(Bloomberg) — Freddie Mac will send $4.5 billion to the U.S. Treasury in March as the mortgage-finance giant continues to prepare for the possibility of having zero capital by next year.
The company earned $4.8 billion in the fourth quarter, compared with $2.2 billion in the same period a year earlier, according to a regulatory filing posted Thursday. Net interest income, which includes the fees Freddie charges to guarantee mortgages, was $3.9 billion compared with $3.6 billion, the company said.
The earnings report is the first by the mortgage-finance giant since the ascension of President Donald Trump and newly-confirmed Treasury Secretary Steven Mnuchin, who has said he plans to tackle the overhaul of Freddie and sister-company Fannie Mae, which have been under U.S. control since 2008.
What Trump and Mnuchin decide to do with Fannie and Freddie could have huge ramifications for mortgage lenders, borrowers and private shareholders, who have been fighting for years for a share of the companies’ profits. The earnings report from Freddie along with Fannie’s, which is scheduled to come on Friday, are closely watched indicators of what paths to reform might be open to the Treasury Department.
Stable Market
In that vein, Freddie’s earnings in 2016 were solid but not as spectacular as those posted in some prior years. The company said its earnings benefited from a stable housing market and rising revenue from guarantee fees. Its income was also driven in part by a rise in long-term interest rates in the fourth quarter, which raises the value of derivatives the company holds.
Full-year earnings for last year totaled $7.8 billion, the company said, compared with $6.4 billion in 2015. In 2013, the company made more than $48 billion, after writing up certain tax assets that had contributed to losses during the downturn.
Its core single-family guarantee business had comprehensive income of $2.2 billion and multifamily lending business made $1.6 billion for 2016. The company’s investment portfolio, which the company has greatly reduced since the bailout, made $3.4 billion.
The company’s current operations are largely in line with how it would behave were it controlled by shareholders, Chief Executive Officer Donald Layton said on a call with reporters. Some shareholders have said Fannie and Freddie have been off-loading mortgage credit risk at poor prices to private investors over the past year, but Layton said Freddie would be taking the same approach if the company wasn’t under government control.
Taxpayer Draw
Freddie also shed half its remaining capital. The current terms of the U.S. government’s bailout agreement with Freddie and Fannie allow them to retain a $600 million capital buffer in 2017, down from $1.2 billion last year. The companies will have no capital buffer in 2018, meaning that any losses would require them to take a taxpayer draw. The companies still have a combined $259 billion in funding available from the Treasury if needed.
Freddie over the past year had been buffeted by rising and falling rates that affect the value of derivatives the company used to hedge against interest-rate changes. While accounting rules led the value of the derivatives to change every quarter, the value of the hedged assets didn’t change. That sometimes led to large profits or losses in a given quarter, though Freddie said it expected the effect to even out over time.
In the fourth quarter, market-related gains including the change in rates contributed $2.3 billion to Freddie’s income, the company said.
Hedge Accounting
Going forward, however, Freddie said it would switch to a different accounting method, called hedge accounting, in an attempt to minimize the impact of the mismatch. Hedge accounting allows companies to marry up the changes in values of derivatives and the hedged assets.
That’s similar to the way Freddie and Fannie accounted for their hedges more than a decade ago, until an accounting scandal led the companies to massive earnings restatements and forced out several executives. At the time, the companies’ regulator, and later the Securities and Exchange Commission, said company executives manipulated earnings to collect undeserved bonuses. However various actions and lawsuits over the ensuing years mostly settled for less than the government was asking for or were dismissed as judges ruled there wasn’t an intent to deceive investors.
Layton said in an interview that hedge accounting methods and practices had greatly improved and were now more accurate than they were a decade ago.
“The financial services industry and accounting industry took what was an uncertain field back then and have done a good job on it, so this is a well-trod path,” Layton said.
A spokeswoman for the Federal Housing Finance Agency, which regulates Freddie, said in an e-mail that the agency would monitor the company’s hedge accounting program through normal oversight.
Updates with Trump and Mnuchin plans starting in third paragraph.To contact the reporter on this story: Joe Light in Washington at [email protected] To contact the editors responsible for this story: Jesse Westbrook at [email protected] Gregory Mott
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