Freddie Mac scrambles for cash

NEW YORK (CNNMoney.com) -- Freddie Mac, a government-sponsored enterprise designed to help provide financing to the mortgage market, announced Tuesday that it is looking to raise cash itself after a larger-than-expected loss cut its capital close to the bone.

The news whacked the company's shares more than 30 percent in early-afternoon trading. The latest decline means that shares have lost 62 percent, or nearly two-thirds of their value, so far this year.

Wall Street was spooked by Freddie's announcement that its capital surplus had fallen by $1.2 billion, to only $600 million above a mandatory target set under a consent decree with regulators.

Freddie also said it has hired Wall Street firms Goldman Sachs (Charts, Fortune 500) and Lehman Brothers (Charts, Fortune 500) to help it "consider very near term capital-raising alternatives."

The firm reported a net loss of $2 billion, or $3.29 a share, in the third quarter.

The firm also announced an $8.1 billion, or 25 percent drop, in the fair value of its assets - another way it measures its financial performance - and it said it had set aside $1.2 billion to cover credit losses.

If Freddie Mac has trouble raising the funds it is seeking, which one analyst estimated could be between $2 billion and $4 billion, it would be a severe blow to the already struggling mortgage and housing markets.

After the meltdown in mortgage and credit markets this summer caused by rising delinquencies and defaults in riskier home loans, Freddie has become even a more crucial source of funding for lenders looking to make home loans.

Hugh Moore, a principal at Guerite Advisors, a financial advising and independent research firm, said if Freddie has to pull back, it will quickly mean higher interest rates on home loans even for the buyers with good credit, and further downward pressure on prices.

"The mortgage market now is just limping along. This could put a strangle hold on it," he said. "It'd be coming at the worst possible time. That's only going to increase the number of foreclosures you're going to have in the market and the glut of homes on the market."

Among the alternatives Freddie is looking at to increase its available cash would be to slash its dividend by 50 percent. It also could be forced to limit the growth or reduce the size of its retained portfolio, slow purchases by its credit guarantee portfolio or issue additional preferred or common stock.

Company officials also said they had discussions with federal regulators about possibly relaxing the capital standards agreed to by Freddie Mac due to past accounting problems.

"We have had discussions with them on the [rule]," said Freddie Chairman and CEO Richard Syron. "We expect to have discussions in the future."

When asked by analysts if regulators had rejected that request for relief from the rules, Syron responded, "You can interpret the answer."

Investors fled the stock because the cut in the dividend and the likelihood of additional shares being sold would make existing shares less valuable. Syron said the company had no choice if it wanted to continue meet its charter mission of providing a source of funding for the troubled mortgage market.

Syron said Freddie Mac - and the other government sponsored mortgage finance firm, Fannie Mae - "were set up for times like these." He said that if the firms were forced to sell their mortgage-backed securities into an already weak market in order to comply with capital rules, it would cause problems not only for the company's growth going forward, but for the U.S. housing market and economy as a whole.

"We're not happy about this. We don't expect you to be happy about this," he said during a call with analysts and investors. "The two basic approaches we can take now either [are to] go to 'Fortress Freddie,' which I don't think would be in interest to our shareholders or to our charter and the mortgage market, or we could take these steps that we think are in the best interest of the mortgage market and the shareholders."

While problems in the mortgage markets have been well-known for months, it had been hoped that Freddie Mac (Charts, Fortune 500), which buys securities backed by the safest form of mortgages, would be spared the worst of the problems.

Tuesday's report shows that the problems appear to be spreading. Freddie said that 0.51 percent of its single-family home loans were 90 days or more delinquent in September, up from 0.42 percent in June. While that is well below the much higher delinquency and default rates in the broader markets, Freddie executives said they are having to pay higher premiums for their holdings, and take these steps, due to the problems in the mortgage market.

In a conference call Tuesday, the company did not give specific earnings guidance, but it said that the problems were not going to go away quickly, and that fourth quarter results could be similar to the just completed third quarter.

"It is likely that the fourth quarter will prove difficult as well," said Syron. "We do not believe it would be wise to be sanguine about the near-term outlook for the housing market. The right thing for us to do now is to take steps to strengthen our capital position."

Longer term, Freddie Mac said, its outlook should be helped by the move by lenders to fixed-rate loans and away from variable-rate loans made to riskier borrowers.

On Nov. 9, the other government-sponsored mortgage finance firm, Fannie Mae (Charts), reported lower earnings that raised questions about its accounting. Shares of Fannie have fallen nearly 25 percent since that report, and Freddie had fallen nearly 15 percent during the same period through the close of trading Monday.

Tuesday, it was Fannie's turn to see its shares follow Freddie lower, as it was off more than 20 percent in midday trading.