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Freddie Mac Reports Third Quarter 2007 Net Loss of $2.0 Billion or $3.29 Per Diluted Share

Core Business Growth Offset by Credit and Valuation Losses

For Immediate Release
November 20, 2007
Contact: corprel@freddiemac.com
or (703) 903-3933

Third Quarter Highlights

  • Third quarter loss of $2.0 billion reflects a higher provision for credit losses and losses on mark-to-market items.
  • Provision for credit losses of $1.2 billion reflects the significant deterioration of mortgage credit as a result of continued weakness in the housing market.
  • Total GAAP mark-to-market losses of $3.6 billion primarily include $1.5 billion in interest-rate related items and $2.3 billion in credit-related items.
  • Fair value, before capital transactions, decreased by approximately $8.1 billion primarily due to widening of net mortgage-to-debt option-adjusted spreads and valuation losses on credit-related items.
  • Increase in management and guarantee income reflects continued guarantee portfolio growth.

McLean, VA – Freddie Mac (NYSE:FRE) today reported a net loss of $2.0 billion, or $3.29 per diluted common share, in the third quarter of 2007, compared to a net loss of $715 million, or $1.17 per diluted common share, for the same period in 2006. The company also reported a decrease in the fair value of net assets attributable to common stockholders, before capital transactions, of approximately $8.1 billion for the third quarter of 2007, compared to an increase of approximately $300 million for the same period in 2006. Compared to the second quarter of 2007, the company reported declines in both net income and fair value primarily due to increased credit-related expenses and losses on mark-to-market items.

“Without doubt, 2007 has been an extremely difficult year for the country's housing and credit markets and, as our third quarter financial results reflect, we have been impacted by the deterioration in these markets,” said Richard F. Syron, Freddie Mac chairman and chief executive officer. “We recognized the challenges facing the mortgage markets, however, and have taken further steps to address them. At the same time, as our charter mandates, we have continued to meet our mission by playing a stabilizing role in the markets and supporting our customers.

"Freddie Mac is a housing finance company operating in what today is a troubled housing and credit market. It will take time for this market to turn around. But as it improves, we are optimistic about Freddie Mac's longer-term prospects. The market shift towards fixed rate originations and improved pricing and credit standards should position us well as the weakness in credit markets begins to improve and we are able to leverage our traditional strengths."

"Weakening house prices and deteriorating credit have hurt Freddie Mac's results, as well as those of other participants in the mortgage market," said Buddy Piszel, chief financial officer. "You can see the impact of these trends in our credit results and throughout our financial statements. Year-to-date, we have recognized $4.6 billion in net credit-related items on a pre-tax basis.

"During the past year we have taken important steps to address the impact of the declining housing and credit markets to our business," Piszel added. "We have begun raising prices, tightened our credit standards and enhanced our risk management practices. We also continue to improve our internal controls as we move closer to completing our remediation efforts and returning to timely financial reporting. These actions position us well to take advantage of opportunities when the current market dislocation ends."

Freddie Mac's regulatory core capital was estimated at $34.6 billion at September 30, 2007, which represented an estimated $8.5 billion in excess of the regulatory minimum capital requirement, and an estimated $0.6 billion in excess of the 30 percent mandatory target capital surplus directed by the Office of Federal Housing Enterprise Oversight (OFHEO).

GAAP Results

Three Months Ended
($ in millions, except per share amounts)
September 30, 2007
June 30, 2007
September 30, 2006
Net Income (Loss)
$(2,029)
$764
$(715)
Diluted earnings (loss) per common share
$(3.29)
$1.02
$(1.17)
Diluted weighted average common shares outstanding
647.4 mm
655.8 mm
675.6 mm

 

The increased net loss, year-over-year, was primarily due to higher credit-related expenses and mark-to-market losses on the company's portfolio of derivatives and credit-related items.

Three Months Ended
($ in millions)
September 30, 2007
June 30, 2007
September 30, 2006
Total Revenues
$(678)
$2,255
$91
Net interest income
987
973
959
Management and guarantee income
520
474
427
Other non-interest income (loss)
(2,185)
808
(1,295)


Within total revenues, net interest income has remained stable throughout 2007 and management and guarantee income continued to grow from prior period levels.

