PAUL AYOUB
No long-term impact
Two weeks after longtime Freddie Mac executives Leland Brendsel and David Glenn stepped down from their posts at one of the nation’s largest financial institutions, industry insiders predict the corporate compensation scandal will not affect the real estate industry, but say the investigations into Freddie Mac’s accounting will impact the company’s internal procedures.
Susan O’Donnell, banking expert and senior vice president at Clark/Bardes Consulting in Duxbury, said it is too early to tell what long-term effect the investigations will have on the mortgage industry.
“I take the position that it is too early to tell [what will happen]. Certainly anything of this importance could grow and escalate to significant proportion. But we don’t know what will be found,” said O’Donnell. “If it is a bit of ‘creative accounting,’ that may temporarily impact their business, I don’t believe it will shatter the mortgage business. Mortgage bankers, however, are watching this closely and may be a bit worried. From a larger economic perspective it will certainly have an impact on investors and businesses with stock in Freddie, but I don’t think they will ever go under like Enron did.”
On June 9, Freddie Mac’s board forced out its top executives, accusing them of hindering an accounting investigation and alleging that Chief Executive Officer and President David Glenn altered and ripped out pages of his notebooks before handing them over to investigators looking into the government-sponsored company’s accounting practices.
The news affected Freddie Mac’s stock price, which fell $9.61 – about 16 percent – to $50.26 a share last week, which has caused industry insiders concern about the possible impact on the housing market.
“In the long term, I believe [the resignations] will have no impact on [the industry]. While the spread and yields from the [U.S.] Treasury [bonds] to the guaranteed bonds may increase, that increase is slight for now, and that will affect the profitability of Freddie – but that factor alone will not translate to higher interest rates or less availability of residential mortgages,” said Paul Ayoub, partner in the Real Estate and Finance division at Boston’s Nutter McClennan & Fish law offices. “However, internally it will affect their pricing and profitability.”
While the investigations into the excessive stock compensation continue, bank consultants and industry officials in the Bay State are still producing loans and going about business as usual, but with a watchful eye.
‘Totally Dependent’
Although homebuyers almost never have direct contact with Fannie Mae or Freddie Mac, the availability of mortgages provided by the two firms is important to mortgage professionals. According to the U.S. Department of Housing and Urban Development, $2.1 trillion worth of single-family-home mortgages were made in the United States in 2001. During the same year, Fannie Mae and Freddie Mac together bought $960.5 billion of them, or 46 percent. Freddie and Fannie raise the money to buy those mortgages by selling bonds and reselling mortgages they’ve bought in the form of securities.
Wil Sheehan, financial services expert and senior vice president of Clark/Bardes Consulting in Duxbury, said the scandal would not affect the mortgage industry. And while banks recently have avoided media attention on their accounting practices – unlike the scandals of Enron, Andersen Consulting and WorldCom – Sheehan suggested that banks review their current compensation packages for senior executives. Investigators have speculated that stock-performance-based conmensation for the two Freddie executives may have provided the motivation for questionable accounting practices.
“The industry is so totally dependent on Freddie Mac that the residential real estate business would come to a screeching halt if Freddie were disabled,” said Sheehan. “The abuses that have been reported relative to corporate America have occurred within the financial industry but more at the Wall Street end, but banks have seen very little executive abuse.”
Sheehan credits banks’ sound executive compensation packages to the fact that bankers and their boards of directors are innately conservative, because banking is a highly regulated business and banks have a heavy audit presence with independent audit committees on bank boards.
“Freddie Mac is unraveling [internally] as we speak … executive compensation has been blamed for the behavior we’ve seen,” said O’Donnell. “Stock options have generated a breed of behavior to short-term thinking of ‘how do I get the stock price up,’ and that drives inappropriate behavior … but smaller banks and financial institutions do not have the same access to stock options that other organizations do.”
As the House Financial Services Committee plans hearings on the regulatory oversight of Freddie and Fannie, industry officials said any small change in how investors view them could have big implications for the markets in which they operate.
“Time will tell if it affects anything, and we hope it won’t affect the affordable housing aspect,” said Thomas M. Callahan, executive director of the Massachusetts Affordable Housing Alliance.
Kevin Cuff, executive director of the Massachusetts Mortgage Bankers Association, said, “Freddie Mac has been a longstanding partner within the mortgage industry and with this association, and they remain such. Like the general public, however, we continue to monitor the developments as they unfold and we strongly believe that the agency is strong enough to continue to effectively fulfill its mission in providing access to homeownership.”
While Freddie Mac’s rating has declined, industry insiders remain optimistic that further investigations will not affect the mortgage business.
O’Donnell said, “In reality, I just can’t imagine Freddie Mac becoming non-functional, particularly at this economic time.”
