Fannie Mae Irks Investors

Fannie Mae has loosened its loan policies, giving a break to potential homebuyers but causing investors to be skittish about its stock.

Fannie Mae (nyse: FNM - news - people ) tumbled 3.5%, or $1.07, to $29.15, during Friday morning trading in New York after announcing that it will now accept down-payments as low as 3.0% on all the loans it buys or guarantees. Fannie Mae had recently endeared itself to investors through increased fees and tightened standards on loans it buys.

This new national loan policy will reverse a rule enacted in December that required borrowers in declining markets to put additional equity in their homes, which protects Fannie from falling home prices. The loss of that protection comes with obvious risks.

Lenders are observing that in this housing cycle in the United States, loan-to-value ratio is a greater indicator of default than credit scores, the traditional predictor. Large downpayments in declining markets diminish the likelihood of default as well as performing their traditional role of giving the lender a cushion between the value of a mortgage and the market value of the property,

Executives at Freddie Mac, (nyse: FRE - news - people ) Fannie's fellow government-backed lender, said earlier this week that they expect the market to bottom out at a 15.0% decline from its recent peak. It is currently down 9.0%. Foreclosure filings surged 23.0% in the first quarter and were more than double the figure for a year earlier, according to RealtyTrac. (See: "American Housing Market Still Sliding")

Fannie and Freddie both posted significant losses in the first quarter with plans to raise billions in capital. Despite what appeared to be bad news, their shares rallied with an eye to the two companies' government guarantee. Investor reaction to this announcement suggest there me be a limit to the risk that shareholders are willing to stomach.

In the last two weeks, the Office of Federal Housing Enterprise Oversight, which oversees both Fannie and Freddie, lowered their capital surplus requirements to 15.0%, from 20.0%, freeing up new funds for lending. The cushion was just recently lowered with much fanfare to 20.0%, from 30.0%, on March 19. (See: "Betting On Fannie and Freddie")

In mid-April, Standard & Poor's said that Fannie and Freddie pose a greater threat to the U.S. sovereign credit score than all brokers and dealers combined. (See: "Bailout Now, Pay Later")