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Until/if Berkowitz says something publicly, his "sale" of commons remains just a rumor to me. But I can explain why he might favor preferred shares over commons. Fairholme in their initial court filing states they took a position in FNMA pfd stock after Amendment 3 was imposed on August 17, 2012. So if you go back and look at daily volume during that time period, this infers he acquired most of his shares at a cost range of between $1 and $1.50. With me, so far?
So I can't guess on how much he bought or which pfd series he amassed, so I'll just use FNMAS as a representative example since I am most familiar with it as a shareholder. FNMAS has a par value of $25. That is its liquidation preference in any declared receivership, subject to asset and reserve values available to liquidate a settlement. So, it could be less than $25. Bu a share bought for around an average of $1.25 would be a ten bagger at 50% of par, so not all that shabby a return.
But then there is the JPD which is pegged to par when authorized and paid. FNMAS carries an 8.25% coupon rate for a full coupon jpd which would be $2.06/annum. For Fairholme, its annual full divvy equals 165% of the share acquisition cost. Per annum. Plus whatever par value equates to in any receivership, or, a full $25 par value if ever redeemed.
Now think about a Delaware victory where dividends for JPD could be restored, fully or at least partially since spd were paid to UST during the period 2008 to date. Fairholme could be awarded 3 1/2 years of jpd @ $7.21 retro to purchase date... or... $16.48 for the entire conservatorship period, depending on ruling. Remember, these divvies are on top of the liquidation/redemption value. Sounds a lot more profitable to me than Ackman's estimate that common shares might see a $20 share price.
JMHO.
"Conserve and preserve" applies to the enterprise, not shareholder interests. Judge Millett just recently affirmed this.
Nowhere in HERA does it state that a requirement for the conservator is to recapitalize the GSEs. Capital is necessary to grow the asset base. But it is not necessary to keep FnF solvent or even profitable by harvesting its existing portfolio and from its guarantee fees. The mortgages it has acquired live on for 30 years in a wind down scenario which can progress quite nicely without additional capital, and actually may benefit from loan retirements that free up loss reserves that expire.
JMHO.
This is an all or nothing fallacy. Of course the GSE Act clearly states that you cannot imperil the enterprise by paying dividends for which funds are insufficient. But what it does NOT say is that you cannot pay some dividends to both JPD and SPD shareholders that are within the enterprise's ability to pay. And if my sense is correct that Delaware Corporate Law prohibits discrimination against one class of dividend claimants over another, part of what was paid to UST under the 10% earlier arrangement or under the sweep in Amendment 3 must be paid back and distributed to JPD stockholders. If you pay one, you must pay all in the preferred class.
This isn't really all that hard to see.
I am not confusing debt with equity, you are. You stated earlier that senior dividends had priority for payment over junior preferred dividends. I said that was untrue, except in liquidation. With debt repayment, senior and junior debt must all be paid, as due, or the enterprise goes into default. It is illegal to claim you aren't in default because you paid your preferred debt, so that is good enough. If junior preferred debt declares a payment default, the entire organization goes into receivership.
These are common issues in reorganization law and ones I am well familiar with over many, many years.
JMHO.
I just added substantially to my Fannie Mae position based on this thesis of upcoming action in the Delaware courts. 8.25% JPD coupon. $25 par. No redemption trigger for 2+ years on "S" series. Easy money. Less risk with liquidation preference and possible receivership showdown at the end of 2017. And, most important, LIGHT at the end of the long, dark legal tunnel. This is the shortcut to daylight. I don't want to wait another 8 years and come up with nothing, or wind up in a liquidation scenario with insufficient equity to recover par value.
For me, this is The Golden Ticket in trading distressed stocks.
JMHO.
I am looking at the Delaware Fannie Mae case from the vantage point of extensive personal experience with the Federal Bankruptcy Court in Wilmington, Delaware as well as the Delaware Court of Chancery. This experience spans many years of investing in distressed companies, as a few here can attest to from shared experience in matters involving Dendreon, Exide, American Airlines, Rotech Healthcare, Kodak, General Motors, etc.
