The agency bond market widened one basis point by the middle of last week, even as the broader market continued its recent rally, after Fannie Mae's regulator released a report criticizing its accounting practices. The Office of Federal Housing Enterprise Oversight said it uncovered a series of concerns that undermine the "overall safety and soundness of the enterprise," including massaging earnings to reach bonus targets and improper hedge accounting.
Fannie's 4 5/8%s of '11, which were 49.75 basis points above 10-year Treasuries on Tuesday, widened to 51.25bps by Thursday morning. However, most of the impact was felt on the equity side, with the price of Fannie shares down 7% Wednesday. "The market is looking at this as Freddie Mac, Part II," said Carl Moerbe, senior agency strategist at Morgan Keegan, referring to the previous accounting investigation into the smaller government-sponsored enterprise.
To add fuel to the fire, the Securities and Exchange Commission is conducting an informal inquiry into the issues raised by the OFHEO report, according to a statement from Ann McLaughlin Korologos, presiding director of Fannie Mae's board of directors.
Officials from Fannie Mae and OFHEO declined comment.