Nov. 17 (Bloomberg) -- Fannie Mae raised $2 billion in its first long-term debt sale in two months, paying record yields over benchmark rates to attract investors.

The sale was split evenly between a reopening of five-year benchmark notes that priced to yield about 1.32 percentage point more than similar-maturity Treasuries, and three-year notes that paid a spread of 1.45 percentage point. The Washington-based company's last sale of debt maturing in longer than a year was on Sept. 10, four days after the government seized Fannie and smaller rival Freddie Mac and agreed to support their debt.

Fannie had to offer spreads today that were about double times what it paid in September to entice investors lured away by the U.S. government's plans to guarantee bank company debt and create competing investments that may carry a more explicit federal backing than for Fannie and Freddie.

``This is the testing of the waters'' said Ira Jersey, U.S. interest rate strategist for Credit Suisse in New York. ``My guess is that there will be some people continuing to question exactly what the future of Fannie and Freddie will be.''

The reopening today included 3.875 percent notes due July 12, 2013, and 3.625 percent notes due Aug. 15, 2011, Fannie said today in an e-mail statement. The new debt today each priced at an extra yield similar to the spread on notes outstanding.

Reflecting the weak demand for Fannie and Freddie debt, the sales sent spreads in both maturities wider, even while their notes in other maturities tightened. The spread on Fannie's 3- year debt widened about 0.14 percentage point to 1.44 percentage point as of 1:45 p.m. in New York, while its 2-year debt tightened about 0.02 percentage point to 1.44 percentage point.

Making it `Doable'

Spreads on Fannie's two-year notes surged as high as 1.58 percentage point on Oct. 30, compared with a five-year average before this year of 0.22 percentage point.

The reopenings, done via Internet auctions, allowed Fannie to sell its benchmark notes in increments less than the minimum size of $3 billion for new issues.

``They're keeping them in sizes that are doable,'' Margaret Kerins, an agency debt strategist at RBS Greenwich Capital in Greenwich, Connecticut, said today.

Fannie, which skipped a tentatively scheduled debt sale in October, raised a record $7 billion on Sept. 10. The sale followed the weekend announcement by Treasury Secretary Henry Paulson that the U.S. had seized Fannie and McLean, Virginia- based Freddie to reassure bondholders and aid the housing market amid growing losses at the companies.

Central Bank Holdings

The government takeovers led to record one-day drops in yields relative to benchmarks on the companies' notes, and those of the Federal Home Loan Bank system, the other largest seller of so-called agency debt. Fannie and Freddie have $1.7 trillion in debt outstanding. The home loan banks, the 12 cooperative lenders owned by U.S. financial companies with about $1.3 trillion in collective debt, have also seen their borrowing costs jump.

Foreign central-bank holdings of so-called agency debt and agency mortgage bonds -- mostly sold by Fannie, Freddie, Ginnie Mae or the FHLBs -- fell to $899.9 billion in the week ended Nov. 12, falling from a record $983.9 billion on July 16 as some investors questioned the U.S. backing and some sold down reserves to raise cash to support currencies, Federal Reserve data show.

``Many central-bank traders have told our investment banks that they themselves are very comfortable with this paper, but from a policy level, it raises doubts,'' Federal Home Loan Bank of Atlanta Chief Executive Officer Richard Dorfman said in an interview on Nov. 10, referring to U.S. agency debt. ``The trader tells you, `I'm not paid to take a bullet.''

Record Losses

This month, Fannie posted a record quarterly net loss of $29 billion, and Freddie reported a loss of $25.3 billion and said it planned to request $13.8 billion of the $200 billion in taxpayer capital that Paulson made available to support the companies. The Treasury is also offering the companies' unlimited lending through next year, which they haven't yet tapped.

Both companies noted their need to turn more to short-term borrowing in securities filings offered with their earnings reports. Each firm also said higher long-term borrowing costs were hampering their ability to buy mortgages and related bonds to support the housing market, as directed.

Fannie said in a Nov. 10 filing that it has ``limited ability to issue debt securities with maturities greater than one year,'' and that reliance on short-term funding has exposed it more to the risks in interest rate changes. The cost of using derivatives to manage those risks has also increased, it said.

Yield Spreads

``I don't know if an outright government guarantee solves the problem'' because U.S.-guaranteed bank debt will nevertheless be a competing investment, Kerins said, referring to a Federal Deposit Insurance Corp. program to back new debt issued by banks.

Fannie chose to issue debt in maturities with yields relative to benchmarks that had widened to a lesser degree than longer-term or shorter-term debt, Kerins said. Fannie's 3-year debt earlier today traded at yields 1.36 percentage point more than similar-maturity Treasuries and 0.19 percentage point more than interest-rate swaps, according to Bloomberg data.

Those spreads compared with premiums of 1.44 percentage point and 0.35 percentage point on its two-year debt. In the company's last long-term debt sale, Fannie sold two-year notes at a spread of 0.70 percentage point over Treasuries.

The appetite is low for Fannie and Freddie's unsecured debt that matures after the Treasury's backup financing expires at the end of 2009, Credit Suisse's Jersey said.

While traditional agency debt buyers will probably soon need to return to the market, uncertainty about the status and risks of government-sponsored enterprises is keeping them cautious, Dorfman said.

To contact the reporter on this story: Jody Shenn in New York at jshenn@bloomberg.net

Last Updated: November 17, 2008 15:18 EST