Economics 434 Theory of Financial Markets

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Economics 434Theory of Financial Markets
Professor Edwin T Burton Economics
Department The University of Virginia
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Lehman, FNMA, FHLB

• The FRS and the banking system
• The demise of the investment banks
• Bear Stearns
• Now, Lehman
• Govt agencies (?)
• Fannie Freddie
• Sallie

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The Federal Reserve System

• The Federal Reserve Act of 1913
• Failed to act in 1930-1932 bank failure crisis
• Powers expanded in the 1930s
• The 1970s
• Paul Volker (1979 1987)
• Alan Greenspan (1987 2007)
• Ben Bernanke (2007 Present)

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The Demise of Bear Stearns

• The Summer of 2007
• Traded as high as 132 in January 2007
• Traded as high as 93 in February 2008
• 7th largest Ibank 350 Billion in assets
• March 16 Sold for 2 per share to JPM
• Revised March 23 for 10 per share
• FRS guarantees 50 billion in assets

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The other banks

• Citigroup 55 per share in May 07 Today 18.68
• Goldman Sachs 251 in Oct 07 Today 157.59
• ML 98 in Nov 06 Today 23.30
• MS 90 in May 06 Today 39
• JPM 53 in Apr 07 Today 40

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Lehman

• 391 Billion in Assets
• 368 Billion in Liabilities
• Book Value 23 billion
• Price in Apr 07 86 per share ( 60 Billion in
  net worth)
• Current Price 7.25 ( 5 Billion)

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Fannie Mae (the big daddy of the GSEs

• Federal National Mortgage Agency
• FNMA
• Created in 1938 to buy FHA loans, later VA loans
• 1968 converted into a private corporation
  (separated from GNMA)
• 1972 begins buying conventional mortgages
• 1982 begins buying ARMS and creates MBS business
• 1999 Conventional loan limit increase to 240K
• 2004 Conv loan limit increase to 333 K

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Freddie Mac

• Created in 1970 to compete with Fannie Mae
• FHLMC (Federal Home Loan Mortgage Corporation)

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FHFA (Federal Housing Finance Agency) takes over
FNMA, FHLBC

• Equity and preferred equity get nothing
• Debt holders guaranteed by US Treasury (includes
  subordinated debtholders)

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Economic Impact of Fannie/Freddie

• Sets mortgage rates lower than would be the case
  if provided by the private market
• Pushes private lenders to set mortgage rates
  lower than is prudent
• Subject to enormous political pressure
• Creates housing bubbles
• Mainly responsible for current financial crisis

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The End