Wednesday, December 10, 2008

Executive Compensation and Market Share

I’ve previously argued the decision by Fannie and Freddie to stray from conforming conventional loans was attributable to their CEOs' desire to earn their pay by maintaining market share. Bloomberg, reporting on testimony by Dan Mudd, Fannie’s former CEO, before the House Oversight and Government Reform Committee:

A June 27, 2005, internal presentation by Fannie shows the company at a “strategic crossroad” to either “stay the course” or “meet the market” by increasing risk and entering the subprime market. In staying the course, Fannie noted that it would continue to lose market share, and generate lower revenue and profits. In meeting the market, the document shows that Fannie identified the subprime market as a source of growth. “The choice was presented relatively starkly in order to identify what the key issues were,” Mudd said in response to a question from Representative John Tierney, 57, a Massachusetts Democrat.

I see this as a compensation issue – you can’t reasonably expect executives being paid eight figure annual compensation to take actions (or refrain from actions) which will result in loss of market share.