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Freddie Mac Releases First Quarter 2007 Financial Results; Company Resumes Quarterly Reporting

For Immediate Release

June 14, 2007
Contact: corprel@freddiemac.com
or (703) 903-3933

Highlights

  • Net loss of $211 million, primarily due to mark-to-market losses on the company's derivatives portfolio and credit spread widening.
  • Fair value, before capital transactions, decreased by approximately $300 million, primarily due to credit spread widening.
  • Guarantee portfolio volumes showed strong growth, up 16 percent, and retained portfolio grew 6 percent, both on an annualized basis.
  • Company resumes quarterly reporting with release of first quarter 2007 financial results.

McLean, VA – Freddie Mac (NYSE:FRE) today reported a net loss of $211 million, or $0.46 per diluted common share, in the first quarter of 2007, compared to net income of $2.0 billion, or $2.80 per diluted common share, for the same period in 2006. The company also reported a decline in fair value of net assets attributable to common stockholders, before capital transactions, of approximately $300 million in the first quarter of 2007, compared to an increase of $1.0 billion for the same period a year ago. The declines in net income and fair value results were primarily due to losses on mark-to-market items.

"Throughout the first quarter of 2007 Freddie Mac continued to build long-term shareholder value by strengthening and growing our core business. Our credit guarantee portfolio showed strong growth in the first quarter and we seized market opportunities to grow our retained portfolio prudently. While the full impact of the housing downturn has not been felt, our credit position has remained strong relative to our historical levels and the market as a whole," said Richard F. Syron, chairman and chief executive officer.

"Freddie Mac continued to serve its vital housing mission by providing stability and liquidity to a national housing finance system facing considerable challenges," Syron continued. "I'm particularly proud that our company took a leadership role in the subprime mortgage market, announcing new underwriting standards and products and committing to purchase up to $20 billion in mortgages to support subprime borrowers."

"Earlier this year we promised to return to quarterly financial reporting in 2007, and with the release of our first quarter results today, we've done that," said Buddy Piszel, chief financial officer. "We're making measurable progress on our financial remediation program, and we are confident that we will be timely with our release of full year 2007 results within 60 days of year end. This positions us well to begin the SEC registration process in mid 2008. We're also pleased to have been able to continue returning capital to our shareholders through the repurchase of our common shares.

"While significant mark-to-market losses on our portfolio of derivatives, which are used to hedge our interest-rate risk, and on our credit guarantee activities have resulted in a GAAP loss, we remain encouraged with the underlying fundamentals of Freddie Mac's business," Piszel continued.

Worsening expectations for mortgage credit risk had an adverse impact on the company's GAAP and fair value results. The majority of this effect was due to mark-to-market losses associated with wider credit spreads on mortgage assets in the company's guarantee portfolio. Overall, Freddie Mac's credit guarantee portfolio continued to exhibit credit characteristics that were better than historical averages as measured by current delinquencies, loan-to-value ratio (LTV), and charge-offs.

Freddie Mac's regulatory core capital was estimated at $36.2 billion at March 31, 2007, which represented an estimated $2.0 billion in excess of the 30 percent mandatory target capital surplus set by the Office of Federal Housing Enterprise Oversight (OFHEO).

Fair value of net assets attributable to common stockholders was $25.4 billion at March 31, 2007.

Net Income

Three Months Ended
($ in millions, except per share amounts)
March 31, 2007December 31, 2006March 31, 2006
Net Income (Loss)
$(211)
$(480)
$2,009
Diluted earnings (loss) per common share
$(0.46)
$(0.85)
$2.80
Diluted weighted average common shares outstanding
661.4 mm
663.7 mm
694.6 mm

 

Lower net income, year-over-year, was primarily due to higher mark-to-market losses on the company's portfolio of derivatives and on the company's single-family credit guarantee business. Revenues generated by the company's retained portfolio and credit guarantee portfolio declined modestly from first quarter 2006, as a decline in net interest income was partially offset by increased management and guarantee income. Expenses increased mainly as a result of higher administrative costs associated with improving the company's internal financial reporting and controls infrastructure, and higher credit costs.

Three Months Ended
($ in millions)
March 31, 2007December 31, 2006March 31, 2006
Total Revenues
$424
$430
$2,478
Net interest income
978
973
1,131
Management and guarantee income
460
443
413
Other non-interest income (loss)
(1,014)
(986)
934

 

Net interest income totaled $978 million in the first quarter of 2007, compared to $1.1 billion in the first quarter of 2006. The average balance of the company's interest-earning assets increased, but was more than offset by a reduction in the net interest yield on these assets primarily attributable to the refinancing of long-term debt at higher contractual interest rates in 2006.

