This is the first of a series of articles that David Worley Fannie Mae will be writing to discuss the advantages and disadvantages of GSE reform. Having spent eight years as a senior executive at Fannie Mae, and with over 25 years of experience working in public financial institutions outside of Fannie gives David a unique perspective on the issue. He will be attempting to present all sides of the issues and let the readers make their own conclusions.
As most people know, Fannie Mae and Freddie Mac have two distinct lines of business, the Single Family business and the Multifamily Business. As the Chief Risk Officer of the Multifamily Business, David Worley was responsible for the commitment of capital, underwriting guidelines, the management of the ongoing performance of the portfolio and resolution of non-performing assets. His wife was a Director in the Single Family Business at Freddie Mac, having served in many parts of the business during her tenure.
Historically, Fannie Mae was created as a Government entity to provide liquidity in the fixed rate mortgage market. During the Johnson administration, Fannie was spun out of the government into a private company in order to shrink the balance sheet of the Federal Government. Later, in 1970, Freddie Mac was authorized by Congress to create competition for Fannie Mae.
The issues that have caused much debate about the two entities over the years are as follows:
- The companies were privately owned companies that used a government guarantee to backstop the mortgage backed securities they are selling, generating a competitive advantage over other private companies, which would like to compete in the space but do not have a government guarantee.
- The companies used the implied government guarantees to issue debt to fund the balance sheet keeping as many earning assets on the balance sheet as possible, not necessarily duration matched with the debt. This created what is known on Wall Street as a large “carry trade”. The implied government guarantee gave the companies an extreme competitive advantage over other financial institutions.
- The leverage ratio that the companies were allowed to operate with, (having to hold only 1% capital) not only gave the companies an extreme competitive advantage but put the companies and the financial markets at extreme risk in the event of a catastrophic downturn.
- The companies built lobbying machines second to none, which allowed them to bully politicians and regulators who were responsible for their oversight.
- The companies were known for paying large financial packages to political operatives who were placed into the companies into jobs that they had no credentials to perform.
- The regulatory body was weak and ineffective.
- The inherent conflict between being a private company trying to give the shareholders a return and being a tool of the government and politicians makes it tough to operate.
In the coming months, David Worley Fannie Mae will further discuss each of these issues plus other issues not generally known to the public. His discussion will be focused on where the companies were on these issues pre-conservancy and where they are post conservancy.