For Immediate Release
August
31,
2005
Contact:
corprel@freddiemac.com
or (703) 903-3933
FREDDIE MAC REPORTS FIRST AND SECOND QUARTER 2005 FINANCIAL RESULTS OF $1.6 BILLION NET INCOME
Company Reports Progress on Business Results, Fair Value and Capital
McLean, VA – Freddie Mac (NYSE:FRE) today reported financial results
for the first six months of 2005.
The company reported GAAP net income of $1,644 million for the first six months
of 2005, down from $4,066 million for the first six months of 2004. Fair value
of net assets attributable to common stockholders, before capital transactions,
increased by $1.1 billion for the first six months of 2005, compared to growth
of $2.5 billion for the first six months of 2004. Freddie Mac's regulatory
core capital is estimated to have grown to $36.1 billion at June 30, 2005, with
a regulatory minimum capital surplus estimated at $12.1 billion at June 30,
2005, and an estimated $4.8 billion in excess of the 30-percent target surplus
set by the Office of Federal Housing Enterprise Oversight (OFHEO).
"We are making excellent progress on improving the business in ways that
will both advance our housing mission and reward our stockholders," said
Richard F. Syron, Freddie Mac chairman and chief executive officer. "In
the first six months of 2005, we launched a number of new initiatives and products
and made progress towards meeting our affordable housing goals. We increased
our market share, further strengthened our capital position and our management
team and have taken actions to keep our administrative expenses relatively flat
for 2005. With today's release of financials for the first half of 2005,
we have taken another big step in our push to being fully current in our financial
reporting by early 2006."
"Good things are happening in our business and we're happy with our first
half momentum," said Eugene M. McQuade, Freddie Mac president and chief operating
officer. "For example, we grew our GSE market share while keeping our interest
rate risk and credit risk at very low levels. Because our GAAP financial results
reflect a mix of historical cost and fair value marks, they don't give
as complete a picture as we get from looking at all of our metrics – GAAP,
fair value, business and risk management results. Taken as a whole, we've
made solid progress."
SUMMARY OF FINANCIAL RESULTS
Changes in the level and volatility of interest rates continue to cause significant
volatility in our reported financial results under generally accepted accounting
principles, or GAAP. This volatility is primarily due to the fact that only
a portion of our GAAP balance sheet is marked to fair value. Net income was
$1,644 million for the first six months of 2005, down from $4,066 million for
the first six months of 2004. Diluted earnings per common share were $2.22 for
the first six months of 2005, down from $5.74 for the first six months of 2004.
Net income for the first six months of 2005 includes net after-tax gains of
$265 million, or $0.38 per diluted common share, related to the implementation
of enhancements to models, primarily with respect to those we use to estimate
the fair values of our guarantee-related assets and liabilities. The decline
in net income for the first six months of 2005 compared to the first six months
of 2004 was primarily due to lower net interest income, larger net fair value
losses on the Guarantee Asset for Participation Certificates and losses related
to our derivative instruments not in qualifying hedge accounting relationships.
These derivatives continued to be an effective component of our risk management
activities, as discussed below.
Net interest income was $3,067 million for the first six months of 2005, down
from $4,751 million for the first six months of 2004. Net interest yield on
a fully taxable-equivalent basis decreased to 87 basis points for the first
six months of 2005, compared to 129 basis points for the first six months of
2004. Net interest income, which we previously indicated was expected to be
materially lower in 2005, declined primarily due to a change in the asset mix
of the retained portfolio, specifically the shift from higher yielding, fixed-rate
assets to lower yielding, floating-rate assets. In addition, we had a $414 million
decrease in interest income in the cash and investments portfolio, largely associated
with the elimination of our Securities Sales & Trading Group (SS&TG)
trading portfolio. This was offset by a reduction in the carrying costs associated
with this portfolio reflected in Non-interest income (loss). Net interest income
also includes the effect of enhancements to certain models used to estimate
prepayment speeds on mortgage-related securities. We implemented these enhancements
as a change in estimate under GAAP, resulting in the recognition of $67 million
(pre-tax) of additional amortization expense in the first quarter of 2005.