I do not believe it is legal in Delaware to exclude one class of preferred shareholders from dividends, deciding to give all of them to someone else. If true, Amendment 3 does not have to be overturned, just modified to provide equal treatment under the law to junior preferred shareholders. This could be quick and easy to get a ruling because it would require no evidence, documents or discovery. The facts are not in dispute. SPD got paid and JPD got stiffed. Simple question of law to determine outcome.
JMHO.
I will put the senior vs. junior debate in focus for you. The treatment of dividends is exactly the same as the treatment of secured bank debt. The rights of senior preferred debt holders take priority over junior preferred debt holders in cases of insolvency and either reorganization or liquidation. Until such an event is triggered, both senior and junior debt must be paid to avoid default. The same principle applies to senior vs. junior preferred dividend payments.
You are correct that no dividends MUST be paid. However, the applicable covenant that applies here is the GSE Act of 2002 and its provision that precludes payment of any dividend that would imperil Fannie or Freddie's capital solvency. If a payment is authorized on SPD to Treasury, a commensurate payment should be made to JPD shareholders.
You cannot arbitrarily decide who to give dividends to and who to exclude. People are entitled to equal treatment under the law.
JMHO.
Yes, navycmdr, I believe that paying the UST a preferred dividend on Senior Preferred shares without an equal and comparable, offsetting dividend on Junior Preferred shares may well be a slam dunk violation of Delaware State corporate law. The law does not seem likely to favor discrimination of one pfd share over another pfd share; they must be treated on an equivalent basis, at least at first blush interpretation.
This could easily lead to a huge resolution for many disputes in the Fanniegate saga. Amendment 3 could continue with a shared distribution with UST in all forward payments, and any penalties assessed simply would be retroactive payments to Junior Preferred shareholders to equalize their unfair treatment under discrimination. Then the other "legal limbo" issues can just slog their way through the courts and eventually get resolved (or dumped) after all the dust settles with discovery wrangling and motion/counter-motion jostling.
JMHO.
Yes, we agree.
For me personally, that would likely be correct.
State court jurisdiction = JPD jackpot.
Bye-bye commons!
The debate over Fannie Mae commons vs. Fannie Mae preferred shares is an integral part of the discussion regarding investing in the company, Fannie Mae. It is the same company with multiple iterations, also to include FMCC that is also routinely discussed here (with good cause as an interrelated GSE) but which never gets questioned.
FNMAS is a superior investment choice than FNMA, IMHO. I have expressed much rationale for why I feel that way.
JMHO.
If Fanniegate moves from Federal to state courts for adjudication, the biggest risk is not to common vs. preferred shareholders for getting unequal treatment and remedies. The much larger risk is that state laws in Delaware that govern Fannie Mae are a LOT different than state laws in Virginia that govern Freddie Mac.
I have studied Delaware law and concluded that preferred dividends that only pay SPD to Treasury and stiff JPD paid to preferred stockholders is likely to be ruled illegal. I think this issue could be a slam dunk for a quick, easy and substantial payoff for Fairholme, Perry, Glen Bradford, and other PFD holders, including me, under Delaware state law. I have not studied Virginia state law, so who knows about any reward for Freddie Mac shareholders of either garden variety, common or preferred?
Any "divide and conquer" strategy would be one driven by hedge funds recasting plaintiff tactics to enhance their own wealth with a mimimum further investment in legal costs that might only benefit others. Such actions might be considered somewhat Machiavellian, but wholly consistent with hedge fund's stated loyalty which is... first, last and always... to THEIR investors, not some do-gooder mantra of protecting penny-flipper's portfolios.
JMHO.
Amended Delaware case may be moving into an entirely new direction. I believe the complaint may be refocused on preferred dividends and a violation of Delaware State law by paying senior preferred dividends under conservatorship but not paying junior preferred dividends during the same time period. Rather than overturning either the initial 10% dividend against draws or the Amendment 3 100% later provision, both tough deals for the court to agree upon, simply restore the JPDs during the period of discrimination from Q3/2008 to date.
Such action would remove all the peripheral garbage, discovery and conspiracy theory driven rhetoric about secret inside deals and cabals between government and TBTF banks and give the court s simple "go" or"no go" relief from the mainstream Fanniegate circus midway.
