Banking: Freddie Mac shows underlying weakness in sector

It may be that some think the profits - and bonuses - at the remaining investment banks are obscene. But when they got bailed out, they not only stayed bailed out but knuckled down, turned around and paid back the loans much sooner than expected proving that, at their level, there was in effect a short term liquidity crisis and that the system works by providing lending of last resort.

But at the other end of the scale, where the vast majority of Americans live, things are not so rosy. And Fannie Mae and Freddie Mac are up to their armpits in quicksand and it's still sucking them down.

Yesterday, Freddie Mac admitted that it is still in deep trouble and banking (literally) on the idea that as one of the USA's largest - and most government-connected - lenders, it's too-big-to-fail. It's asked for a further USD10,600 million to stave of total collapse after a disastrous Q1. It told the SEC in its filings that it fully expects US house prices to decline with pockets of resistance to that fall. The problem is that Freddie Mac has a disproportionately low number of customers in the wealth bracket that buy in those pockets.

Translation: the value of the homes that the bank has as security will continue to fall, exposing the bank to further balance sheet risk.

The bank's target market - the purpose for which it was set up as a state sponsored institution - are those who have more difficulty in accessing credit. And that's going to get worse, it says, saying that unemployment rates are not expected to drop any time soon.

The double whammy of the expiry last month of the federal scheme to encourage homebuying plus an expectation that mortgage rates will increase this year means it will be "less affordable to buy." It doesn't state the obvious that it will also make it less affordable for some to continue to pay their existing loans.

And the general state of the housing loan market? Looking dodgy: the bank says that its loan book losses are "likely [to] remain significantly above historical levels for the foreseeable future due to the substantial number of borrowers in our single-family credit guarantee portfolio that currently owe more on their mortgage than their home is worth in today’s market."