DBRS, Inc. (Morningstar DBRS) has assigned initial credit ratings to Federal Home Loan Mortgage Corporation (Freddie Mac or the Company), including a Long-Term Issuer Rating and Long-Term Senior Debt credit rating of AAA.

The trend on all ratings is Stable. The Company's position under conservatorship and the strong implicit support from the U.S. federal government results in Freddie Mac's final credit ratings being equalized with the Long-Term Local Currency Issuer Rating of the United States of America (the U.S.), as well being assigned a SA1 Support Assessment.

KEY CREDIT RATING CONSIDERATIONS

Despite the lack of an explicit guarantee from the U.S. government, the Long-Term Issuer Rating of Freddie Mac is equalized with the sovereign rating of the U.S. reflecting the very strong and ongoing systemic support in place from the U.S. government. In our view, Freddie Mac is essential to the functioning of the U.S. housing finance market given its scale and critical function it serves, as well as its irreplicable market position, access to funding commitment from the U.S. Treasury, and conservatorship status under the Federal Housing Finance Agency (FHFA).

Freddie Mac is of high systemic importance given its role in supporting the very large U.S. housing finance ecosystem, which would likely experience higher levels of volatility in the absence of this support, resulting in more severe/disruptive systemic shocks across the broader U.S. economy in times of stress. This essentiality was demonstrated by the successful performance of the Government-Sponsored Entities (GSEs) when private secondary market liquidity for residential mortgage-related assets evaporated during the 2008/2009 financial crisis and the COVID-19 pandemic. The Company's strong market position (the two housing GSEs effectively operate as a duopoly) is also a consideration given its entrenched market position and scale economies (driven by its large established platform). There are currently no other entities that could readily perform this specific role outside of the two housing GSEs, in our view.

Freddie Mac's position, not only in the U.S. housing market but the global debt capital markets, was also considered in the assessment of the Company's essentiality. The debt of the Company is widely held throughout the global financial system, likely incentivizing the U.S. government to help avoid any defaults given the likely repercussions. Indeed, as of April 3, 2024, the U.S. Federal Reserve Bank held $2.4 trillion (32% of the Fed's total balance sheet and second only to U.S. Treasuries of $4.6 trillion) of agency debt and agency MBS.

We also consider Freddie Mac's high degree of access to financial support given its existing funding commitment from the U.S. Treasury that allows the Company to draw funds should net worth turn negative. Although there is a limit to what remains drawable ($140.2 billion as of YE23), continued support from the U.S. government is assumed to be timely should the need arise. Freddie Mac also has strong government oversight given its conservatorship status under the FHFA. Although there are no government officials on the Company's Board of Directors, the FHFA reconstituted the Board after becoming conservator, directing the Board to owe its fiduciary obligations solely to the FHFA (and not to the Company or shareholders). Any new product offerings also require FHFA approval, effectively limiting the scope of the Company's current and future business activities.

The Stable trend primarily reflects that of the U.S. sovereign credit rating. Given the size of capital required to meet regulatory capital standards put in place in 2021 and the current U.S. housing market that is facing substantial headwinds, we foresee Freddie Mac remaining in conservatorship for the length of the credit rating outlook period.

CREDIT RATING DRIVERS

Given the current credit ratings of Freddie Mac are at the highest level in our long-term rating scale, there is no potential for a credit ratings upgrade. Conversely, the credit ratings would be downgraded should we lower the Long-Term Local Currency - Issuer Rating of the United States. The credit ratings would also be downgraded should we view the support from the U.S. Treasury to have been diminished, or the expectation of support to be less timely.

CREDIT RATING RATIONALE

Franchise Strength

Freddie Mac's federal charter and status as a GSE are key to its franchise. Chartered in 1970 by an act of Congress, Freddie Mac was established to create a liquid and stable secondary market for U.S. residential and multi-family mortgages. Freddie Mac does not originate or service mortgage loans but rather aggregates these loans via purchase from financial institutions (banks and non-banks) thereby providing liquidity, stability, and affordability to the U.S. housing market. Subsequent to the purchase of the loans, Freddie Mac packages these loans into mortgage-related securities and guarantees the principal and interest payments of these securities thereby eliminating credit risk to third-party investors. As of December 31, 2023, Freddie Mac guaranteed $3.0 trillion of single-family residential mortgages, or approximately 22% of all U.S. residential mortgage debt outstanding, reflecting a significant share of the market and the scale of its operations.

