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Stock return and interest rate risk at Fannie Mae and Freddie Mac

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  • Frank A. Schmid
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    Abstract

    Fannie Mae and Freddie Mac are government-sponsored enterprises (GSEs) with the stated objective of promoting home ownership by improving the availability of mortgage financing for private households. These enterprises engage in two separate and distinct lines of business: (i) assembling and marketing pools of mortgages on which they guarantee the timely payments of principal and interest and (ii) purchasing mortgage assets for their own portfolio, mostly funded with debt securities. This article examines the sensitivity of the returns on GSEs' equity shares to realizations of interest rate risk. The study shows that the market value of Fannie Mae's and Freddie Mac's equity is vulnerable to increases in short-term interest rates and changes in the term spread (the difference between the long-term and short-term interest rates).

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    File URL: http://research.stlouisfed.org/publications/review/05/01/Schmid.pdf
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    Bibliographic Info

    Article provided by Federal Reserve Bank of St. Louis in its journal Review.

    Volume (Year): (2005)
    Issue (Month): Jan ()
    Pages: 35-48

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    Handle: RePEc:fip:fedlrv:y:2005:i:jan:p:35-48:n:v.87no.1

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    Related research

    Keywords: Stock market ; Government-sponsored enterprises ; Mortgage loans;

    References

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    1. Merton, Robert C, 1974. "On the Pricing of Corporate Debt: The Risk Structure of Interest Rates," Journal of Finance, American Finance Association, vol. 29(2), pages 449-70, May.
    2. W. Scott Frame & Larry Wall, 2002. "Fannie Mae's and Freddie Mac's voluntary initiatives: Lessons from banking," Economic Review, Federal Reserve Bank of Atlanta, issue Q1, pages 45-59.
    3. Wayne Passmore, 2003. "The GSE implicit subsidy and value of government ambiguity," Finance and Economics Discussion Series 2003-64, Board of Governors of the Federal Reserve System (U.S.).
    4. W. Scott Frame & Larry Wall, 2002. "Financing housing through government-sponsored enterprises," Economic Review, Federal Reserve Bank of Atlanta, issue Q1, pages 29-43.
    5. W. Scott Frame & Lawrence J. White, 2004. "Emerging competition and risk-taking incentives at Fannie Mae and Freddie Mac," Proceedings 922, Federal Reserve Bank of Chicago.
    6. Cleveland, William S. & Devlin, Susan J. & Grosse, Eric, 1988. "Regression by local fitting : Methods, properties, and computational algorithms," Journal of Econometrics, Elsevier, vol. 37(1), pages 87-114, January.
    7. Dwight Jaffee, 2003. "The Interest Rate Risk of Fannie Mae and Freddie Mac," Journal of Financial Services Research, Springer, vol. 24(1), pages 5-29, August.
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