Why Banks Are Dumping Fannie, Freddie Debt
By Andy Peters
The largest banks are dumping their holdings of Fannie Mae and Freddie Mac debt, and it’s contagious. It turns out small banks have been doing the same thing…. Big banks’ motivation is easy to pinpoint: the need to comply with recent federal liquidity regulations that are supposed to improve large financial institutions’ odds of withstanding the next financial crisis. What’s driving community banks to follow their lead is murkier since those rules do not apply to small players. Yet the impact on all banks is clear. Though the bond sales are lessening systemic risk in the eyes of regulators, they are cutting into profits at a time when banks are hard-pressed for growth. Meanwhile, Fannie and Freddie could see the cost of debt issuances rise if the drop in demand from banks remains pronounced. Fannie and Freddie debt traditionally has offered higher yields than other securities, but other factors have made them less desirable, said Karen Shaw Petrou, managing partner of Federal Financial Analytics. Since the passage of the liquidity coverage ratio requirement almost two years ago, many institutions have steadily unloaded ownership of debt obligations issued by Fannie, Freddie and other government-sponsored enterprises because of the way GSE debt is scored in the liquidity equation. The factors of concern to banks include how the quality of the obligations is judged, and their higher risk weighting, Petrou said. Those considerations, combined with other new rules meant to prevent banks from being overly leveraged, mean “the capital cost of [GSE] paper is generally higher,” she said.