The worst is yet to come for mortgage bonds as more holders are forced to sell the securities in a falling market, Freddie Mac Chief Executive Officer Richard Syron and investors James Chanos and Marc Faber said.
“Unfortunately I don’t think we have hit bottom,” Syron, whose company is the second-largest source of money for home loans behind Fannie Mae, said in an interview yesterday from McLean, Virginia. “Things are going to get worse.”
The extent of the declines in bonds backed by home loans to borrowers with limited or poor credit histories is being masked by investors’ reluctance to buy or sell the securities, said Chanos, president of New York-based Kynikos Associates. When Bear Stearns Cos. was forced to bail out two hedge funds in the past month after bad bets on subprime mortgage bonds, “the banks went out of their way so they didn’t have to liquidate” the bonds and establish a price, and instead refinanced them, Chanos said.
Moody’s Investors Service cut credit ratings on $5 billion of subprime mortgage bonds in the past two weeks, while Standard & Poor’s cut $6.4 billion. Fitch analyst Robert Curran said July 12 the decline in housing prices is “as intense, if not more severe” than it was earlier this year.
“The issue here is passing the hot potato,” Chanos said. “No one wants to give these pieces of paper up for cash because that is an actual transaction that people could point to as opposed to a refinancing or trying to finesse your way out.”
Defaults by subprime borrowers are at the highest in a decade, dragging down the value of homes and bonds. Those declines have helped increase borrowing costs and have become a “drag on the economy,” Syron said.
Moody’s, Standard & Poor’s and Fitch Ratings all warned in the past two weeks that the housing slump is broadening.
“There’s a lot more to come,” Chanos, who oversees $4 billion and specializes in short sales, said in New York. “What we’re seeing already is a spreading of the contagion.”
Freddie Mac’s Syron said he was concerned enough to talk to Federal Reserve Chairman Ben Bernanke about declines in the subprime market.
“Ben is a friend of mine and I have talked to him about this,” Syron said. “It’s a very, very serious issue.”