During the first quarter of 2007, the unpaid principal balance of the company's retained portfolio increased at an annualized rate of 6.0 percent to approximately $714 billion, as liquidations slowed and wider net mortgage-to-debt option-adjusted spreads (OAS) generally increased investment opportunities. In August 2006, the company and OFHEO announced that effective July 1, 2006, the company would begin managing the retained portfolio under a voluntary growth limit. The carrying value of the retained portfolio was approximately $9 billion below the voluntary growth limit at March 31, 2007.

Management and guarantee income on mortgage participation certificates (PCs) increased to $460 million in the first quarter of 2007, compared to $413 million in the first quarter of 2006. This increase is primarily due to a 14 percent increase in the average balance of outstanding PCs and Structured Securities, which was partially offset by a modest decline in the total guarantee fee rate.   

The company's total credit guarantee portfolio increased at an annualized rate of 16.1 percent to approximately $1.5 trillion at March 31, 2007. The company estimates that its share of government sponsored enterprise (GSE) mortgage securitizations for the first quarter of 2007 was approximately 46 percent, compared to approximately 45 percent for the first quarter of 2006.

During the first quarter of 2007, the company recorded mark-to-market losses totaling $1.2 billion on items included in other non-interest income (loss), compared to a mark-to-market gain of $742 million in the first quarter of 2006. These mark-to-market losses primarily reflect the impact on the value of the company's derivative portfolio of lower levels of implied volatility of interest rates and declining long-term interest rates in the first quarter of 2007, compared to the first quarter of 2006. Freddie Mac uses derivatives to manage interest-rate risk associated with the retained portfolio. The mark-to-market losses on derivatives are recorded immediately in the consolidated statements of income while mark-to-market gains on economically hedged items are not currently reflected on the company's GAAP income statement.

Three Months Ended
($ in millions)
March 31, 2007December 31, 2006March 31, 2006
Total Expenses 
$1,074
$922
 $584
Administrative expenses
403
445
373
Credit-related expenses (benefit)
193
124
(24)
Other non-interest expense
478
353
235

 

Administrative expenses totaled $403 million in the first quarter of 2007, compared to $373 million in the first quarter of 2006. Administrative expenses increased as additional employees were hired to support the company's financial reporting and infrastructure-related activities. Year-over-year administrative expenses, expressed as a percent of the average total mortgage portfolio, remained flat at 8.7 basis points.

Credit-related expenses, consisting of provision (benefit) for credit losses and real estate owned (REO) operations expense, were $193 million in the first quarter of 2007, compared to $60 million (excluding the reversal of Hurricane Katrina reserves of $84 million) in the first quarter of 2006. The year-over-year change primarily resulted from an increase in the company's provision for credit losses. This increase largely reflects deteriorating credit on 2006 mortgage purchases that have exhibited higher transition rates from delinquency to foreclosure and higher loan loss severities associated with slower home price appreciation and higher unpaid principal balances. Over time the company expects future charge-offs to increase from today's very low levels.

Included in other non-interest expense are mark-to-market losses of $314 million compared to losses of $67 million in the first quarter of 2006. These increased losses reflect the impact of lower market prices on non-performing loans purchased out of guaranteed securities, as well as the impact of higher expected credit and other costs reflected in the market-based valuations of the guarantee obligation associated with new single-family mortgage securitizations.

A portion of these mark-to-market losses reflects market uncertainty in the pricing of mortgage credit at March 31, 2007, and accordingly implies higher credit losses than the company expects to ultimately incur.

Capital Management

Estimated regulatory core capital was $36.2 billion at March 31, 2007, which represented an estimated regulatory minimum capital surplus of $9.9 billion, and an estimated $2.0 billion in excess of the 30 percent mandatory target capital surplus set by OFHEO. During the first quarter of 2007, the company issued $1.1 billion of non-cumulative, perpetual preferred stock and redeemed $0.6 billion of higher-cost non-cumulative, perpetual preferred stock.

Following the release of the company's full year 2006 financials, Freddie Mac initiated the repurchase of common stock in accordance with its authorization to repurchase up to an additional $1 billion of common stock in conjunction with the issuance of up to an additional $1 billion of non-cumulative perpetual preferred stock. In April, the company issued $500 million of non-cumulative perpetual preferred stock and through the end of May, repurchased approximately $750 million of additional common stock (approximately 11.9 million shares) at an average price of $63.23.

Fair Value Results

Three Months Ended
($ in billions, after-tax)
March 31, 2007December 31, 2006March 31, 2006
Fair Value Change (before capital transactions)
$(0.3)
$(0.2)
 $1.0

 

During the first quarter of 2007, the fair value of net assets attributable to common stockholders, before capital transactions, decreased by approximately $300 million, compared to an increase of $1.0 billion in the first quarter of 2006.

