Journalists Cover Every Step of Fannie Mae's Fall

By Vandana Sinha
October 8, 2004 09:14 AM

Once again, headlines screech of sketchy accounting, this time at the mortgage agency Fannie Mae, and business reporters are determined not to miss this story.

Instead, they are finding themselves less forgiving of corporate malfeasance after giants like Enron and WorldCom stomped on the very notion of accounting ethics. Even as Martha Stewart readies herself for a jail cell and recently fired PeopleSoft CEO Craig Conway admits to lying to Wall Street about his company's health, business reporters turn their focus to the financial foibles of mortgage-buying cousins Freddie Mac and Fannie Mae.

But reporters must keep that focus from getting fuzzy when it comes to explaining how these complicated companies operate and where their missteps might have occurred.

On the whole, "Reporters don't understand what Fannie and Freddie do," says Ilyce Glink, a syndicated columnist with the Tribune News Services, who covers real estate. "They understand on the surface," when it comes to buying mortgages from lenders, she says, "but they don't understand the vast amount of hedging these companies do. They bundle these mortgages into securities and sell them abroad."

The Office of Federal Housing Enterprise Oversight, the agency that regulates Fannie Mae, recently released a report that several stories describe as "scathing." It cites earnings manipulations that included a "cookie jar" of money used to smooth out quarterly shortfalls and a delay in reporting expenses to allow executives to pocket generous bonuses a few years ago.

Without admitting or denying the charges, the company quickly entered into an agreement with OFHEO to pump up its cash reserves and change some accounting practices.

While that's the more serious -- and recent -- of the two, Freddie Mac also underwent problems of its own last summer, when its own board's investigation turned up shady accounting that seemed to smooth out the value of its derivative contracts.

Freddie's leaders, including its CEO, were forced out, and an investigation remains open. The Securities and Exchange Commission opened an informal investigation on Fannie Mae, and The Wall Street Journal reported that the Justice Department has unleashed a federal criminal investigation, no doubt causing Fannie's own top executives to tighten their grips on their own office chairs for fear of losing them.

But the stories about the scandal show how complicated these companies are to cover. Reporters are having to explain how complex financial practices like "derivatives" and "hedging" fit into everyday home mortgages. (See BusinessJournalism.org glossary for more on those terms.)

Glink suggests consulting with an accounting expert who can break down the risks and gains the company faces and to point out the more poisonous moves in its alleged book-cooking.

And the biggest challenge remains bringing the news, literally, to the homes of average folks. "It all comes down to individual consumers and mortgages. What would be the impact on them?" she asks. "What are we talking about -- just misleading the public, or more?"

Newsday took the Q&A tactic, and outlined what effect the Fannie news would have on homeowners. Quoting experts, the answers assured readers that they can still enter into mortgages safely, though if the two mortgage giants went belly-up, that would shake the entire housing market and taxpayers would likely pick up the bill if Congress bails them out.

The OFHEO-Fannie Mae agreement to boost its reserves had many reporters mulling over how that would affect the mortgage market and interest rates. Today, Fannie and Freddie have purchased or guaranteed almost half of the country's home mortgages from traditional lenders. If one or both government-chartered companies slash the number of mortgages they buy to raise more money, then first-round lenders would have fewer dollars to spare for new homebuyers.

That scenario is played out in a column by San Francisco Chronicle reporter Kathleen Pender, who writes "If Fannie, the nation's largest buyer of home mortgages, scales back its purchases or turns into a net seller, simple economics tells you mortgage rates could rise. … Others say the impact will be much less and could even be zero, especially if long-term interest rates remain low. But nobody is saying the Fannie-spanking will be good for mortgage rates."

Glink speculated that a housing market collapse is unlikely -- seconded by Washington Post columnist Steven Pearlstein, who reminds to add perspective to these stories: "Fannie Mae is not a financial house of cards," he wrote. "It is a highly profitable business with a solid balance sheet and sophisticated risk management." Still, Glink says, these questions are crucial to ask.

In his column Tuesday, Chris Lester, the assistant managing editor for business at The Kansas City Star, leans more to the dire side. He says Fannie Mae's accounting debacles "may yet turn out to be biggest threat we have to economic stability."

He translates that threat into a simple, but powerful, statement for homeowners: "The accounting issues involved in Fannie and Freddie are incredibly complex, even for an accountant. The mere mention of derivatives makes my head hurt.

"But the upshot is this: If Fannie and/or Freddie seriously stumble, whether it's due to simple mismanagement or malfeasance, the average American could catch it coming and going. Not only would there be a threat that the mortgage market would seize up, potentially undermining property values and possibly the entire economy, but taxpayers would likely be on the hook for a government bailout that could make the savings and loan bailout look cheap."

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Copyright © 2008 Donald W. Reynolds National Center for Business Journalism