Net interest income was $987 million for the third quarter of 2007, compared to $959 million for the third quarter of 2006. Year-over-year, net interest income increased primarily due to lower amortization expense, partially offset by increased funding costs as maturing debt was replaced at higher yields.

During the third quarter of 2007, the unpaid principal balance (UPB) of the company's retained portfolio increased at an annualized rate of one percent to approximately $713 billion, as liquidations decreased and wider net mortgage-to-debt option-adjusted spreads (OAS) generally increased purchase opportunities. During the third quarter, Freddie Mac reduced the balance of its cash and short-term investments portfolio by $30 billion, which helped the company manage its capital and invest in mortgage-related securities with wider OAS. Capital constraints during the quarter limited Freddie Mac's ability to take advantage of purchase opportunities for the retained portfolio and in September the company sold approximately $20 billion in UPB of retained portfolio assets to manage to the 30 percent mandatory target capital surplus.

As in September, retained portfolio sales in October 2007 of approximately $25 billion largely reflected activities to manage to the 30 percent mandatory target capital surplus. During the remainder of 2007, the UPB of the retained portfolio may decline given the impact of the continued earnings volatility created by the current market environment and the need to manage to the 30 percent mandatory target capital surplus.

Management and guarantee income on mortgage participation certificates (PCs) and Structured Securities increased to $520 million in the third quarter of 2007, compared to $427 million in the third quarter of 2006. The year-over-year increase is primarily due to growth in the average balance of outstanding PCs and Structured Securities and a moderately higher total guarantee fee rate.

The company's total credit guarantee portfolio increased at an annualized rate of 18 percent in the third quarter of 2007 to approximately $1.7 trillion at September 30, 2007. Through October 31, 2007, the company's total credit guarantee portfolio increased at an annualized rate of 16 percent to approximately $1.7 trillion. This compares to forecasted annual growth in total U.S. residential mortgage debt outstanding of approximately six percent in 2007.

During the third quarter of 2007, the company recorded mark-to-market losses totaling $2.7 billion on items included in other non-interest income (loss), compared to mark-to-market losses of $1.5 billion in the third quarter of 2006. Of the mark-to-market losses during the third quarter of 2007, approximately $1.4 billion were related to the impact of widening credit spreads on the value of the company's credit guarantee activities and approximately $1.4 billion were related to the impact of declining long-term interest rates on the value of the company's derivatives portfolio.

Three Months Ended
($ in millions)
September 30, 2007
June 30, 2007
September 30, 2006
Total Expenses
$2,731
$1,378
$827
Administrative expenses
428
442
418
Credit-related expenses
1,248
336
112
Other non-interest expense
Losses on certain credit guarantees
Losses on loans purchased
Other

396
483
176

187
205
208

103
30
164


Administrative expenses totaled $428 million for the third quarter of 2007, compared to $418 million for the third quarter of 2006. Year-over-year administrative expenses, expressed as a percentage of the average total mortgage portfolio, declined to 8.7 basis points for the third quarter of 2007 from 9.4 basis points for the third quarter of 2006.

Credit-related expenses, consisting of provision for credit losses and real estate owned (REO) operations expense, were $1.2 billion for the third quarter of 2007, compared to $112 million for the third quarter of 2006. This increase reflects observed credit deterioration, particularly on 2006 and 2007 mortgage loan originations that have exhibited higher transition rates from delinquency to foreclosure, and higher expected severities of losses on a per-property basis resulting from slower home price appreciation and higher UPBs on those loans generating losses.

Total credit losses, consisting of net charge-offs plus REO operations expense, were $126 million for the third quarter of 2007 and $263 million for the nine months ended September 30, 2007. Realized credit losses were 3.0 basis points of the average total mortgage portfolio for the third quarter of 2007 and 2.2 basis points of the average total mortgage portfolio for the nine months ended September 30, 2007. The company expects credit losses to continue to increase for the remainder of 2007 and in 2008, especially if conditions, such as home prices and the rate of home sales, continue to deteriorate.

