WASHINGTON -(Dow Jones)- The Treasury Department is pushing House lawmakers to accept a legislative measure that would severely cut Fannie Mae (FNM) and Freddie Mac's (FRE) portfolios and force the companies to wind down over time their combined $1.5 trillion mortgage holdings.

Treasury Secretary John Snow hand delivered a draft of the amendment, a copy of which was obtained by Dow Jones Newswires, to members of the House Financial Services Committee on Wednesday. The provision specifically instructs the companies' regulator to write rules prohibiting Fannie and Freddie from holding assets that otherwise trade freely in the open markets--the practical effect of which would dramatically reduce the size of their portfolios over three to five years by allowing those mortgages to run off or through divesting.

The measure gives Fannie and Freddie's supervisor power over the companies' portfolio holdings as part of a broader bill overhauling the oversight of the two government-sponsored enterprises. The provision also specifically directs the regulator to mitigate broader systemic risks posed by the GSEs by reducing the companies' assets to a diminutive amount needed to fulfill their public housing missions.

Treasury officials are trying to get House Financial Services Chairman Michael Oxley, R-Ohio, to include the provision in legislation his panel is scheduled to vote on next Wednesday.

Under the proposal, Fannie and Freddie would be restricted to holding a few types of assets in their portfolios--most notably loans that are awaiting resale to other investors, mortgages that fulfill their low-income financing goals and Treasury bills.

It would forbid the GSEs from holding assets in their portfolios that could otherwise be packaged as securities and sold to outside investors in the secondary mortgage markets--a process called securitization. It would also prohibit the GSEs from investing in asset-backed securities that are not directly related to their housing missions, such as credit card receivables, auto loans and airplane leases, to name a few of the GSEs' non-mission investments.

The amendment closely tracks comments made Thursday by Federal Reserve Chairman Alan Greenspan in which he suggested that Congress limit the GSEs' portfolios by assuming that most of their assets can and should be securitized.

"The GSEs would need to establish, with their regulator, that any asset held in their portfolio could not be securitized," Greenspan told the Atlanta Federal Reserve Bank. "In other words, the method of GSE financing most consistent with their missions is to securitize assets first and to hold in their portfolios only those assets that are very difficult or unduly expensive to securitize."

Fannie and Freddie's securitization process provides financing to the U.S. mortgage markets by packaging home loans into pools of securities, guaranteeing borrowers will pay on time and reselling them as mortgage-backed securities, or MBS, to other investors.

Because investors assume the government will bail them out in a crisis, Fannie and Freddie can borrow at near-government rates. The GSEs, which had $132 billion in combined assets in 1990, have grown their portfolios at a rapid clip- -cashing in on the highly profitable spread between their low cost of funds and the higher rates they can charge the private market.

The two now own or guarantee roughly 47% of the U.S. residential mortgage market, holding a combined $1.5 trillion in loans and MBS on their books and guaranteeing another combined $1.9 trillion in MBS that's held by other investors. Fannie and Freddie have roughly $1.7 billion in outstanding debt used to fund their portfolio purchases--most of which is their own MBS.

Greenspan said the companies' sheer size makes it increasingly difficult for them to correct mistakes in balancing their portfolios, which officials say do not lower mortgage rates for borrower or increase the availability of 30-year, fixed-rate loans.

The Treasury provision would preclude Fannie and Freddie from buying their own securities, a practice administration and Fed officials say poses significant risk to the broader financial markets because it concentrates interest-rate risk and prepayment risk within the GSEs.

While policymakers cannot eliminate risk inherent in mortgages that allow consumers to refinance at will, Greenspan said they can markedly contain it "by diversifying the concentration of risk away from large, highly leveraged portfolios for which misjudgments can have quick and devastating consequences."

The administration is also seeking to give the GSEs' regulator other bank-like powers, including broad discretion to adjust minimum capital "as the director deems necessary or appropriate in light of the particular circumstances of the regulated entity," according to copies of the amendments.

Another controversial provision Treasury officials are seeking House backing on would prohibit Fannie and Freddie from launching new programs, products or activities that are inconsistent with their federal charters, safety and soundness or "the public interest."

Greenspan and Snow have warned lawmakers against improving the GSEs' oversight without also curbing their portfolio holdings, saying it would likely increase taxpayer risk.

"Without the needed restrictions on the size of the GSE balance sheets, we put at risk our ability to preserve safe and sound financial markets in the United States, a key ingredient of support for housing," Greenspan said.

It's unclear whether House lawmakers will accept the Treasury proposal with such drastic curbs on the GSEs' assets.

The amendment has a better shot in the Senate where the Banking Committee under Chairman Richard Shelby, R-Ala., is likely to embrace the Fed and administration's recommendations on portfolio limits, Sen. John Sununu , R-N.H., said Thursday.

Accounting problems at Fannie, Freddie and the Federal Home Loan Banks have bolstered arguments in Congress to enhance their oversight and restrict their operations over the last two years. Most of the attention has focused on Fannie and Freddie, the largest and fastest-growing of the nation's housing GSEs.

-By Dawn Kopecki, Dow Jones Newswires; 202-862-6637; Dawn.Kopecki@dowjones.com Dow Jones Newswires 05-19-05 2145ET Copyright (C) 2005 Dow Jones & Company, Inc. All Rights Reserved.