CONCLUSION – SMALL ENOUGH TO FAIL?

Investors have been willing to purchase Farmer Mac discount and medium-term notes at an immaterial incremental yield to Fannie Mae and Freddie Mac securities. This is despite the fact that Fannie and Freddie notes offer substantially greater liquidity, receive the highest AAA rating by multiple rating agencies, and have underlying assets of much higher quality, diversification, and liquidity. We believe that the reason why Farmer Mac’s securities trade at comparable prices to Fannie Mae and Freddie Mac securities is that investors have done little research on Farmer Mac’s credit and rely on its so-called GSE “implicit guarantee.” As previously shown, however, by charter Farmer Mac must explicitly state that its securities are not in fact guaranteed by the U.S. government.

Based on our research on the issue, the notion of an “implicit guarantee” began in the 1970s. Nearly every mention of “implicit guarantee” in the media and in Congress is coupled with a discussion of how Fannie Mae and Freddie Mac are “too big to fail,” and how they have made a significant contribution to homeownership through their

dominance of the home mortgage market. In a letter written by Alan Greenspan to Rep.

Richard H. Baker (R-LA) on May 19, 2000, Mr.Greenspan states:

The lower borrowing costs of these institutions, of course, reflect the belief of purchasers of their debt that the government is unlikely to let a GSE fail. In part this perception results from these housing-related GSEs initially being established as federal government entities to carry out specific government policies, and that, despite their subsequent privatization, these institutions continue to have government missions, which confer upon them a special status in the eyes of many investors.

The three criteria that appear to be responsible for the perception that Fannie Mae and Freddie Mac have an implicit guarantee are: (1) Fannie and Freddie were originally established as federal government entities that were subsequently privatized; (2) they have accomplished and continue to accomplish their stated missions of creating liquidity in the U.S. housing market; and (3) they are too big to fail.

We do not believe Farmer Mac meets any of these criteria. In particular, Farmer Mac is not too big to fail. We believe this to be true because Farmer Mac has largely failed in its chartered mission to create an active secondary market in farm loans, and its assets are de minimis compared to Fannie and Freddie. In addition, with its guarantee products

covering less than 3% of the agricultural loan market, the company is largely irrelevant to the health of the agricultural lending market.

Unlike the home mortgage market, which is very dependent on Fannie’s and Freddie’s participation, the farm lending market is not dependent on Farmer Mac. The Farm Credit System has more than ample capital to provide farm loans on attractive terms to farmers.

Similarly, commercial banks and insurance companies continue to be active participants in farm lending.

In addition, we do not see any significant repercussions to the U.S. capital markets from a failure of an entity of the relatively small size of Farmer Mac. Enron was allowed to fail

despite its enormous size and its financial interconnectedness with numerous counterparties in the capital markets. Treasury Secretary O’Neill’s commentary on Enron’s failure is suggestive of his limited desire to rescue failing businesses with taxpayer funds. In a statement on January 11, 2002, he stated:

Companies come and go. It's part of the genius of capitalism. People get to make good decisions or bad decisions and they get to pay the consequences or enjoy the fruits of those decisions.

We believe that the Treasury department would be extremely averse to stepping in to save Farmer Mac because of the greater implications for Fannie and Freddie. In effect, a bailout of Farmer Mac would be tantamount to an acknowledgement by the Federal government that it guaranteed Fannie Mae’s and Freddie Mac’s debts.

In any case, the Treasury could protect investors who are relying on Farmer Mac’s AMBS guarantee as well as banks that are counterparties to the LTSPC guarantees without helping the equity or debt holders of Farmer Mac. The moral hazards of saving these risk-taking investors are obvious and significant.

In bank failures, the U.S. government has traditionally protected depositors who had an explicit guarantee. Stock and bond holders of these institutions, however, did not have this safety net and therefore suffered significant if not total losses. In the event of a financial crisis at Farmer Mac, we expect the same government policies to apply.

Caveat Emptor!

Endnotes

iFrom the 2001 10-K: The Underwriting Standards require, among other things, that the loan-to-value ratio for any Qualified Loan (other than a part-time farm loan and a loan on an agricultural facility with a related integrator contract) not exceed 70 percent. In the case of newly originated Agricultural Real Estate

Qualified Loans that are not part-time farm loans, borrowers must also meet certain credit ratios, including:

(1) a pro forma (after closing the new loan) debt-to-asset ratio of 50 percent or less; (2) a pro forma cash flow debt service coverage ratio on the mortgaged property of not less than 1:1; (3) a pro forma total debt service coverage ratio, including farm and non-farm income, of not less than 1.25:1; and (4) a pro forma ratio of current assets to current liabilities of not less than 1:1. In early 1998, Farmer Mac introduced a premium loan program for loans to highly creditworthy borrowers. Under that program, Qualified Loans meeting certain more stringent Underwriting Standards than the foregoing loan-to-value and credit ratios would qualify for guarantee at a lower fee than those applicable to loans not meeting the higher standards.

