Freddie Mac And Fannie Mae Bringing Fear To Investors

Yesterday, former St. Louis Federal Reserve President William Poole was quoted by Bloomberg as saying Freddie Mac and Fannie Mae were insolvent, followed by reports that the Bush administration was working on a possible bailout—the culmination of a very bad day for the two companies. Freddie saw their shares fall 23.2 percent, and Fannie’s shares shed 15.4 percent. The government will certainly come to the aid of the two companies if push comes to shove, but there is speculation that a government bailout could leave shareholders with little to nothing according to the Associated Press.

I’ve been harping the potential fallout of a Freddie and Fannie failure for some time, and it is a scary to contemplate. A failure of one or both of these companies would have serious consequences in the real estate market, the economy and of course tax payers. Some estimates have put the price tag on a potential bailout at over $1 trillion. With the current state of the economy as well as the national debt (over $9.5 trillion) this is a number that could cripple us.

Now that I have painted this doom and gloom picture, you should know that most people still think a bailout is unlikely. Here is a quote from a Wall Street Journal article this morning: “The government doesn't expect the entities to fail and no rescue plan is imminent. Government officials and market analysts expect both companies will be able to raise large amounts of capital relatively easily.” The two companies have been raising billions of dollars in additional capital to shore up their balance sheets, and analysts believe that they will continue to do just that if necessary. This strategy will dilute the holdings of existing owners of the company, but it appears to be the best strategy at this time.

I’m certainly not daring enough at this stage to invest in Freddie Mac or Fannie Mae, and though I do think the chances of a government bailout are increasing I don’t think it is the most likely scenario. Readers of this blog know that I like to plan for the worst and hope for the best, and I think this falls right in line with that. I’m starting to consider what might happen if the two giants were to fall, and specifically how it would affect my investments. I wouldn’t take any drastic measures at this point, but it doesn’t hurt to have a plan, just in case.