Asian and Middle Eastern central banks and sovereign wealth funds are increasingly anxious about the safety of their investments in the debt of Fannie Mae and Freddie Mac , despite the assurances of US government officials.
Spooked by US political wrangling, major investors including the National Pension Service of Korea and the Kuwait Investment Authority have sold out of their holdings of the debt of the US Treasury-backed housing agencies since the 2008 global financial crisis. Officials from central banks, including the Bank of Japan, say they will be far more cautious in future.
“The GSEs [government sponsored enterprises] are not safe,” said one senior official at an Asian central bank, who added that his institution was reluctant to sell its existing holdings because of fears of spooking the market.
Fannie and Freddie – which own or guarantee most US mortgages – were made wards of the Treasury just before the failure of Lehman Brothers in 2008. They have since been dependent on its financial support.
Many foreign investors are not reassured by the increasingly explicit US government guarantee, and are wary of the debt that the two housing agencies issue. The political fallout over the US debt ceiling this summer and the consequent Standard & Poor’s downgrade of US sovereign debt intensified fears that politics might derail the US government promise to guarantee the debt.
“We have become hostage to the irresponsible behaviour of politicians,” said Bader al-Saad, head of the KIA, in a New York speech last month. “What happened during the debt negotiations will make many countries think twice about the investment environment of the US.”
Investors are also worried that if the Federal Reserve keeps printing money, the value of the debt will fall in terms of their own currency, a calculation that dollar-based investors do not have to make.
The Council on Foreign Relations think-tank released a study in July showing that purchases of Fannie and Freddie debt by the central banks of Brazil, Russia, India and China had declined.
“At the peak, Asian central banks accounted for 40-50 per cent of the purchases,” said a senior analyst at one major Wall Street firm, referring to the period before the global financial crisis hit in 2008. “Today, it is between 10 and 20 per cent.”
Since its peak in mid 2008, foreign central banks holdings of GSE debt have fallen 26.4 per cent to $724bn today, according to Bloomberg research.
The Federal Housing Finance Agency which regulates Fannie and Freddie, has tried to reassure investors saying they would have recourse to the Treasury in the case of any default.
But data from Credit Suisse shows a material change in the appetite, which dropped markedly from July. For example, Asia took only 3 per cent of $4bn of 5-year Fannie debt issued in August at a spread of 35.5 basis points over Treasuries, a relatively wide level, compared to earlier this year.
Even though Asian and Middle Eastern investors are buying less Fannie and Freddie debt, the price of the bonds does not reflect their fears of the risk. Fannie and Freddie debt trades at a very narrow spread to Treasuries. But analysts said market prices have been skewed because of Fed involvement. During the first round of quantitative easing in 2009, for example, the Fed bought more than $175bn of GSE debt in the secondary market. Former Fannie Mae officials and other people familiar with the situation said the sellers of that debt were mostly Asian central banks.
One former Fannie official said the Fed buying “had a huge impact”, adding that spreads would have “widened substantially” otherwise.
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