How to Fix Fannie & Freddie

Today was absolutely brutal for the two government sponsored enterprises (GSE). Freddie posted a much larger than expected loss for their third quarter and possible concerns about liquidity were raised about the company.

I have mentioned this before in multiple postings but it is worth saying again. You will a huge credit crunch if Fannie and/or Freddie start having liquidity issues. Well, obviously that day is here.

Look at Countrywide, one of my favorite targets, it was also just bashed because they use Freddie Mac as one of their main investors in their loans.

I have been discussing recently how Fannie specifically has been tightening their requirements going into 2008. I was worried at the time that Freddie would follow suit by adjusting interest rates based on credit score only for loans above 70% LTV's on 20 & 30 year fixed rate mortgages. Freddie announced that the exact same changes, starting on the same date as Fannie.

But instead of complaining about all this. How do you position Fannie Mae and Freddie Mac to meet their requirements set forth by Congress to provide liquidity, stability, and ability to fulfill the American Dream? Here are some of my ideas.

1) 100% financing needs to be a thing of the past. As of right now. It is too much risk for these companies. It is too easy for a borrower who has fallen behind on the mortgage or knowing that their home value has declined to just walk away. Why stay? Why try? What do they really have in the home? At 100% financing, a borrower cannot sell the home through traditional means (i.e real estate professionals) because they would have to bring money to the closing to sell the house. And that is why they bought the home at 100% to begin with.

I know that I would not be popular and I would cut a large number of potential buyers from the market, but it would be for a long term good.

97% max LTV on purchase and limited cash out refi's. No EA levels. The loan is approved or denied, otherwise, old school 5% down payment. I would be ok with EA level loans (higher rate loans) on homes with more built in equity.

2) Elimate interest only loans and 40 year mortgages. Unless there is substantial amount of down payment. I would put the max LTV for these at 75%.

3) I have no problems with ARMs, if used correctly. 3 year would be minimum initial teaser period.

4) Change how jumbo loans are determined. Why is it that for the MyCommunityMortgage & Home Possible loan, Fannie and Freddie are able to limit how much income you earn for where you live...but no matter where you live the highest loan you can get is $417,000?

I can tell you, where I live....$417,000 is an absolute monster of a house. In California, New York, Boston, it's nothing. Change this. My area, the jumbo limit should be somewhere around $250,000. If we get bigger than that we say, "That's a big loan." Sounds like a jumbo loan to me. But if I am in San Francisco, a $650,000 or higher, (I don't know that market) would be more acceptable. My point is that it should not be a one size fits all scenario.

5) Don't judge interest rates on credit scores. It is unfair at best. Discriminating at worst.

These are just some of my personal ideas. I haven't a clue what is required to dig these two behemoths out from their depths. But if things get worse...nobody is going to be able to qualify for a mortgage loan...boy that will be fun.