Standard & Poor's Monday downgrade of the credit ratings of Fannie Mae and Freddie Mac, the nation's largest mortgage lenders, shook the housing market and contributed to plummeting stocks, but, ultimately, analysts say the market dive may just be a sideshow to the housing market's biggest risk—the weak economy.
S&P downgraded the massive government-sponsored enterprises from AAA to AA+.
But analysts have said the downgrade is just the latest domino to fall in the wake of S&P's decision on Friday to downgrade the nation's credit rating. The move set off rampant fear and speculation in the markets, but the overall effect on the housing market may even out as initial panic subsides.
S&P's Monday statement clearly blamed the downgrade on the direct reliance of the two mortgage giants on the federal government. “In addition to the implicit support we factor into our ratings, the U.S. Treasury has demonstrated explicit support by providing these entities with capital quarterly, as necessary,” the ratings agency said.
Fannie and Freddie, along with the Federal Housing Administration, guarantee about 90 percent of new mortgages. They were taken over by the government in September 2008 on investor fears that the companies might not be able to pay their debt. Today, the two GSEs have about $1.5 trillion in mortgages on their balance sheets and have received about $170 billion in taxpayer aid.
But, Peter Wallison, a financial policy fellow at the right-leaning American Enterprise Institute and a member of the Financial Crisis Inquiry Commission, said the downgrade will “not have any effect long-term on the mortgage market.”
In fact, Wallison said, the frenzied focus on the downgrade obscures the real issues at the heart of the ailing housing market: weak consumer demand and deep uncertainty over the state of the economy.
“I think we should stop focusing on mortgage interest rates, for goodness sake,” Wallison said. “People don’t have the money, don’t have the confidence, and aren’t sure whether the housing prices have reached the bottom—that’s why they’re not buying. It has nothing to do with the mortgage interest rates.”
Many independent analysts, including U.S. economist Patrick Newport at IHS Global Insight, echoed that caution.
Newport said IHS analysts expect the downgrade will ultimately only affect mortgage rates by a few basis points. The mortgage giants are no riskier after the S&P announcement than they were before, he said.
“My sense is that the real danger is the possibility that we may slip into a recession,” he said. “That could bring mortgage rates up and that would likely bring up default rates as well, but not the downgrade alone.”
It may be difficult to separate analysis of the two negative effects. Newport said IHS is expected to adjust its monthly economic forecast down to reflect two consecutive quarters of weak performance and growth in the United States.
But Newport cautioned that the lack of stability could have unexpected ripple effects across the market.
“[Fear] does have an impact and it could be a big impact,” he said. “It's just something that economists are not very good at measuring. Investors might place a premium on that. We could see more defaults down the line if the economy weakens.”