Attribution of changes in fair value relies on models, assumptions, and other measurement techniques that evolve over time. The following attribution is the company's current estimate of the items presented (on a pre-tax basis) and excludes the effect of returns on capital and administrative expenses.

Investment activities in the company's retained portfolio increased fair value by approximately $400 million during the first quarter of 2007. These estimates include reductions in fair value of approximately $300 million attributable to net mortgage-to-debt OAS widening. Asset and liability management activities and other market conditions contributed to investment returns above core spread earned on the retained portfolio.  

In the first quarter of 2006, investment activities decreased fair value by approximately $100 million. This estimate includes reductions in fair value attributable to net mortgage-to-debt OAS widening of approximately $700 million.

Credit guarantee activities decreased fair value by an estimated $1.2 billion during the first quarter of 2007. This estimate includes a reduction in fair value of approximately $2.0 billion primarily attributable to mark-to-market declines in the fair value of the credit guarantee portfolio. A portion of these mark-to-market declines reflects market uncertainty in the pricing of mortgage credit at March 31, 2007, and accordingly implies higher credit losses than the company expects to ultimately incur.

In the first quarter of 2006, credit guarantee activities increased fair value by approximately $1.1 billion. This estimate includes a decrease in fair value attributable to market changes in credit spreads of approximately $100 million.

Interest-Rate Risk Management

Consistent with its longstanding record, the company's interest-rate risk remained low. During the first quarter of 2007, the company reported that portfolio market value sensitivity (PMVS-L) and duration gap averaged one percent and zero months, respectively, unchanged on a year-over-year basis.

Internal Controls

Remediation of the material weaknesses and significant deficiencies in Freddie Mac's financial reporting process continues to be a top corporate priority in 2007. The company is continuing to make progress on a series of initiatives to improve its financial reporting infrastructure and remediate material weaknesses and other deficiencies in its internal controls. These activities are part of Freddie Mac's comprehensive plan for returning to timely quarterly financial reporting. Efforts made to date have resulted in a strengthened control environment.

The company has made significant progress in addressing its internal control issues. For example, it has addressed the material weakness related to the adequacy of its staffing by adequately filling the company's critical vacancies in areas related to controls and financial reporting. Additionally, the company has addressed the significant deficiency related to governance over new products processes by redesigning the process and controls over the implementation of new products.

Additional Information

For more information, see the Consolidated Financial Statements and Core Tables accompanying this release, the company's Information Statement Supplements, dated June 14, 2007, and the slide presentation that will be available on the Investor Relations page of the company's Web site at www.FreddieMac.com/investors.

Additional information about Freddie Mac and its business is also set forth in the company's Information Statement and Annual Report dated March 23, 2007 and related Information Statement Supplements, available on the Investor Relations page of the company's Web site at www.FreddieMac.com/investors. Printed copies of these documents may be obtained free of charge upon request from the company's Investor Relations department by writing or calling the company at shareholder@freddiemac.com, (571) 382-4732 or (800) 373-3343. Freddie Mac encourages all investors and interested members of the public to review these materials for a more complete understanding of the company's financial results and related company disclosures.

Announcement of Conference Call and Webcast

Management will host a conference call discussing today's announcement at 10:00 a.m. Eastern Time today. Domestic investors should call 1-888-276-0007 and international investors can access the call at 612-332-0107. The conference call will be webcast live on the company's Web site. A telephone recording of this conference call will be available continuously beginning at approximately 3:00 p.m. Eastern Time on June 14, 2007 until midnight on June 28, 2007. To access this recording in the United States, call 1-800-475-6701 and use access code 876643. Outside of the United States, call 320-365-3844 and use access code 876643.

This press release contains forward-looking statements pertaining to management's current expectations as to the company's future business plans, remediation initiatives, financial reporting timeline, results of operations and/or financial condition on a GAAP or fair value basis. Management's expectations for the company's future necessarily involve a number of assumptions, judgments and estimates, and various factors could cause actual results to differ materially from these expectations. These assumptions, judgments, estimates and factors are discussed in the company's Information Statement and Annual Report dated March 23, 2007, and related Information Statement Supplements, which are available on the Investor Relations page of the company's Web site at www.FreddieMac.com/investors.

Freddie Mac is a stockholder-owned corporation established by Congress in 1970 to support homeownership and rental housing. Freddie Mac purchases single-family and multifamily residential mortgages and mortgage-related securities, which it finances primarily by issuing mortgage-related securities and debt instruments in the capital markets. Over the years, Freddie Mac has made home possible more than 50 million times, ensuring financing for one in six homebuyers and more than four million renters.

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