Trump Administration Wants to Privatize Fannie & Freddie

By Andrew Ackerman and Kate Davidson

WASHINGTON—The Trump administration said it would support returning mortgage-finance giants Fannie Mae and Freddie Mac to private hands, a development that could keep the companies at the center of the housing market for decades to come.

The principles announced Thursday represent a major reversal from what leaders of both parties over the past decade promised—to abolish the companies, which guarantee roughly half the U.S. mortgage market. The approach, which doesn’t require approval by Congress, would mark an important win for investors who have been betting politicians wouldn’t follow through on those promises.

Treasury officials said they would aim to privatize the government-controlled firms without making it tougher and more expensive for people to get mortgages. They generally avoided making specific policy recommendations on how to accomplish these goals in a report released Thursday.

They said they would work with federal regulators to flesh out the details on how to put Fannie and Freddie on a sounder financial footing as well as to curtail the firms’ roles in housing finance. The process could take years to implement and won’t affect existing mortgages.

“Our view is that the government footprint has become too big,” Treasury Secretary Steven Mnuchin said in an interview ahead of Thursday’s report. “There are people in Washington who are happy to leave this the way it is for another 10 or 20 years, and that’s not us. We feel an obligation to try to fix this.”

Fannie and Freddie don’t make loans but instead buy them from lenders and package them into securities that are sold to other investors. Figuring out how to refashion the companies remains the largest single piece of unfinished business from the financial crisis. The government assumed control of the firms in 2008 during the height of the crisis to prevent their failure, which officials’ feared would trigger a broader collapse in the housing market.

The report says the government would continue to backstop the companies after they are privatized, providing a line of credit in times of emergency, in return for a periodic fee.

If the administration follows through on privatizing the firms, they would essentially return to a status similar to before the financial crisis, with their effective duopolies intact, for lack of a better alternative.

Though privatizing Fannie and Freddie remains a top priority for the Trump administration, any steps to quickly curtail the government’s role in housing could prove disruptive to the housing market just as the 2020 campaign gets under way.

Treasury officials minimized the risks, saying privatization will be slow and incremental and that they won’t upend the availability of the popular 30-year fixed rate mortgage, a product ensured by Fannie and Freddie’s business.

It also could be hard to meaningfully shrink the firms’ housing footprint without affecting borrowing costs. The reason: If some mortgages are no longer bought by Fannie and Freddie, they would be bought by private investors who would demand higher interest rates because the loans wouldn’t have government backing. Such backing is enjoyed by Fannie and Freddie.

“Investors will be much pickier and charge more for the loans they are willing to invest in,” said Jim Parrott, a former Obama administration housing adviser who is now an industry consultant. “That’s not to say we shouldn’t consider reducing the government’s role in places, but we should be honest about its impact."

Left unresolved were several key questions, such as what to do with the government’s large stakes in the firms and how, exactly, to build up their capital so they can operate as private companies again.

Treasury included few specifics for shrinking Fannie and Freddie’s footprint in housing, though they suggested that their regulator, the Federal Housing Finance Agency, could limit the amount of multifamily mortgages that they are allowed to purchase.

Treasury also said FHFA should reassess whether the companies’ purchases of cash-out refinancings and loans for investment and vacation properties align with the firms’ core mission.

The department said the companies’ future activities could be limited as a condition for their continued reliance on a federal backstop. The firms would pay an “appropriately priced” periodic fee for that support.

Fannie and Freddie got into trouble during the crisis because they took on an increasing amount of risk while using their political clout to beat back attempts to force them to hold more capital. They amassed huge investment portfolios to profit from the difference between their lower cost of capital—a benefit of an implied federal guarantee because Congress created the firms—and the rates they could earn on mortgages.

In the early 2000s, Wall Street firms raced ahead of Fannie and Freddie by packaging larger quantities of riskier loans that often weren’t eligible for backing by the mortgage-finance giants. By 2005, Fannie and Freddie were losing market share and began loosening their own loan standards to compete, taking on more risks at what would later prove to be the worst possible time. By August 2008, Treasury officials concluded the firms didn’t have enough capital and feared what would happen if investors lost confidence in Fannie and Freddie.

In September of that year, the government seized the companies through a process known as conservatorship, during the George W. Bush administration. In return for injecting about $190 billion into the firms, the government created a new class of stock—senior preferred shares—that paid an annual 10% dividend, along with warrants to acquire nearly 80% of the firms’ common stock. The Treasury revamped its bailout agreement in 2012 to require nearly all the firms’ profits be swept to the federal Treasury in lieu of dividend payments on those preferred shares. Some investors filed suit over the change.

Trump administration officials say they are compelled to act because the conservatorship was meant to be temporary. They also say the government should cease playing a central role in housing, a massive sector that touches on some 15% of the economy.

In recent years, Fannie and Freddie’s strong profits have more than made taxpayers whole for the federal money they received after the crisis.

Washington’s about-face will come as little surprise to market participants who for years predicted that efforts to replace Fannie and Freddie, which together back around half of all outstanding mortgages, would prove too difficult. But the shift nevertheless illustrates one way in which ideologues appear to have lost ground to market realities.

While Treasury’s report envisions Congress passing legislation to refashion the nation’s $10 trillion mortgage market, that is a heavy political lift as the 2020 campaigns get under way—rarely a window for sweeping bipartisan change in Washington. Current and former administration officials concede Congress is unlikely to tackle the issue.