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November 27, 2002
Freddie Mac's SHIP Sails Over the Stormy Seas of the Bear Market
    by William Baue

The Socially Responsible Housing Investment Program (SHIP) run by Freddie Mac earns positive returns while supporting low-income housing.

Investors are seeking ways to diversify their portfolios to squeeze returns from the current bear market. Social investors are no exception. Some fixed income vehicles are generating returns that rival or beat equity investments. One such vehicle that has been performing well while also supporting social equity is the Socially Responsible Housing Investment Program (SHIP) administered by the Securities Sales & Trade Group (SS&TG) at Freddie Mac (ticker: FRE).

"SHIP provides socially responsible investors with prudent fixed income investment opportunities to support affordable housing nationwide or in specific geographic areas of interest," said SS&TG Director of National Business Development Andrew Kelman.

SS&TG, which focuses exclusively on the mortgage securities market, is the single largest buyer of new-issue Freddie Mac securities from the mortgage banking community. Congress established Freddie Mac's predecessor, the Federal Home Loan Mortgage Corporation, in 1970. The corporation went public in 1988, and the name officially changed to Freddie Mac in 1997. The unique status of Freddie Mac is a selling point to investors.

"SHIP investments are backed by the full faith and credit of Freddie Mac, chartered by the federal government and a Fortune 500 company with solid financials," said Mr. Kelman.

SHIP offers two products: collateralized mortgage obligations (CMOs) and mortgage-backed securities (MBSs), also known as mortgage pass-though securities. The low-income housing mortgages are funded from the pool of invested SHIP money, and these fixed income vehicles repay investors a set interest rate. For example, a 6.5 percent security will make monthly payments from the 6.5 percent annual interest rate, guaranteed. Interest income decreases over the bond's duration in terms of absolute dollars paid to investors, as borrower repayment reduces the principal. CMOs are multiclass bonds that offer investors increased flexibility to select the desired bond duration.

Besides interest payments, investors reap the additional benefit of any mortgage prepayments, which "pass through" directly to the investors as returns on top of interest payments.

"Both our SHIP Collateralized Mortgage Obligation (CMO) and pass-through products provide added value due to the slow prepay characteristics of the underlying mortgages," Mr. Kelman told "Thus, yields are likely to be comparable to securities backed by mortgages that were not made to low income families."

SHIP investors received positive net returns on top of interest payments during the third quarter of 2002 on both CMOs (.366 percent) and MBSs (2.87 percent). As there is no management fee, these statistics represent actual net returns to investors. Year-to-date returns at the end of the third quarter amounted to 4.85 percent for CMOs and 8.81 percent for MBSs. Such attractive returns are available to institutional investors and retail investors alike.

"Traditionally, institutional investors have participated in SHIP through a direct relationship with Freddie Mac," said Mr. Kelman. "Retail investors can have their brokers and investment advisors contact Freddie Mac to arrange purchase of SHIP investments."

In addition to benefiting investors financially, SHIP products benefit low-income individuals and families, who often suffer financially from their reduced economic status.

"Too often, borrowers in low income areas who may have excellent credit nevertheless wind up with subprime mortgages and pay higher interest rates than they should," explained Mr. Kelman. "SHIP creates incentives for loan originators to find these borrowers (before they get subprime mortgages) and provide them with the low interest rate mortgages that their credit history entitles them to."


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