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Furthering Fair Housing, the Housing Finance System, and the Government Sponsored Enterprises

Furthering Fair Housing, the Housing Finance System, and the Government Sponsored Enterprises
2010Fair Credit/Fair Housing

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The Federal National Mortgage Association, known as Fannie Mae, and the Federal Home Loan Mortgage Corporation, or Freddie Mac, are secondary market entities chartered by Congress to provide liquidity and stability in the residential mortgage markets.2 These government sponsored enterprises (GSE) purchase homeowner and multifamily mortgage loans from lenders, who use the proceeds to make new loans. The GSEs either hold the loans in portfolio, or securitize the acquired mortgages into mortgage backed securities (MBS), selling shares of the right to the principal and interest payments to investors, and guaranteeing payment of the loans in the event the of default by borrowers on the underlying mortgages. They are both stock corporations. The GSEs also set national underwriting and appraisal standards for the conventional or “conforming” loans they purchase and securitize, based on characteristics such as borrower creditworthiness, loan-to-value ratios, the age of the dwelling, conditions in the market area of the loan location, and other factors. The underwriting standards are intended to facilitate consistency in prime mortgage loan products, promote efficiency in the market, and reduce costs for lenders and borrowers.

Enterprise business activities are not limited to the purchase of conforming loans and MBS issues, and risky business practices proved to be their undoing. Like other financial institutions, in the run up to the financial downturn, they traded in so-called private label mortgage-backed securities (PLS) backed by subprime mortgages. By mid-2007, PLS were made worthless by foreclosures. As financial conditions deteriorated, the value of the mortgages in enterprise securities portfolios declined precipitously with an escalation in conforming mortgage foreclosures. GSE capitalization levels began to drop below safety and soundness levels as enterprise debt outstripped the value of holdings.