Many people believe, because the GSEs were placed into conservatorship in 2008, that Fannie and Freddie MBS cash flows are explicitly guaranteed by the US government. This is NOT THE CASE.

From the Fannie Mae MBS prospectus:

"We guarantee to the MBS trust that we will supplement amounts received by the MBS trust as required to permit timely payments of principal and interest on the certificates. We alone are responsible for making payments under our guaranty. The certificates and payments of principal and interest on the certificates are not guaranteed by the United States and do not constitute a debt or obligation of the United States or any of its agencies or instrumentalities other than Fannie Mae."

While that statement is pretty clear, there is still much confusion surrounding the status of GSE MBS cash flow guarantees. This confusion arose mostly because, in their baseline budget projections, the CBO accounted for the cost of the entities' operations as if they were being conducted by a federal agency.   To be very clear, in the baseline budget projection published on August 25, 2009 , the CBO treated mortgages owned or guaranteed by Fannie Mae and Freddie Mac as being loans or guarantees of the US government.

CBO's budget projections give the Congress a baseline against which to measure the effects of proposed changes in tax and spending laws. The CBO was PLANNING on the GSE's becoming a federal entity. Unfortunately the CBO does not make that decision, the Administration's Office of Management and Budget does by adding them to the Federal Budget.

The below statement is taken from a CBO report, released yesterday, titled CBO’s Budgetary Treatment of Fannie Mae and Freddie Mac.

The Administration has taken a different approach to recording the impact of Fannie Mae and Freddie Mac on the federal budget. In conjunction with the conservatorship,the Treasury signed agreements with the two entities intended to ensure that they could continue to support the mortgage market. In exchange for making direct cash infusions into the entities, the Treasury received shares of their preferred stock and warrants to purchase their common stock. The Administration’s Office of Management and Budget (OMB) continues to treat Fannie Mae and Freddie Mac as outside the budget, and it records and projects outlays equal to the amount of those cash infusions. As a result, the Administration has not included in its budget figures subsidy costs that would be directly comparable to CBO’s $291 billion estimate of such costs in 2009

Plain and Simple: GSE MBS cash flows are not EXPLICITLY GUARANTEED. They will not be EXPLICTLY GUARANTEED until the Administration's Office of Management and Budget adds them to the Federal Budget. Just because the CBO accounted for the GSE's as federal debt in ther projections does not mean the GSEs actually fall under the US government's fiscal responsibility.

Last night the CBO released this on their blog:

"CBO believes—consistent with the principles outlined in the 1967 Report of the President’s Commission on Budget Concepts—that it is appropriate and useful to policymakers to account for and display the entities’ financial transactions alongside other federal activities."


Yesterday in the process of discussing the Fed's eventual exit from the TBA MBS market, I explained that the first step to a smooth withdrawal was a much needed EXPLICT US GOVERNMENT GUARANTEE on Fannie Mae and Freddie Mac mortgage-backed securities.

"Given the already weak outlook for loan originations in 2010, it sounds like its going to take a major downturn in housing for the Fed to extend the MBS Purchase Program. One thing is for sure though, in order for the MBS market to continue providing funding for loan originators, the US government will have to EXPLICITLY guarantee agency MBS cash flow investments....By explicit guarantee I mean there is a line item on the Federal Budget that allocates funding for Agency MBS guarantees"

Yesterday afternoon this flashed across my newsfeed:


Larry Summers is the Director of the President Obama's National Economic Council by the way...

I have two objectives in sharing this information with you.

  1. Fannie Mae and Freddie Mac MBS cash flows are NOT EXPLICITLY GUARANTEED by the US government.
  2. If the OMB does add the GSEs to the Federal Budget, it will be the beginnings of the Fed making a move towards the mortgage market exits.

While the December 24, 2009 Treasury announcement hinted that the federal government will continue to drag out the current structure (READ MORE), if the OMB does make the change, there is going to be a huge political outcry. Do you think an implied guarantee is enough to allow the Fed's to exit the mortgage market in March?

We expect President Obama to release his FY2011 budget shortly after the first State of Union Address in late January/early February. We'll have a much clear indication of things to come once we see what the OMB does with the GSEs on the Federal Budget. WAIT AND SEE...