Stocks of Fannie Mae and Freddie Mac fell to their lowest levels of the year last week.

Investors sold off shares in response to rising rates and fears that the two government-sponsored enterprises were becoming too big, according to a research note by Thomas O'Donnell, a Salomon Smith Barney analyst.

"When rates go up, the stocks come down rather in knee-jerk fashion," Mr. O'Donnell said.

From the beginning of the year through Aug. 13, Freddie Mac's shares fell 18.5% and Fannie's 13.4%. This week they regained some ground; at midday Thursday, Fannie's stock was trading at $63.9375 and Freddie's at $53.4375.

Freddie's stock was more susceptible to profit taking because of its 1998 performance. The shares rose 42% in 1998, compared with 30% for Fannie Mae's, Mr. O'Donnell noted. Freddie also had a higher price-earnings multiple, but now both companies have similar multiples, he added.

Despite last week's selling, Wall Street analysts maintained that the two biggest buyers of home loans would be able to maintain profitable enterprises. "Over the next three to five years, EPS growth and profitability will not present serious problems for the GSEs," Mr. O'Donnell said.

Ellen Goldberg, vice president for investor relations at Fannie Mae, said financial stocks are "somewhat out of favor." She said Fannie expects to have no problem expanding its mortgage portfolio over the next five years, without adversely affecting spreads or profitability.

At Freddie Mac, Bill Stephens, vice president for shareholder relations, said Freddie can "grow in all interest rate environments." He said Freddie's main areas of growth would be the A-minus and alternative-A markets.

In addition to concern over the dropoffs in originations and refinancings, some investors are also reacting to the pickup in adjustable-rate mortgage originations. This is an area where Fannie and Freddie do not have as much of a share in new originations, said David Hochstim, an analyst for Bear, Stearns & Co.

"To the extent that the marginal investor views them as interest-sensitive, then the stocks will probably remain under some pressure," Mr. Hochstim said. But over time, he said, the stocks will exhibit a "high rate of earnings growth," despite fluctuations in the companies' mortgage portfolio growth. Mr. Hochstim has maintained a "buy" rating on both companies.

Fannie and Freddie also have relative price-earnings ratios that are at an "unusually low level" and should be higher, given their earnings records, Mr. Hochstim said.

Analysts say they do not share investors' concern that the companies have become too large to handle the impact of rising interest rates and reduced mortgage volume. "They have the resources and the innovations to be able to grow the portfolio," Mr. O'Donnell said.

Fannie and Freddie are both developing "higher-yielding asset classes" to build their mortgage portfolios, he said, adding that they will also increase their use of risk-based pricing as they continue to move into the home equity, less-than-prime, immigrant, and minority markets.

Mr. O'Donnell predicted that Fannie and Freddie would continue to focus on their on-balance-sheet business rather than on their mortgage-backed securities business, especially as they move more aggressively into underserved markets and risk-based pricing.

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