Non-interest income (loss) totaled $157 million for the first six months of
2005, down from $1,506 million for the first six months of 2004. Management
and guarantee income was $720 million for the first six months of 2005, up from
$635 million for the first six months of 2004. The total management and guarantee
income rate recognized for the first six months of 2005 was 16.4 basis points,
the same rate recognized for the first six months of 2004.
Gains (losses) on "Guarantee asset for Participation Certificates, at
fair value" were ($685) million for the first six months of 2005, down
from net fair value losses of ($72) million for the first six months of 2004.
The larger net fair value loss for the first six months of 2005 was primarily
attributable to the decline in mortgage rates during the second quarter of 2005,
which decreased the fair value of our guarantee-related assets. Gains (losses)
on "Guarantee asset for Participation Certificates, at fair value"
also includes the effect of implementing certain model enhancements, primarily
used to estimate the fair values of our guarantee-related assets and liabilities.
We made these changes as part of our periodic model enhancement process. These
enhancements include changes to key components of the model that projects future
interest rates, house prices, borrower defaults and loan prepayments, and also
reflect the use of more extensive loan-level data. We recorded the effect of
these enhancements as a change in estimate under GAAP, affecting our second
quarter and first six months of 2005 results by reducing the net loss on our
Guarantee asset for Participation Certificates, at fair value by $487 million
(pre-tax). Excluding the effect of these enhancements, Gains (losses) on "Guarantee
asset for Participation Certificates, at fair value" would have been ($1,172)
million. In addition, as a result of these enhancements, on our consolidated
statements of income we recognized a pre-tax loss included in Derivative gains
(losses) of ($10) million and a pre-tax loss included in Gains (losses) on investment
activity of ($3) million.
Non-interest income (loss) also reflects net losses on derivative instruments
not in qualifying hedge accounting relationships of ($747) million for the first
six months of 2005, down from net gains of $521 million for the first six months
of 2004. These losses were partially offset by gains (losses) on investment
activity of $287 million for the first six months of 2005, up from ($377) million
for the first six months of 2004, driven in large part by reduced losses on
trading securities and higher gains from the sale of available-for-sale securities.
In addition, we recognized net gains on debt retirements of $96 million for
the first six months of 2005, up from net losses of ($264) million for the first
six months of 2004. The gains from the sale of available-for-sale securities
and the net gains on debt retirements both resulted from ongoing mortgage portfolio
and debt funding program management activities.
Non-interest expense totaled $1,109 million for the first six months of 2005,
up from $1,051 million for the first six months of 2004. Administrative expenses,
which are a component of non-interest expense, totaled $717 million for the
first six months of 2005, up from $673 million for the first six months of 2004.
However, we believe we are on track to meet our objective in 2005 of keeping
administrative expenses relatively flat compared to 2004.
For full-year 2005, we continue to expect to report net interest income materially
lower than that reported for full-year 2004, primarily due to compression in
net interest margins on our existing portfolio and lower nominal margins on
floating-rate mortgage-related security purchases. However, on a full-year basis,
we also continue to expect this decrease to be significantly offset by decreased
losses in non-interest income (loss), assuming current forward rates are realized.
For additional details on our earnings and performance for the first six months
of 2005, see our Consolidated Financial Statements accompanying this release
and our Core Tables, available on the Investor Relations page of our Web site
at www.FreddieMac.com/investors.
