Regulators lift caps on Fannie and Freddie

Not so long ago, the Bush administration rejected a proposal to raise the limit on how much the two government-chartered enterprises can hold in their portfolios, but a new move by the OFHEO does exactly that. As of October 1, Freddie and Fannie can increase their mortgage portfolios by up to 2% annually, and the caps on both are now at $735 billion, compared to $727 billion for Fannie Mae and $724 billion for Freddie Mac until recently. This is much less than the 10% Fannie asked for, and the company didn’t fail to mention this in its statement: “the more effective response, given the extent of the market disruption, would be to raise our portfolio cap by at least 10 percent so that we can more fully address the ongoing turmoil”.

Christopher Dodd, Chairman of Senate Banking Committee, also criticized the move as “timid and inadequate”, but some analysts fear that lifting the caps on the two GSEs in unwise. Indeed, the Fed already did a lot by cutting the Fed Funds Rate by half a percent, essentially flooding the market with money, so allowing Fannie Mae and Freddie Mac to purchase more loans would trigger another short-lived iteration of the housing bubble. Pulling at levers to find out what happens could be very costly right now, so why not leave the market to fix itself? The rate cut is quite a dangerous experiment already, watch how the economy behaves until the end of the year and then decide what to do next. Now that Fannie and Freddie got their caps lifted a little, I guess it’s best to leave them as they are for a while, because it may take months to see the results of this week’s actions.

The Fed cuts rates

We had some doubts, but finally the Fed did cut rates – by half a percentage point, to 4.75%. And what we have now is plenty of opinions on what’s next. According to economists, the Federal Open Market Committee (FOMC) is likely to cut rates again before the end of this year, at least by .25%. The next cut could happen as early as October, at the next Fed meeting. Analysts seem to believe that the rate cut will be only a temporary relief to mortgage lenders. For borrowers, interest rates may change little, or not at all, depending on their loan terms and the index their interest rate is pegged to.

For some, however, the new rate may bring a big improvement for their monthly payments. Bank of America, for example, reacted immediately on the news, cutting its prime lending rate. Rates on credit cards are expected to drop, too.

Investors fear that the rate cut will have a negative impact on the dollar and the bond market, potentially driving the economy into a recession. Gold and stocks rose significantly after the cut was announced.

In other news, Accredited Home Lenders and Lone Star have amended their merger agreement. The new price for Accredited stock is $11.75, well above its market value at the moment.

NovaStar no longer a REIT

NovaStar has decided not to distribute a $157 million dividend related to its 2006 income. As a REIT (Real Estate Investment Trust), NovaStar would have to distribute at least 90% of its income to shareholders, but the company is dropping its REIT status, thus losing some tax exemptions. The company is also in danger of suspension or delisting from the NYSE due to the change in its status, but officials said the company is “in continuing discussions with the NYSE”.

Back in February, NovaStar said it was considering dropping its REIT status, but this summer it announced plans to distribute dividends to satisfy REIT distribution requirements. The new decision suggests that those plans are no longer relevant. The termination of NovaStar’s status is retroactive, effective January 1, 2006.

Greenspan “didn’t really get” how dangerous the housing boom was

Former Fed Chairman Alan Greenspan’s statement sounds totally out of place, given his role in the Real Estate bubble we saw in recent years. This irresponsible attitude has received a lot of criticism already, but I think there should be more to come. We don’t usually expect words like that from someone who’s supposed to understand the economy and make sure that it’s doing well. Oh, in fact all was good indeed – for a while. This raises a number of questions, ranging from “What was he thinking when he said this in an interview?” – because he should have predicted the reaction – to “Is he lying?” – because it’s hard to believe he really didn’t understand what was going on. But I don’t have the answers.

As eyes turn toward Greenspan’s successor, current Chairman Ben Bernanke and the Fed, which will be making its decision on interest rates this week, there’s little doubt that a rate cut will be announced. Analysts are instead speculating on whether it will be a half-point or a quarter of a point cut. Whatever the Fed chooses to do will have a serious impact on the economy, even leaving the rate as it is will send important signals to the financial markets. I can feel the tension…

More job cuts in housing-related businesses

Forget about steady job growth, several mortgage lenders have announced further staff cuts, and this is no small news. Weaker employment might further curb consumer spending, resulting in a weaker economy altogether.

Lehman Brothers has eliminated 850 positions, as it downsizes in response to tough market conditions. It is closing its Korean mortgage business and renaming all its residential mortgage origination and servicing businesses “Lehman Mortgage Capital”. Countrywide is taking another round of lay offs, eliminating some 900 employees. The last time Countrywide announced job cuts was less than a month ago. Cleveland-based National City said it will lay off 1,300 employees and stop issuing non-conforming loans that can’t be sold to Fannie Mae and Freddie Mac.

A study by Challenger, Gray & Christmas concluded that the 85% surge in layoffs last month was primarily caused by lenders scaling back. Not a very encouraging statistic. In this relation, MarketWatch published a very interesting article about the Fed’s opinion on the current economic conditions. And I thought the guys at the NAR were too optimistic.

NovaStar makes the news

NovaStar was one of the first lenders to get hit by the subprime meltdown, but it hasn’t stopped making the headlines ever since stock prices started freefalling in February. The big news this time is that its auditor, Deloitte & Touche, warns the lender may be unable to continue operating as a going concern – i.e., it may have to close down, soon, joining the ranks of more than 100 mortgage lenders that imploded this year, no big surprise. In fact, NovaStar has done really well surviving this far.

NovaStar canceled a $101 million stock offering, because it figured that, given the current market conditions and its stock price, the offering wouldn’t be in the shareholders’ best interest. Christopher Brendler, an analyst at Stifel Nicolaus said NovaStar is “having trouble with cash flows”. Another analyst - Friedman, Billings, Ramsey‘s Scott Valentin - said NovaStar will probably have to liquidate with the proceeds “being used to pay creditors”, leaving nothing to common equity holders. The lender announced that it will be cutting 275 jobs and closing 12 retail lending offices, leaving it with a staff of 600 or so. At the end of last year, NovaStar employed more than 2,000 people. The company announced that it will be modifying its business model and focusing on managing its portfolio of securitized loans. NovaStar shares dropped 16% to $7.16 on the news.

FHA Secure – a kind of bailout plan for prime borrowers?

Late last week, President Bush unveiled a new FHA program, called FHA Secure – a plan that is supposed to help troubled borrowers. The proposal, however, received much criticism immediately, because of its narrow scope and stringent requirements for borrowers. The program will secure loans for borrowers who own adjustable-rate mortgages and want to refinance into a loan with better terms. To qualify, borrowers will have to prove they’ve made their monthly payments regularly until the interest rate reset, (or if it hasn’t reset yet, that they’re current with their payments) and have at least 3% of equity in their homes. The maximum loan amount the FHA will guarantee is $202,000, or $362,000 in high-cost states, which makes the program quite useless for many consumers. The number of loans in the program is limited, too, so the entire thing will only help a fraction of the homeowners facing foreclosure on their homes. According to analysts, up to 3 million households might lose their homes in 2007-2008 due to rising mortgage interest rates.