Sept. 27 (Bloomberg) -- Fannie Mae Chief Executive Officer Daniel Mudd said the housing slump will last beyond next year, dragging down home prices and increasing credit losses.

``We don't think we hit a bottom until the end of '08 and then we have some period of time to work our way back up again,'' Mudd said today in an interview in Washington.

The outlook from Fannie Mae, the largest source of money for U.S. home loans, is more bearish than that of the National Association of Realtors, which this month predicted new home sales will stop falling in the first quarter of 2008. Pessimism about the housing market is growing as prices fall and demand declines. Purchases of new homes in the U.S. dropped more than forecast in August and prices plunged by the most in almost four decades, the Commerce Department said today in Washington.

U.S. home prices will fall 2 percent to 4 percent this year, and ``more next year,'' Mudd said.

Mudd is right to be concerned, said Jim Vogel, head of agency debt research at FTN Financial in Memphis, Tennessee.

The prediction ``isn't too negative at all,'' Vogel said. ``The infrastructure damage to mortgage finance this year has been breathtaking.''

Congress created Fannie Mae and McLean, Virginia-based Freddie Mac, the second-largest U.S. financer of home loans, to expand home ownership and promote mortgage-market stability. The companies, which increase mortgage financing by purchasing home loans from lenders, own or guarantee about 40 percent of the $11.5 trillion U.S. home loan market.

Market Drag

The risk of owning corporate bonds rose as Mudd's comments and the home sales data aggravated concerns that the housing slump will drag down the economy. The CDX North America Investment Grade Index, a benchmark for the cost to protect bonds from default, rose 0.75 basis point to 52.75 basis points, according to Deutsche Bank AG in New York.

``Mudd did nothing to help matters today by commenting that the housing slump might go on for years,'' Tim Backshall, chief strategist at Credit Derivatives Research LLC in Walnut Creek, California, said in a commentary.

Fannie Mae rose 41 cents to $62 in New York Stock Exchange composite trading. The stock has gained 4.3 percent this year, trailing an 8 percent increase in the Standard & Poor's 500 Index.

Losses Will Rise

The slump, and record foreclosure rates, will increase credit losses at Fannie Mae, Mudd said in the interview. The company had about 25,125 foreclosed properties on its books at the end of last year.

Credit losses have risen to as much as 6 basis points from a ``very, very low'' level of around 2 basis points, Mudd said. ``We're back in a normal historical range.''

Falling housing prices, particularly in the Midwestern U.S. states, drove credit loses to 2.7 basis points of the company's total book in 2006, Fannie Mae said last month. A basis point is 0.01 percentage point. Credit-related expenses rose 83 percent as the cost of foreclosed property increased.

Home purchases declined 8.3 percent to an annual pace of 795,000, the lowest level in more than seven years, from a revised 867,000 rate in July, the Commerce Department said. The median price dropped 7.5 percent from August 2006, the most since 1970.

Meeting Requirements

Fannie Mae may meet all the requirements for a release of regulatory constraints on growth and reserve capital by filing timely results in February, Mudd said.

``If we get everything done that we need to get done between now and filing of '07 on time, which would happen in February, I think we would have completed all the things on the tick list'' in a regulatory consent order signed in May 2006, he said.

The Office of Federal Housing Enterprise Oversight imposed the restrictions after disclosures in 2004 that it overstated earnings by $6.3 billion. Ofheo has said it won't lift constraints on Fannie Mae and Freddie Mac until they file regular financial reports.

Fannie Mae's consent order requires it to revamp corporate governance, compensation policy, accounting and internal controls. The company also must strengthen oversight of lobbying and determine the responsibility of executives and board members for the flawed accounting.

`Marched Through'

Fannie Mae has ``marched through'' satisfying most of 80 requirements in the order ``and the big gate at the end of this is that we are a current filer and we have cleaned up our finances,'' Mudd said.

Ofheo raised a limit on the mortgage assets of Fannie Mae and Freddie Mac on Sept. 19 to $735 billion for the third quarter and granted a 2 percent increase in the assets over the next year. ``Many safety and soundness issues are not yet resolved'' at the two government-chartered companies, Ofheo said.

Mudd sought an increase in the cap to 10 percent.

``Let's loosen this up a little bit and give us a chance to respond in a market where all the other investors have gone away,'' Mudd said. ``We're not the whole solution to this problem but we can certainly play a part.''

Legislation that passed the House in May creating a stronger regulator for Fannie Mae and Freddie Mac ``is a pretty good bill'' that ``needs some clarifications and some improvements,'' Mudd said.

The legislation would give a new regulator greater authority to alter capital reserve requirements, reduce the combined $1.5 trillion mortgage assets of the two companies. The Senate hasn't yet considered such a measure this year.

To contact the reporter on this story: Peter Cook in Washington at pcook6@bloomberg.net; James Tyson in Washington at jtyson@bloomberg.net

Last Updated: September 27, 2007 16:38 EDT