Bad Accounting 101: Fannie Mae
Background on Fannie Mae
Fannie Mae is the common name of the Federal National Mortgage Association, also abbreviated as FNMA. It is one of two of America’s largest mortgage companies, along with Freddie Mac (Federal Home Loan Mortgage Corporation – FHLMC).1 Fannie Mae guarantees and purchases loans from mortgage lenders to help ensure families can buy new homes or refinance.2 Fannie Mae was founded in 1938 as part of Franklin Delano Roosevelt’s New Deal during the Great Depression. As borrowers began to default on mortgages during the country’s major downturn the government, led by Franklin D. Roosevelt and Congress, created Fannie Mae in order to buy the mortgages from lenders so as to free up the bank’s capital. Fannie Mae grew quickly over the years as it paved the way for banks to be able to offer loans to otherwise non-creditworthy borrowers. Then in 1968, as the government’s budget was pressed by the Vietnam War, President Lyndon Johnson removed Fannie’s debt portfolio from the government balance sheet and the government-sponsored enterprise was converted into a publicly traded company. Freddie Mac was then created primarily to compete with Fannie Mae so as to prevent a Monopoly.1
Cash used by Fannie to buy mortgages is raised from various sources including pension funds, mutual funds, and foreign governments. There is a common belief that Fannie and Freddie loans carry a guarantee that the government will not let either of these fail. Therefore, the two public companies dominate the mortgage market.1
Bad Accounting 101: Fannie Mae
In the early 2000’s, Fannie Mae used financial loopholes to adjust its books.5 It managed to keep derivative financial holdings off its income statements. As mortgage rates dropped during this time and prepayments on mortgages increased, this caused a decrease in the expected gains of Fannie Mae. In 2002, for example, Fannie recorded earnings of $6.4 billion, yet managed to keep $8.9...