For the third quarter of 2007, other non-interest expense included losses on certain credit guarantees of $396 million, compared to losses of $103 million in the third quarter of 2006, primarily related to higher market-measured future credit costs on newly-issued PCs. Also included in other non-interest expense were losses of $483 million on loans purchased out of PC pools, compared to losses of $30 million in the third quarter of 2006, largely due to an increase in the volume, and a decline in the estimated fair value, of non-performing loans purchased out of PC pools during the quarter. During the third quarter of 2007, the company recognized $58 million in net interest income on re-performing loans previously purchased and $109 million in other non-interest income associated with the recapture of previously recognized market value losses on purchased loans due to borrower payments or higher realized loan foreclosure values.

Capital Management

Estimated regulatory core capital was $34.6 billion at September 30, 2007, which represented an estimated $8.5 billion in excess of the regulatory minimum capital requirement, and an estimated $0.6 billion in excess of the 30 percent mandatory target capital surplus directed by OFHEO. Retained portfolio sales in September and October largely reflected activities to manage to the 30 percent mandatory target capital surplus.

As a result of GAAP losses and in order to manage to the 30 percent mandatory target capital surplus and respond to regulatory concerns, as well as to have the flexibility to effectively manage its business, the company is planning on taking several actions. First, the company has engaged Goldman Sachs and Lehman Brothers as financial advisors to help it consider very near term capital raising alternatives. Second, the company is seriously considering reducing its fourth quarter common stock dividend by 50 percent. If these measures are not sufficient to help the company manage to the 30 percent mandatory target capital surplus, then the company may consider additional measures in the future such as limiting growth or reducing the size of our retained portfolio, slowing purchases into our credit guarantee portfolio, issuing additional preferred or convertible preferred stock and issuing common stock. When market conditions improve and Freddie Mac returns to sustainable profitability, the company will consider increasing the common stock dividend and returning capital to its shareholders through, among other things, calling preferred stock.

Fair Value Results

Three Months Ended
($ in billions, after-tax)
September 30, 2007
June 30, 2007
September 30, 2006
Fair Value Change (before capital transactions)
$(8.1)
$0.8
$0.3


During the third quarter of 2007, the fair value of net assets attributable to common stockholders, before capital transactions, decreased by approximately $8.1 billion, compared to an increase of approximately $300 million in the third 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 decreased fair value by approximately $5.9 billion during the third quarter of 2007, compared to an increase in fair value of approximately $500 million during the third quarter of 2006. These estimates include a reduction in fair value of approximately $8.0 billion attributable to net mortgage-to-debt OAS widening in the third quarter of 2007. Of this amount, approximately $3.5 billion was related to the impact of the net mortgage-to-debt OAS widening on the company's portfolio of non-agency mortgage-related securities.

Mortgage-to-debt OAS widening increases the likelihood that, in future periods, the company will be able to recognize core spread income from its investment activities at a higher spread level. In the third quarter of 2007, the company estimated it recognized core spread income at a net mortgage-to-debt OAS level of approximately 60 to 70 basis points, compared to approximately 25 to 30 basis points estimated in the third quarter of 2006.

Credit guarantee activities decreased fair value by an estimated $6.4 billion during the third quarter of 2007, compared to a decrease in fair value of an estimated $400 million during the third quarter of 2006. These results include amounts related to net cash flows received, as well as changes in the fair value of the single-family guarantee asset and obligation.

Interest-Rate Risk Management

During the third quarter of 2007, Freddie Mac's interest-rate risk remained low with portfolio market value sensitivity (PMVS-L) and duration gap averaging one percent and zero months, respectively, unchanged compared to the third quarter of 2006.

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.

Additional Information 

For more information, see the Consolidated Financial Statements and Core Tables accompanying this release, the company's Information Statement Supplements, dated November 20, 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, which are 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, (703) 903-3883 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 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 1-800-230-1951 and international investors can access the call at 612-332-0335. 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 November 20, 2007 until midnight on December 3, 2007. To access this recording in the United States, call 1-800-475-6701 and use access code 891911. Outside of the United States, call 320-365-3844 and use access code 891911.

This press release contains forward-looking statements pertaining to management's current expectations as to the company's future business plans, market share, capital management, remediation initiatives, financial reporting timeline, returns on investments, 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, including changes in market conditions, liquidity, mortgage-to-debt OAS or credit outlook that 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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