Freddie Mac operates across two business segments (single family and multifamily), with single family accounting for the majority of net revenues (86% in 2023). Given its status as a GSE, the Company requires FHFA approval prior to any new product offerings, resulting in limitations on its current and future business activities.

Earnings Power

Freddie Mac's earnings power is significant but also can be volatile given its linkage to the cyclical U.S. housing market and exposure to movements in interest rates. Freddie Mac's revenues are predominately sourced from the guarantee fees received for managing the credit risk on loans underlying the Company's agency MBS. Indeed, guarantee net interest income accounted for 74% of 2023 total net revenues. Revenues are also predominately from the single-family segment, which accounted for 86% of 2023 revenues.

The Company reported 2023 net income of $10.5 billion (up 13% YoY) as the strength of home prices drove a $872 million credit reserve release for the year compared to a $1.8 billion provision for credit losses in 2022. Modest growth in the single-family portfolio drove a 3% increase in net interest income. Given rising mortgage rates in 2023, Freddie Mac saw significantly lower single family volumes across both purchase and refinance mortgages. Single family acquisitions decreased by approximately 45% YoY to $300 billion, while multifamily loan acquisition volume was down 34% YoY to $48 billion in 2023. Results were also impacted by a material decline in investment gains from elevated levels in the comparable period a year ago. We expect 2024 earnings to be modestly higher given the anticipation the U.S. housing market set a trough in 2023 for existing and new home sales, which should support subdued growth in origination volumes.

Risk Profile

Freddie Mac has a comprehensive enterprise risk management system that is designed to monitor and mitigate the Company's exposure to credit risk, market risk and operational risk. The Company is exposed to both national and regional housing downturns given its sizeable share of the U.S. housing market. Nonetheless, the Company's single-family guarantee book is geographically diversified, and credit has remained strong with the serious delinquency rate (SDQ) remaining near historical lows of 55 basis points (bps) at YE23. Credit has also remained relatively benign in the Company's well-diversified multifamily guarantee book, though SDQs have recently ticked up slightly from 12 bps at YE22 to 28 bps at YE23, largely driven by stress in senior housing loans. The Company transfers a portion of its single-family credit risk to third parties through the use of mortgage insurance and credit risk transfer transactions, and utilizes credit enhancements (both front-end and back-end) across its multi-family credit exposures. While these risks are managed appropriately, we expect credit losses in the residential mortgage portfolio to increase in 2024 given the outlook for a potentially slowing of economic activity with higher for longer interest rates and rising unemployment.

The Company has sound operational risk oversight, and has maintained a good track record of identifying and managing these risks. Cybersecurity risk has significantly increased in recent years and the Company has, from time to time, been the target of attempted cyber-attacks. However, there have been no reported breaches to date.

Funding and Liquidity

Freddie Mac has a broad and deep funding base comprised of a wide range of securities tailored to meet the needs of virtually every type of investor across the globe. As of December 31, 2023, Freddie Mac had $3.2 trillion of debt outstanding, with 94.8% of the debt comprised of securitization debt resulting in a highly encumbered balance sheet. However, given that the agency MBS amortize with the underlying residential mortgages, the Company's funding is considered well-aligned with the asset base. The remaining funding is issued as unsecured corporate debt, the majority of which is fixed rate, with maturities that are laddered appropriately.

Freddie Mac maintains a solid liquidity position underpinned by a well-designed liquidity management framework as well as contingent liquidity plan. However, in a severely stressed operating environment, Freddie Mac is unlikely to meet its sizeable liquidity requirements without support from the U.S. Treasury. Liquidity is supported by the remaining available funding commitment under the Purchase Agreement, which totaled $140.2 billion as of YE23. The Company also had $148.5 billion of liquid assets, including $124.1 billion in its Liquidity and Contingency Operating Portfolio, and an additional $24.4 billion of mortgage loans and mortgage-related securities that could be pledged or sold for liquidity purposes.