FAIR VALUE BALANCE SHEETS
At June 30, 2005, the fair value of net assets attributable to common stockholders
was $27.4 billion, a $0.6 billion increase from December 31, 2004. For the same
period, the fair value of net assets attributable to common stockholders, before
capital transactions, increased by $1.1 billion, as compared to an increase
of $2.5 billion for the first six months of 2004. The increase for the first
six months of 2005 represents an annualized return on average fair value of
net assets attributable to common stockholders of approximately 8 percent, a
figure that is below our long-term expectations. Looking beyond 2005, our long-term
expectation is to generate returns on the average fair value of net assets attributable
to common stockholders, before capital transactions, in the low- to mid-teens,
although period-to-period returns may fluctuate substantially due to market
conditions. Management's expectations are based upon assumptions regarding
rates of growth in our business, spreads we expect to earn on our business,
and required capital levels, among other factors. We have made no assumptions
regarding any potential impact of pending legislation, discussed below and in
our prior disclosures. Our actual results may differ materially from our expectations.
The primary contributors to the increase in fair value of net assets in the
first six months of 2005 were income from the retained portfolio (defined as
the net revenue resulting from the option-adjusted spread between mortgage-related
investments and debt) and fee-based income (including guarantee fees and credit
fees related to our PCs and Structured Securities) substantially offset by decreases
resulting from wider mortgage-to-debt option-adjusted spreads. Because we generally
hold a substantial portion of our mortgage-related assets for the long term,
we do not believe that periodic fluctuations in mortgage-to-debt option-adjusted
spreads will significantly affect the long-term return of the retained portfolio.
During the first six months of 2005, we made improvements to our fair value
estimation methodologies, including the implementation of the model enhancements,
discussed above, concerning our guarantee-related assets and liabilities and
refinements that better capture available market data relevant to determining
the fair value of multifamily mortgage loans and other securities we hold in
our retained portfolio. The implementation of these improvements resulted in
net after-tax increases in the fair value of total net assets of approximately
$0.2 billion in the first quarter of 2005 but had no significant net impact
in the second quarter of 2005.
RISK MANAGEMENT
Our interest-rate risk remains low. For the first six months of 2005, Portfolio
Market Value Sensitivity and duration gap averaged one percent and zero months,
respectively. Our total credit losses continue to be low, totaling $68 million,
or approximately 1.1 basis points on an annualized basis, in the first six months
of 2005, compared to $59 million, or approximately 1.0 basis point on an annualized
basis, for the first six months of 2004. We continue to expect credit losses
in 2005 to remain low relative to historic levels, although there may be some
slight increase.
CAPITAL
We have submitted to OFHEO amended minimum capital reports for March and June
of 2005, including estimates of our capital surpluses. Based on these estimates,
we believe that we were in compliance with our regulatory capital requirements
throughout the first half of the year. Our estimated regulatory core capital
at June 30, 2005 was $36.1 billion, with an estimated minimum capital surplus
of approximately $12.1 billion and an estimated surplus in excess of the 30-percent
target surplus at June 30, 2005 of approximately $4.8 billion. We currently
expect to be able to maintain a surplus over both our minimum regulatory capital
requirement and the 30-percent target surplus across a wide range of market
conditions.
OTHER MATTERS
Update on Litigation Arising from Restatement
As previously disclosed, we are subject to various legal proceedings, including
regulatory investigations and administrative and civil litigation, arising from
the restatement of our previously issued consolidated financial statements.
In the second quarter of 2003, we established a reserve of $75 million based
on our estimate that the range of minimum loss in these proceedings was $75
million to $100 million. The plaintiffs in the pending civil securities litigation
arising from the restatement have not submitted a specific claim for damages
and it is not possible for us to reasonably estimate the upper end of the range
of any additional losses that might result from an adverse resolution of the
civil securities litigation. We anticipate that the plaintiffs in that litigation
are likely to seek damages that are substantially greater than the estimated
range of minimum loss.
GSE Regulatory Oversight Legislation Update
As previously disclosed, we face an uncertain regulatory environment in light
of legislative reforms currently being considered. Committees in both the Senate
and the House of Representatives have now passed separate bills concerning GSE
regulatory oversight and amendments to these bills or other bills may be introduced.
