Between 2004 and 2006, when subprime lending was exploding, Fannie and Freddie went from holding a high of 48 percent of the subprime loans that were sold into the secondary market to holding about 24 percent, according to data from Inside Mortgage Finance, a specialty publication. One reason is that Fannie and Freddie were subject to tougher standards than many of the unregulated players in the private sector who weakened lending standards, most of whom have gone bankrupt or are now in deep trouble.
During those same explosive three years, private investment banks — not Fannie and Freddie — dominated the mortgage loans that were packaged and sold into the secondary mortgage market. In 2005 and 2006, the private sector securitized almost two thirds of all U.S. mortgages, supplanting Fannie and Freddie, according to a number of specialty publications that track this data.
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Private sector loans, not Fannie or Freddie, triggered crisis | McClatchy
You think the subprime crack up was only three years in the making?
Wow
Fannie and Freddie set the standard for AAA and they're the once who gave subprime paper an AAA Rating.
No income? No Asset? Why sure you're AAA!
Fannie, Freddie and the Foreclosure Crisis
Fannie and Freddie purchased risky loan products. As pressure mounted on their market share, Fannie and Freddie increased their purchases of nontraditional, higher risk mortgages, including investments in Alt-A loans and in private-label securities. Alt-A mortgages are loans to borrowers with good credit but using nontraditional underwriting standards. For example, Alt-A loans often use no or limited documents of income and assets. Originally, this practice was implemented to accommodate self-employed borrowers, but it could also be abused. A Federal Reserve review states that 50% to 60% of Alt-A loans generally involves low documentation, but that share increased to 78% by the end of 2006.
Fannie MaeÂ’s 2008 Credit Supplement documents the weakened underwriting standards for loans purchased in 2005 and 2006 compared to earlier vintages. For example, Alt-A loans represented just 7.1% of mortgages from 2004 and earlier, but increased to 18.9% in 2005 to 2006. The prevalence of interest-only and negative amortization loans increased from 2.3% to 14.6%. Adjustable-rate loans increased from 8.5% to 14.9%.
Fannie and Freddie also started purchasing private-label mortgage-backed securities, inverting the process that had been in place for three decades whereby the agencies bought whole loans to securitize and sell to investors. According to FHFAÂ’s Annual Report to Congress, Fannie and Freddie purchased $5.7 billion in private-label securities in 1997, or about 4.8% of new issuance. The volume continued to grow in the 2000s, peaking at $221.3 billion in 2005. However, Fannie and Freddie never accounted for more than a quarter of private-label security purchases in a given year and that share was falling as yield spreads on private-label securities declined and real estate prices approached their peak.
Alt-A loans and mortgage-backed securities are investments that seemed low risk at the time, by virtue of high borrower credit scores or credit rating agency determinations. For example, the average FICO score on an Alt-A mortgage originated between 2005 and 2007 held by Fannie Mae is 715, a reasonably strong score. Similarly, while built on risky mortgages, Fannie and Freddie generally limited themselves to theoretically lower risk senior tranches of mortgage-backed securities. Fannie MaeÂ’s 2006 SEC filing states that over 90% of its private-label mortgage-backed securities as of June 30, 2007 were rated AAA by Standard & PoorÂ’s and MoodyÂ’s.
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Center for Community Capital
A Closer Look at Fannie Mae and Freddie Mac:
What We Know, What We Think We Know and What We DonÂ’t Know
Jason Thomas
Department of Finance
George Washington University
Robert Van Order
Oliver Carr Chair in Finance and Real Estate
George Washington University
March 2011
We explore the role of housing policy in the collapse of Fannie Mae and Freddie Mac, the role of Fannie and Freddie in subprime markets and the sources of their default losses. We do not find evidence that their crash was due much to government housing policy or that they had an essential role in the development of the subprime mortgage-backed securities market, which occurred outside of the normal mortgage origination channels and which was funded by non agency or “private label” securities (PLS). They did build a large portfolio of AAA-rated PLS, probably in response to affordable housing goals, but such investments were unlikely to have had much of an impact on subprime mortgage origination volume because the AAA pieces of PLS deals were not key to their completion. Nor were PLS a major part of their losses. Rather than brewing for a long time, their downfall was quick, primarily due to mortgage originated in 2006 and 2007. It had little to do with their much-criticized portfolios, and was mostly associated with purchases of risky-but-not-subprime mortgages and insufficient capital to cover the decline in property values.