In 1999, Farmer Mac introduced a loan product for borrowers with high credit scores and whose security properties have low loan-to-value ratios. For these borrowers, loan processing has been simplified and documentation of the credit ratios described above is not necessary.

In the case of a seasoned loan (a loan that has been outstanding for five or more years), Farmer Mac considers sustained performance to be a reliable alternative indicator of a borrower's ability to pay the loan according to its terms. A seasoned loan generally will be deemed an eligible Qualified Loan if it has been outstanding for at least five years and has a loan-to-value ratio (based on an updated estimate of value) of 60 percent or less, and there have been no payments more than 30 days past due during the previous three years and no material restructurings or modifications for credit reasons during the previous five years.

Existing loans that have been outstanding for fewer than five years must comply with the Underwriting Standards for newly originated loans when the loan was originated.

In the case of Rural Housing Qualified Loans and Qualified Loans under the part-time farm program, up to 85 percent of the appraised value of the property may be financed if the amount above 80 percent is covered by private mortgage insurance. For newly originated Qualified Loans on part-time farm properties, the borrower must generate sufficient income from all sources to repay all creditors. A borrower's capacity to repay debt obligations is determined by two tests: (1) the borrower's monthly mortgage payment-to-income ratio should be 28 percent or less and (2) the borrower's monthly debt payment-to-payment-to-income ratio should be 36 percent or less.

ii The Corporation (and affiliates) may issue debt obligations solely for the purpose of obtaining amounts for the purchase of any securities under paragraph (1) [securities that “represent interests, or obligations backed by, pools of qualified loans.”], for the purchase of qualified loans (as defined in section 8.0(9)(B)), and for maintaining reasonable amounts for business operations (including adequate liquidity) relating to activities under this subsection. [Title VIII of the Farm Credit Act of 1971as amended 12 U.S.C. 2279aa et seq. [Emphasis added.]

iii It is interesting to compare the 2001 10-K disclosure with the 2000 10-K which states:

As of December 31, 2000, Farmer Mac had investments comprised of commercial paper, corporate debt securities and asset-backed securities outstanding with 78 entities totaling $637 million, of which 20 exceeded 10 percent of Farmer Mac's stockholders' equity (the cumulative balance of investments in such entities totaled $315 million), but none of which exceeded 15 percent of stockholders' equity. In addition, at December 31, 2000, Farmer Mac held $470.8 million of securities issued by GSEs or agencies of the U.S.

government and $230.1 million in money market investment accounts, with the maximum amount held in any one money market investment fund at any time during 2000 being approximately $141 million.

[December 31, 2000 10-K10-K, emphasis added.]

iv The policy is outlined in the December 31, 2001 10-K:

The credit risk inherent in other investments held by Farmer Mac is mitigated by Farmer Mac's policy of establishing concentration limits and investing in highly-rated instruments, which reduce exposure to any one counterparty. Farmer Mac's policy limits the Corporation's total credit exposure to a single entity by limiting the dollar amount of investments with one entity, excluding GSEs and agencies of the U.S. government, to the greater of 25 percent of Farmer Mac's regulatory core capital or $25 million. The policy also requires the entity to be rated in one of the three highest rating categories of at least one nationally recognized statistical rating organization for investments with terms greater than 270 days and in one of the two highest rating categories for investments with terms of 270 days or less.

v When we first began our research on Farmer Mac, we examined the trading prices of Farmer Mac on Bloomberg by typing the following commands: FAMCA Corp Go, and a list of the company’s securities appeared. In addition to coupon and maturity, the table of securities includes a column labeled “RTNG”

which stands for credit rating. In this column up until February 20, 2002, all of Farmer Mac’s securities were listed as AAA. Typing DES to obtain a more detailed description on any of the securities on the list gave further detail indicating that Farmer Mac was rated Aaa by Moody’s.

One of the brokers with whom we made a bearish investment on the company called Moody’s to get a copy of the Farmer Mac rating report. The representative at Moody’s said that they had never heard of the company, and certainly did not rate it. This prompted the broker to call Bloomberg to ask why the securities were listed as AAA Moody’s-rated on Bloomberg. The Bloomberg ratings representative said that the “issuer told us that it was rated Aaa.” The broker informed Bloomberg that Moody’s did not, in fact, rate the securities of Farmer Mac, and shortly thereafter, in the RTNG column on Bloomberg Farmer Mac’s securities are described as “NR” or not rated as it continues to specify today.

While we did not speak to this representative at Bloomberg directly, the broker that had the conversation is someone whom we trust implicitly. He works for one of the most highly regarded, bulge-bracket

investment firms on Wall Street. We do not doubt the veracity of his statements.

