Freddie Mac Profit Shows Taxpayer Bailout Risk Is More Remote

  • Freddie Mac had second-quarter profit of $993 million
  • Company will send U.S. Treasury $933 million in dividends

Freddie Mac swung to a profit in the first quarter and says it’s taking steps to avoid another taxpayer bailout in the near term.

The company said on Tuesday it made a $993 million profit in the second quarter thanks in part to steps it took to soften the impact of an accounting quirk. That wrinkle had caused losses in two of the past four quarters and raised the specter of another taxpayer bailout even as the company’s underlying business continued to strengthen.

The profit means that Freddie Mac will send the U.S. Treasury a dividend of $933 million, bringing the total amount sent to taxpayers to $99.1 billion. The government bailed out the mortgage company along with rival Fannie Mae in 2008, ultimately giving Freddie Mac $71.3 billion.

Freddie Mac and Fannie Mae don’t make mortgages. They buy them from lenders, wrap them into securities and make guarantees to investors in case borrowers default.

Rising Prices

Freddie Mac said on Tuesday that its core business remained strong, as home prices continued to rise and the job market was steady. In the second quarter, the company earned $3.4 billion in net-interest income, which includes the fees the company collects to back mortgages. That was about the same as it earned in the first quarter.

“Concerns about draws on Treasury support will diminish during the critical congressional session in 2017” if financial results are anything close to these levels, Jim Vogel, a strategist at FTN Financial, wrote in a note to clients.

Freddie Mac uses derivatives to eliminate the impact of rising or falling rates on the value of its investments, but because of accounting rules, the company appraises the derivatives at a different time than it values the hedged assets. That can cause large profits or losses over short periods, though Freddie Mac executives say the effect balances out in the long term.

The company said the rate movements caused losses of about $400 million in the second quarter, compared to losses of about $2 billion in the first quarter. In the second quarter of 2015, rate changes bolstered earnings by more than $2 billion.

Freddie Mac Chief Executive Officer Donald Layton said during a conference call with reporters that the company had completed several transactions this year that lessened the impact of rate changes on earnings.

Falling Buffer

Under the current terms of the mortgage companies’ bailout agreement, they must send almost all profits to Treasury and reduce the amount of capital they keep on hand each year. In 2016, Freddie Mac and Fannie Mae are each allowed to have a buffer of $1.2 billion, but that falls to zero in 2018.

That means a loss at either company, even if driven by an accounting quirk, could cause them to need more taxpayer funds.

Mel Watt, director of Freddie Mac and Fannie Mae overseer the Federal Housing Finance Agency, referred to the accounting issue during a speech earlier this year. He expressed concern that taxpayer draws could chip away at the $258 billion remaining in bailout funds and eventually cause investors to doubt the companies’ mortgage-bond guarantees.

Some consumer and housing groups have also said that another taxpayer draw could fuel certain lawmakers’ desire to eliminate the companies, known as the government-sponsored enterprises.

“FHFA should permit both GSEs to retain earnings and build a capital buffer in order to reduce the chances of a future draw on the Treasury line, with potential adverse consequences from hasty action by the current, or future Congress,” Glen Corso, executive director of the Community Mortgage Lenders of America, said in an e-mail.

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