It hasn't been an easy 12 months for Freddie Mac and Fannie Mae. Between earnings restatements, probes into accounting irregularities, and turmoil in the executive ranks, the pressure in Washington for some form of re-regulation of the government-sponsored enterprises (GSEs) has been unrelenting. Yet, in spite of numerous congressional hearings, it appears new oversight measures are neither likely to come soon nor be detrimental to investors in home builder stocks, say analysts.
While Franklin Raines, chairman and CEO of Fannie Mae, expressed a willingness before Congress to support new regulatory oversight, he has energetically resisted proposed changes to minimum capital and program approval requirements and other measures that would hinder the flow of mortgage capital.
"Our ability to innovate is crucial to many mortgage lenders. They feel free to develop new products to reach underserved communities when they know that Fannie Mae will purchase their innovative loans in the secondary market," Raines told the Senate Banking Committee during an October testimony. Fannie's reknowned connections on Capitol Hill have persuaded key laymakers and supporters that it is essential to ensure that "any new regulatory scheme does not disrupt the markets, the GSEs, or the flow of capital to housing," adds NAHB CEO Jerry Howard.
But a growing number of policy watchers believe that efforts to place new controls on the GSEs are doomed to failure, including one proposed by The American Enterprise Institute for Public Policy Research (AEI), a Washington, D.C., "think tank," which recommends privatizing Fannie Mae and Freddie Mac. "The only way to effectively protect the economy and the taxpayers is to separate the GSEs from the government--to privatize them fully by cutting their government links and their special privileges," says Peter Wallison, co-director of AEI's Financial Deregulation Project.
However, others contend that imminent danger just isn't there. According to Ryan Caldwell, investment analyst for Waddell & Reed, an Overland Park, Kan.-based mutual fund complex: "The GSEs have done a very good job in risk management." While they've been criticized for not having enough capital, "it would take a four or five standard deviation credit event in the housing market for them to see a substantial loss," says Caldwell.
The consensus view is that the probability of anything meaningful happening in the near term is low. "It's not an election year issue," says Caldwell. John Buckingham, president of Laguna Beach, Calif.-based Al Frank Asset Management and editor of The Prudent Speculator investment newsletter, agrees. "Housing is too important an issue to the electorate ... it would take some major doing to get GSE reform passed with the 2004 elections just a year away," says Buckingham.
What does this mean for home builder stocks? "I'm aware of the issues but not overly concerned," says Margaret Whelan, home building analyst at UBS Warburg. According to Whelan, "Both Greenspan and Bush are too focused on the benefits of homeownership and the stability it creates in the economy to let things get out of hand." Stephen Kim, home building analyst at Citigroup, agrees. "It is certainly an issue that we contemplate, but I think too much has been made of it," says Kim. "A sweeping change sufficient to alter earnings at the [home building companies] we cover is too unlikely to really worry about."
"Anything that curtails the availability of mortgage capital is not going to be very positive for the housing market," says Carl Reichardt, home building analyst at Charlotte, N.C.-based Wachovia Securities. Nevertheless, he emphasized that the investment thesis in the home building stocks is not completely dependent on the housing and mortgage markets.
Adds Buckingham: "There will always be naysayers on housing, but this has been one of the best growth sectors and I am betting it will continue to be so for at least the rest of this decade."