Fannie Mae, reporting its monthly volume summary for February last week, cited low commitments, a continued drop of its retained portfolio and a lackluster increase in MBS outstanding, which reflects Fannie's guarantee business. The disappointing results are partly offset by a low level of delinquencies and low interest rate risk measures.

The GSE's retained portfolio commitments rose to $12.6 billion in February from $11.6 billion the prior month. However, it remains low due to unfavorable MBS-to-debt spreads. JPMorgan Securities said that MBS-to-debt spreads have improved slightly with the bond market rally that started March 5. However, the rally was not enough to cause a considerable rise in commitments. Fannie Mae's purchase opportunities have been rather limited, as demand for mortgage assets by depository institutions stayed high and drove mortgage yields down, said researchers at Lehman Brothers.

In February, Fannie's retained portfolio dropped by $5 billion to $882.1 billion, which is a 6% annualized rate. The low purchase volume of $12 billion for the month contributed to the decrease. Growth will probably remain weak in the near term if MBS-to-debt spreads do not improve.

"Though we expect the purchase volume to remain low near-term, we believe the retained portfolio growth can be in the mid-teens for the year as strong purchase volume should materialize once the mortgage-to-debt spreads become more attractive," Lehman equity analysts wrote.

Fannie also reported that its MBS outstanding increased at a 5% annualized rate to $1.87 trillion, as slowing liquidations counteract the drop in new purchases. The growth of outstandings is expected to marginally pick up with mortgage originations rising following the rate rally.

Delinquencies and interest rate risk measure are still good with the duration gap averaging minus one month for the fourth consecutive month. Delinquencies rose by one basis point to 31 basis points in the single-family sector, which is still considered low. The delinquency rate in Fannie's multi-family business dropped by three basis points to 27 basis points.

Fannie also released its 10-K for 2003. Fannie reported a sharp rise in fair value of equity to the tune of $9.5 billion, which is equivalent to $9.70 a share. Fannie also reported that the notional value of its derivative portfolio rose to $1.0 trillion at the end of last year from $657 billion at the end of 2002. This change shows Fannie's decision to increase the level of optionality that it hedges, said analysts at UBS. This heightened conservatism is reflected by Fannie's duration gap, which has remained within plus or minus one month over the past six months. The 10-K also revealed that the original loan-to-value on Fannie's mortgage assets dropped to 70% from 73% while the current LTV dipped to 60% from 62% in 2002, which shows the material level of collateral behind the company's mortgage assets, said UBS.

In a separate report, Bear Stearns noted that the 10-K filing also reveals considerable information about the company's use of and accounting for the interest rate swaps in managing interest rate risk. The net value of the GSE's total derivative exposure was $6.6 billion at the end of 2003, which increased from a negative $2 billion the year prior.

"So far, what we've seen in Fannie Mae's 10-K reinforces our view that the company is well capitalized and is carefully managing its risks," Bear analysts wrote. "While we still expect slower EPS growth over the next several years than we've seen in the past, we believe the company's low-risk business still warrants a higher stock market valuation."

Meanwhile, published reports said the U.S. Treasury Department is currently analyzing "unusual" multibillion-dollar derivatives losses that Fannie revealed in its 10-K. The GSE disclosed that losses from certain derivatives closed out between 2000 and the end of 2003 were roughly $6.9 billion. Treasury Assistant Secretary for Financial Institutions Wayne Abernathy stated that these losses emphasize the need for a "good strong regulator" for Fannie and Freddie Mac.

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