Mortgage industry calls for big changes at Fannie and Freddie

Trying to get out there first with a proposal for the future of Fannie Mae (FNM) and Freddie Mac (FRE), the Mortgage Bankers Association (MBA) is calling for Fannie and Freddie to be broken up into several smaller privately held companies that issue securities with an explicit government guarantee, not just an implied guarantee, according to a Wall Street Journal report.

The Obama administration has not yet issued its recommendations and they're not expected until next year. The Center for American Progress plans to issue its report on the future of housing finance this fall.

You can be pretty sure there will be a bit of a frenzy over what to do about the housing finance market as the government gets closer to making a decision. In today's marketplace, three key players -- the FHA, Fannie and Freddie -- buy 90 percent of new mortgage loans. The private mortgage marketplace has dried up. The U.S. government has propped up Fannie and Freddie with capital infusions totaling $96 billion plus almost ten times that amount through purchases of debt and mortgage-backed securities by the Treasury and Federal Reserve.

MBA wants to avoid any similar federal bailout in the future. It proposes that the new companies pay fees into a federal insurance fund that would guarantee interest and principal payments to bondholders if companies were unable to make them. This would replace the current system of assumed federal backing. Investors have lost confidence in the assumed federal backing and reduced their holdings of Fannie and Freddie debt.

MBA also wants the new smaller private companies to focus solely on the mission of mortgage creation, but not be allowed to hold large amounts of mortgages and securities, as Fannie and Freddie do now. Instead, the MBA calls for government agencies rather than the new companies to assume the mission of promoting affordable housing that Congress assigned to Fannie and Freddie.

Republicans want to end government conservatorship within 18 months, but Democrats haven't spelled out a time line for this process. They likely won't take a public stance until they get some word from the Obama administration, which won't be until next year.

In a related story, FBR Capital said Freddie and Fannie have no "underlying value" to justify the recent tripling in their share prices this month. Since their big jumps, both dropped by about 50 cents per share from Aug. 28 to the close of market on Sept. 1. On Aug. 28 Fannie closed at $2.04, but dropped to $1.59 at the close on Sept. 1. Freddie was at $2.40 on Aug. 28 and dropped to $1.90 at close on Sept. 1.

Lita Epstein has written more than 25 books, including Trading for Dummies.