In the 1980s Freddie Mac had a marketing campaign The Gnomes Know, touting their expertise in mortgage markets. Now the Federal Housing Finance Agency (FHFA) has filed a $200 billion lawsuit against 17 of the nation's largest mortgage lenders arguing that during the subprime lending debacle of the last decade the gnomes didn't know!The lawsuits all relate to publicly offered private label subprime MBS purchased by Fannie Mae and Freddie mostly from 2005 through 2007. They purchased mostly senior investment grade securities because these not only qualified towards their housing "mission" goals required by Department of Housing and Urban Development's (HUD) "mission regulator," but also because the Office of Federal Housing Enterprise Oversight, FHFA's predecessor prudential regulator, required only 20% as much capital as for whole loan purchases.

On the one hand, the individual lawsuits are boilerplate securities fraud, i.e., the investments didn't pan out, the investors made the investments based entirely on the representations in the prospectus, these representations proved to be false and misleading, and had the investors known they would not have made them. Implicit is that the subsequent losses are due entirely to this misinformation. Making the lenders pay up will improve Fannie Mae and Freddie Mac balance sheets and reduce taxpayer losses, generally a good thing.

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