Capitalization

Freddie Mac's capitalization has gradually improved over the last three years but continues to be materially below regulatory requirements. While Freddie Mac is subject to the enterprise regulatory capital framework (ECRF) set by the FHFA, its capital requirements have been waived during conservatorship. Freddie Mac had a GAAP positive net worth of $47.7 billion as of year-end 2023, however, the ERCF excludes the stated value of the senior preferred stock ($72.6 billion) as well as a portion of deferred tax assets, resulting in the Company being significantly undercapitalized. Indeed, at YE23, the shortfall to adjusted capital requirements totaled $139.0 billion, with the Company reporting negative regulatory capital ratios given deficit for each tier of capital.

ENVIRONMENTAL, SOCIAL, AND GOVERNANCE CONSIDERATIONS

Credit rating actions on the United States of America are likely to have an impact on this credit rating. ESG factors that have a significant or relevant effect on the credit analysis of United States of America are discussed separately at https://dbrs.morningstar.com/issuers/12866, However, there were no Environmental/Social/Governance factors that had a significant or relevant effect on the credit analysis.

A description of how Morningstar DBRS considers ESG factors within the Morningstar DBRS analytical framework can be found in the Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at (January 23, 2024) at https://dbrs.morningstar.com/research/427029/morningstar-dbrs-publishes-updated-methodology-for-approach-to-environmental-social-and-governance-risk-factors-in-credit-ratings.

Notes:

All figures are in U.S. dollars unless otherwise noted.

The principal methodology is the Global Methodology for Rating Non-Bank Financial Institutions (September 1, 2023): https://dbrs.morningstar.com/research/420144/global-methodology-for-rating-non-bank-financial-institutions. In addition, Morningstar DBRS uses the Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings https://dbrs.morningstar.com/research/427030 in its consideration of ESG factors.

The following methodologies have also been applied:

Global Methodology for Rating Government-Related Entities (February 27, 2024): https://dbrs.morningstar.com/research/428633/global-methodology-for-rating-government-related-entities

The credit rating methodologies used in the analysis of this transaction can be found at: https://dbrs.morningstar.com/about/methodologies.

The primary sources of information used for this credit rating include Morningstar, Inc, U.S. Federal Reserve,. Federal Housing Finance Agency and company documents. Morningstar DBRS considers the information available to it for the purposes of providing this credit rating was of satisfactory quality.

The credit rating was not initiated at the request of the rated entity.

The rated entity or its related entities did not participate in the credit rating process for this credit rating action.

Morningstar DBRS did not have access to the accounts, management, and other relevant internal documents of the rated entity or its related entities in connection with this credit rating action.

This is an unsolicited credit rating.

This credit rating is endorsed by DBRS Ratings Limited for use in the United Kingdom, and by DBRS Ratings GmbH for use in the European Union, respectively. The following additional regulatory disclosures apply to endorsed ratings:

This credit rating concerns a newly rated issuer. This is the first Morningstar DBRS credit rating on this issuer.

With respect to FCA and ESMA regulations in the United Kingdom and European Union, respectively, this is an unsolicited credit rating. This credit rating was not initiated at the request of the issuer.

With Rated Entity or Related Third-Party Participation: NO

With Access to Internal Documents: NO

With Access to Management: NO

The conditions that lead to the assignment of a Negative or Positive trend are generally resolved within a 12-month period. Morningstar DBRS' outlooks and credit ratings are monitored.

For further information on Morningstar DBRS historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: https://registers.esma.europa.eu/cerep-publication. For further information on Morningstar DBRS historical default rates published by the Financial Conduct Authority (FCA) in a central repository, see https://data.fca.org.uk/#/ceres/craStats.

Lead Analyst: David Laterza, Senior Vice President, Sector Lead, North American Financial Institution Ratings

Rating Committee Chair: Michael Driscoll, Managing Director, North American Financial Institution Ratings

Initial Rating Date: April 18, 2024

For more information on this credit or on this industry, visit dbrs.morningstar.com.

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