Despite the fact that Farmer Mac’s securities are unrated, they trade as if they were. The spread between Fannie, Freddie and Farmer is typically fewer than 10 basis points on even longer-term paper. For example, Farmer Mac’s 5.4% of October 2011 closed on May 8, 2002 at a yield to maturity of 5.87%

versus Fannie Mae’s 5 3/8 of 11/11 which closed on the same day at a yield to maturity of 5.79%, an eight basis point spread.

vi “Certain Relationships and Related Transactions

John Dan Raines is a member of the Board of Directors of AgFirst Farm Credit Bank ("AgFirst"), a Farm Credit System institution with which Farmer Mac and Fannie Mae have entered into a joint arrangement for the pooling of Rural Housing Qualified Loans. Under the arrangement, AgFirst purchases eligible Rural Housing Qualified Loans for pooling through the Farmer Mac I program and Farmer Mac guaranteed securities issued in connection therewith are to be purchased by Fannie Mae with a guarantee fee payable by AgFirst to Farmer Mac and Fannie Mae. During 2001, Farmer Mac guaranteed securities having an aggregate principal amount of approximately $223.9 million were issued under the arrangement among AgFirst, Fannie Mae and Farmer Mac. AgFirst also acts as a central servicer and contract underwriter for Farmer Mac in the Farmer Mac I program. During 2001, AgFirst received approximately $99,700 in fees as a central servicer and $17,000 in fees as a contract underwriter.

Kenneth E. Graff is the President of Farm Credit West, ACA, which is the successor to Central Coast Farm Credit. Central Coast Farm Credit acted as a central servicer in the Farmer Mac I program. During 2001, Central Coast Farm Credit received approximately $221,000 in servicing fees as a central servicer.

Peter T. Paul is a director of GreenPoint Financial Corp., an affiliate of GreenPoint Mortgage, which acts as

a central servicer in the Farmer Mac I program. During 2001, GreenPoint Mortgage received approximately

$30,750 in servicing fees as central servicer.

From time to time, Farmer Mac purchases, or commits to purchase, Qualified Loans under the Farmer Mac I program and Guaranteed Portions under the Farmer Mac II program from institutions that own five percent or more of a class of Voting Common Stock or that have an officer or director who is a director on the Farmer Mac Board. These transactions are conducted in the ordinary course of business, with terms and conditions comparable to those applicable to lenders unaffiliated with Farmer Mac. In 2001, Farmer Mac purchased: (a) 206 Qualified Loans having an aggregate principal amount of approximately $90.8 million from Zions (Zions is the holder of approximately 32% of Farmer Mac's Class A Voting Common Stock and W. David Hemingway, a Class A director, is Executive Vice President of Zions and its holding Company);

and (b) one Qualified Loan having a principal amount of approximately $185,000 from AgFirst (John Dan Raines, a Class B director, is a member of the Board of Directors of AgFirst). In 2001, Farmer Mac guaranteed: (a) through a long-term standby purchase commitment with AgFirst, 1,404 Qualified Loans having an aggregate principal amount of approximately $213.3 million; (b) through a long-term standby purchase commitment with AgStar Farm Credit Services, two Qualified Loans having an aggregate principal amount of approximately $94,700 (Paul A. DeBriyn, a Class B director, is President and Chief Executive Officer of AgStar Farm Credit Services); and (c) through a long-term standby purchase

commitment with Central Coast Farm Credit, 446 Qualified Loans having an aggregate principal amount of approximately $349.4 million (Kenneth E. Graff, a Class B director, is the President of Farm Credit West, the successor to Central Coast Farm Credit). The principal amount of Guaranteed Portions that Farmer Mac purchased under the Farmer Mac II program from director-affiliated institutions or five percent or greater stockholders was approximately 10.6% of that program's volume in 2001. During 2001, Farmer Mac (a) entered into Farmer Mac II transactions with Zions involving Farmer Mac's purchase of Guaranteed Portions or the issuance of Farmer Mac II guaranteed securities backed by Guaranteed Portions in an aggregate principal amount of approximately $16.2 million (8.2% of the program's total); and (b) purchased 26 Guaranteed Portions having an aggregate principal amount of approximately $4.7 million (2.4% of the program's total) from Bath State Bank (Dennis L. Brack, a Class A director, is the President and Chief Executive Officer of Bath State Bank).

In addition to its participation as a seller of loans in the Farmer Mac programs, Zions also acts as a dealer in Farmer Mac's discount and medium-term note programs; is a counterparty to Farmer Mac on certain interest rate swap transactions; and acts as a central servicer and contract underwriter for Farmer Mac in the Farmer Mac I program. See "Compensation Committee Interlocks and Insider Participation" for

quantitative information concerning Zions' contractual relationships with Farmer Mac.”

vii “5 members shall be appointed by the President, by and with the advice and consent of the Senate - (i) which members shall not be, or have been, officers or directors of any financial institutions or entities;

(ii) which members shall be representatives of the general public;

(iii) of which members not more than 3 shall be members of the same political party; and

(iv) of which members at least 2 shall be experienced in farming or ranching.” [Farmer Mac Charter.]