banking industry. Obviously, the government does not want that to happen.
Most people view Freddie Mac as a solid company because it is backed by the government. This is actually incorrect. The federal government in no way guarantees the debts of Freddie Mac. The government simply created the entity and gave it a specific focus. The company is run by an independent board and the owners are anyone who wishes to buy shares on the stock market. The stock symbol for the company is FRE.
As the mortgage market has gone bad, the value of shares in Freddie Mac have dropped like the proverbial brick. This has resulted in many stockholders realizing clearly that the company is in fact not a government agency. From trading at a value in the $60 a share range in July 2007, it now trades in the $7 to $9 range only a year later. Simply put, it is a company in trouble.
Although Freddie Mac is not a government agency, there is no doubt it is critical to the liquidity of the banking industry. Its failure would be a huge blow and make the current housing slump look like chump change. The government has realized as much and done something extraordinary. It essentially opened up an unlimited credit line for the company through the Federal Reserve Bank of New York. While there should be no mistaking that this is effectively a bailout by taxpayers, it is the correct move to avoid even further damage to the banking industry.
Rumors of the demise of Freddie Mac are greatly exaggerated. The government simply can’t let it fail. To do so would be to take a jack hammer to the real estate market. By providing the company with an unlimited credit line, that is not going to happen.
Raynor James writes about common issues related to mortgage loans for FSBOAmerica.org.