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Fannie Subpoenas to Show $30 Billion Bad Mortgages, Rosner Says

Fannie Mae and Freddie Mac’s regulator may identify as much as $30 billion of debt included in mortgage bonds that the companies can force sellers to repurchase, according to Joshua Rosner, an analyst who in 2007 predicted the collapse in the market for the securities.

The Federal Housing Finance Agency this month said it issued 64 subpoenas seeking loan files and other documents related to so-called non-agency mortgage securities bought by the two government-supported companies. The U.S. is trying to determine whether misrepresentations might require issuers to repurchase debt, producing funds from firms that may include Wall Street’s largest banks to help repay taxpayer money.

Rosner’s estimate of the amount of bad loans the FHFA might find doesn’t equal how much Fannie Mae and Freddie Mac may recover because banks can argue some misstatements weren’t “material,” the New York-based analyst at independent research firm Graham Fisher & Co. said in a telephone interview. At the same time, the move bolsters other investors’ efforts, he said.

“The most important thing is probably that the subpoenaed documents will support other private actions and other government-agency actions,” said Rosner, co-author of a May 2007 paper that said the failure of mortgage bonds would roil housing and financial markets. “It will cause a lot of unhappiness on Wall Street.”

Corinne Russell, an FHFA spokeswoman, declined to comment.

Fannie Mae, based in Washington, and McLean, Virginia-based Freddie Mac have already been forcing repurchases of loans they insure or hold directly at a pace drawing industry complaints. In the first quarter, the companies required lenders to buy back $3.1 billion, up 63 percent from a year earlier.

Boosting Reserves

In 2006 and 2007, Fannie Mae and Freddie Mac bought $227 billion of bonds backed by subprime or Alt-A mortgages, according to a report to Congress by their regulator. Those years produced the worst-performing non-agency securities, which lack guarantees from the companies or federal agency Ginnie Mae.

JPMorgan Chase & Co., Bank of America Corp. and Citigroup Inc. were among banks that reported adding to reserves for their representations on sold or insured mortgages as they announced quarterly results this month. JPMorgan Chief Financial Officer Michael J. Cavanagh said July 15 on a conference call that his New York-based bank had received an FHFA subpoena, probably along with “all the major broker-dealers.”

Alex Samuelson, a spokesman for New York-based Citigroup, and Rick Simon, a spokesman for Charlotte, North Carolina-based Bank of America, declined to comment.

Litigation Over Disclosures

The FHFA, which is tasked with limiting Fannie Mae and Freddie Mac’s losses after placing them into conservatorships in 2008, also oversees the Federal Home Loan Banks, the 12 government-charted cooperatives owned by U.S. financial firms.

At least three of the FHLBs have filed lawsuits against Wall Street firms for mortgage-bond disclosures, with the San Francisco FHLB in March suing nine dealers over $19.1 billion in securities. Similar lawsuits by other investors have been dismissed by judges before reaching discovery because bondholders failed to offer enough evidence of inaccurate information.

Mortgage servicers have hindered investors’ efforts to get debt repurchased by denying them access to loan files, citing a right to do so if they don’t own at least 25 percent of the deals, said Bill Frey, head of Greenwich, Connecticut-based securities firm Greenwich Financial Services LLC.

“The subpoenas will hopefully stop the silliness,” Frey, who sued Bank of America’s Countrywide unit in 2008 over its servicing practices, said in a telephone interview.

‘Fraud Involved’

Almost 38 percent of subprime mortgages contained in non-agency bonds are at least 60 days late, in foreclosure or already have been turned into seized property, according to Bloomberg data, which doesn’t cover liquidated debt. For loans deemed Alt-A because they fell between prime and subprime in terms of expected defaults, the figure totals almost 29 percent.

“With what’s happened in the mortgage sector, we realize there was a great deal of fraud involved,” William Sidford, a senior vice president at AllianceBernstein LP, which manages almost $200 billion in fixed-income assets, said July 15 at the Securities Industry and Financial Markets Association conference in New York. “That being said, investors aren’t in a position to enforce the claims on those reps and warranties, rather we’re relying on the trustees and servicers to take action for us.”

Those parties are often affiliates of the companies that would be forced to buy back bad loans, a conflict of interest that limits their actions, Laurie Goodman, an analyst at Amherst Securities Group, said at the conference.

“I’ve had situations where a flagrant fraud is flat-out ignored,” Frey said. “A couple of years from now, these subpoenas will be seen as the first concrete step toward the recreation of the U.S. mortgage market.”

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