Another Derivatives Loss at Freddie Mac

MarketWatch is reporting Losses on derivatives hit Freddie's results

Losses on its derivatives portfolio and a widening credit spread teamed to deliver a hit to Freddie Mac's first-quarter results, with the mortgage-finance giant reporting Thursday a loss of $211 million. The McLean, Va.-based company's per-share loss amounted to 46 cents a share, compared to earnings of $2 billion, or $2.80 a share, recorded in the first quarter a year ago.

The latest quarterly results include losses of $1.2 billion reflecting the impact of declining interest rates on the company's derivatives portfolio. A year ago, Freddie recorded a gain of $742 million. Total revenues were just $424 million for the March quarter, compared to the prior year's $2.5 billion.

Thursday's results mark Freddie Mac's return to regular quarterly financial reporting. The company hasn't been current on its results since 2002, following an accounting crisis in which it said earnings were misstated to the tune of about $5 billion for 2000 through 2002.

Both Freddie Mac and Fannie Mae its larger sibling, are government-sponsored enterprises that buy mortgages from banks. By buying the mortgages, they pump liquidity into the lending market, enabling banks to make more loans.

Declining Rates?

Freddie Mac is blaming declining interest rates for the problem?! Let's Take a look at declining rates. Click on chart for a better look.



The chart shows the only rate that is declining is at the very short end of the curve (the 3 month treasury). Even then I need to point out that the $IRX is a discount and not a yield so the spread shown is almost but not quite as big as shown. So is a steepening yield curve not good for Freddie in general or just for the way they are currently hedged?

Margin Calls at Bear Stearns?

Bear Stearns is raising cash for margin calls and redemptions.

A hedge fund managed by Bear Stearns Cos. Inc. is scrambling to sell large amounts of mortgage-backed bonds in a potentially troubling sign for the broader mortgage-backed bond market, The Wall Street Journal reported in its online edition.

Bear Stearns' High-Grade Structured Credit Strategies Enhanced Leverage Fund is facing losses and, together with a sister fund, is trying to sell about $4 billion in bonds to raise cash for redemptions and to prepare for likely margin calls, according to the report, which cited people close to the fund.

Market sources told Reuters on Wednesday that Bear was aiming on Thursday to sell $3.8 billion of asset-backed securities backed by subprime loans. Bear Stearns was not immediately available for comment. Bids for the bonds, many of which are backed by risky subprime mortgages, are due on Thursday, shortly after Bear reports quarterly results. The fund could be shut down if the sale is not a success, the Journal reported.

Perhaps it's not the hedge fund that should be shut down but Bear Stearns itself for misrepresenting the value of those CDOs it was trying to unload. But he odds of that happening are about 0% regardless of any improprieties they have committed. See Bear Tracks & CDOs and A Bear's Bath for more details on the debacle at Bear Stearns.

See Monte Carlo Simulation of CDOs for a discussion about conflicts of interest between rating companies and the deals they are involved in. In this case Bear Stearns is acting as a rating company and the deal maker with the deals stinking to high heavens.

Global Saving Glut

Also talking about interest rates today is Caroline Baum in Global Rate Increase Yields Haze of Explanations.

We in the media are forced to explain these events, often tripping over ourselves in the process. For example, on June 7 Treasuries came under repeated attack, sending the yield on the 10-year note up almost 20 basis points in a single session. The dive in note and bond prices was attributed to a surprise rate increase by the Reserve Bank of New Zealand.

"I've heard of butterflies flapping their wings, but the RBNZ driving the U.S. bond market -- that's a new one to me," said Warren Bird, head of fixed interest and foreign exchange at Colonial First State Investment Management, Australia's largest fund manager.

Whatever happened to the global saving glut? Did we spend it already?

The idea of a global savings glut was introduced by Federal Reserve Chairman Ben Bernanke in March 2005, when he was still a Fed governor. At the time, economists were trying to explain the persistence of low long-term rates even as the Fed raised its benchmark overnight rate by 425 basis points.

Hmm. Perhaps there was no global glut of savings in the first place and that indeed seems to be what Caroline is suggesting. See Global Savings Glut Revisited and In Response to Ben Stein (the later by Professor Succo) for a refutation of the global savings glut idea.

I would be remiss to not mention gold in discussions about the yield curve so I direct you to Lance Lewis's article Gold Bulls Get Defensive...For Now.

There is no doubt that this yield curve steepening is bad for all kinds of undercapitalized derivative players, but like the blowup in subprime lending, it's hard to get traction going when all anyone cares about is the latest IPO. And as long as there is funding, the party can continue.

Mike Shedlock / Mish
http://globaleconomicanalysis.blogspot.com/