The bills that have been passed by the Senate and House Committees differ in
various respects, although each in its current form would result in significant
changes in the existing GSE regulatory oversight structure.
We continue to believe that the enactment of certain of these legislative provisions,
depending on their final terms and how they are applied by our regulator, could
have a material adverse effect on our ability to fulfill our mission, our future
earnings, stock price and stockholder returns, the rate of growth in our fair
value and our ability to recruit and retain qualified officers and directors.
While we continue to work toward enactment of appropriate GSE regulatory oversight
legislation, we cannot predict the prospects for the enactment, timing or content
of any final legislation or its impact on our financial prospects.
Financial Reporting Update
As we return to regular quarterly financial reporting, our objective is to
continue to improve the timeliness of our releases and to file a timely minimum
capital report with OFHEO, that complies with GAAP, at the end of January 2006.
We also continue to anticipate beginning our registration process with the Securities
and Exchange Commission, for the purpose of registering our common stock under
the Securities Exchange Act of 1934, in the second quarter of 2006, and becoming
a 1934 Act registrant as soon as possible thereafter.
We also intend to present additional disclosures, relating both to our results
reported under GAAP as well as our reported fair value numbers. We believe these
disclosures, particularly those relating to our fair value, will provide a picture
of our results that is more reflective of how we manage the business than presented
through our reported GAAP financial results alone. We expect to begin presenting
these disclosures in early 2006, subject to our primary objective of returning
to timely financial reporting.
Additional Information
For more information, see our Consolidated Financial Statements accompanying
this release and our Core Tables, available on the Investor Relations page of
our Web site at www.FreddieMac.com/investors.
Additional information about Freddie Mac and its business is also set forth
in our Information Statement dated June 14, 2005 and related Information Statement
Supplements, available on the Investor Relations page of our Web site at www.FreddieMac.com/investors.
Freddie Mac encourages all investors and interested members of the public to
review these materials for a more complete understanding of our financial results
and related company disclosures.
Announcement of Conference Call and Webcast
We will host a conference call discussing today's announcement at 5:00
p.m. Eastern Time today. Domestic investors should call 1-877-209-9919 and international
investors can access the call at 612-332-0107. The conference call will be webcast
live on our Web site. During the call, our Chief Financial Officer, Martin F.
Baumann, will be referring to a slide presentation that we have posted on our
Web site. You can find a link to these slides at the end of our press release
on our Web site. We encourage you to have this presentation available so that
you can better follow Mr. Baumann's remarks during the call. A telephone
recording of this conference call will be available continuously beginning at
approximately 9:00 p.m. Eastern Time on August 31, 2005 until midnight on September
14, 2005. To access this recording in the United States, call 1-800-475-6701
and use access code 794413. Outside of the United States, call 320-365-3844
and use access code 794413.
The information in this press release and accompanying Consolidated Financial
Statements and Core Tables will be included in our Information Statement Supplement
dated August 31, 2005, which will be posted on the Investor Relations page of
our Web site.
Freddie Mac's press releases sometimes contain forward-looking statements
pertaining to management's current expectations as to our future business
plans, results of operations and/or financial condition. Management's
expectations for the company's future necessarily involve a number of
assumptions and estimates, and various factors could cause actual results to
differ materially from these expectations. These assumptions and factors are
discussed in our Information Statement dated June 14, 2005, which is available
on the Investor Relations page of our Web site at www.FreddieMac.com/investors.
Freddie Mac is a stockholder-owned company established by Congress in 1970
to support homeownership and rental housing. Freddie Mac fulfills its mission
by purchasing residential mortgages and mortgage-related securities, which it
finances primarily by issuing mortgage-related securities and debt instruments
in the capital markets. Over the years, Freddie Mac has made home possible for
one in six homebuyers and nearly four million renters in America.
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