It is time for something intelligent and reconcilable to emerge from the 8 year long ordeal. Such action would restore preferred share S/P's to near original par and satisfy most of the demands from Jacobs, Hindes... Fairholme... Perry... and even Pagliara... all concentrated in preferred stock holdings in Fannie. This would leave Ackman/Pershing and a few under-the-radar plaintiffs to chase the common share aspirations on their own time and their own nickel for legal expenses that could drag on for another 5 years or more.
I willbe adding to my Fannie preferred holdings based on this prediction.
JMHO.
Much of the default prognosis hinges on low or flat interest rates. That is, by the way, a fairly likely scenario for the mid-term future. A huge chunk of the mortgage market remains in ARM loans for properties destined for either for owner occupancy or the rental market. When rates go up, there is a direct proportionality with the default rate rising in tandem. The mortgagee may not only face rate increases on property that become harder to keep up with, but often also faces rate increases straining other parts of their budget. This is especially a factor with second mortgages (a common fixture in rental properties to cover maintenance costs) and, of course, credit card debt.
JMHO.
I believe there is a statute that prevents trebling of damages in a claim against the government.
I really doubt that the warrants will be cancelled by any court action. I think it is quite possible that they were an option on the table during the rumored, earlier settlement negotiations, but there are too many plaintiff-brought suits, now, to enable any consensus on this. Then, again, you can never predict any judicial decision with any certainty. But the AIG case yields a pretty convincing benchmark and precedent that "a deal is a deal". The pending complaints allege that the warrants, themselves, were a taking (which I find farfetched) and/or the result of "self-dealing" (which could find some traction and condemnation in a court ruling, but probably not enough to reverse them). This conclusion hearkens back to the Judge Wheeler decision in the AIG case.
I give Ackman credit for remaining remarkably consistent throughout this lengthy process, he as you observed has longstandingly supported the ongoing need for the GSEs to operate along conventional, historical lines. I see his position as somewhat aligned with the Mulvaney bill and where it takes recap and release, except I think Ackman's $20 common S/P expectation anticipates some immediate run-up upon news of a deal. I think any such deal will take a long time, at least 5 years, before commons will see any big appreciation above the mid-single digit zone. I put a low % expectation on this outcome because it presumes a political reform measure to gain traction in a dysfunctional government that may or may not see some meaningful change in 2017. My view is that this is overly optimistic.
I have believed for some time that the 3rd Amendment will be ruled an overreach by government and get peeled back to some extent, possibly even tossed out. There is firmer legal standing for several claims on this issue. I just cannot see any huge payday for commons in most outcomes I see as "reasonable" opinions that could gain court support.
JMHO.
Good luck guys. It's been interesting here.
Thanks for picking up the ball on this one. Excellent, thoughtful reply. I read it 3 times.
I would add a parenthetical on the Fairholme Proposal. I do not believe Bruce Berkowitz has ever removed this proposal from the table. I seem to recall that he said in either an interview or in his regular update to shareholders that the government never even responded to it, but the offer still stood. It strikes me as odd that some Congressional "wind down" crusader like Corker or Hensarling wouldn't have at least engaged in a dialog with Fairholme to explore things further, but I guess that's Washington for you.
Thanks again. Nice piece.
I would think that would only be likely if the DC verdict was unfavorable to Jacobs, Hindes. But how stupid would that look to say "I was only kidding" once the consolidated verdict was taken off the table?
JMHO.
There is nothing either funny or inconsistent in that statement. It is the truth. No shares have been cancelled. The shares continue to trade. Many holders of these shares have enjoyed substantial share price gains by trading in FNMA,either by holding or by swing trading. If a court releases some huge, favorable ruling that sends S/P to the moon, are you going to give the gains back because you have no shares any longer?
JMHO.
When your business asset base is mortgage revenues that don't run out for 30 years, there is a HUGE difference between winding down operations by just not adding to the portfolio vs. shutting the doors and cancelling all common shares and stockholder equity.
I have long been of the opinion that the government likely would have released the GSEs had the litigation not have attacked every aspect of the government bailout as fodder for damage claims. Look at AIG as an example of restoration and shareholder rewards for patience. With Fannie, they CAN'T release now because of the legal ghouls drooling over bleeding the Feds for $ gazillions from Uncle's deep pockets and all the uncertainties of costs to taxpayers.
When GM was pushed into a pre-packaged bankruptcy, their shares continued to trade for years while the courts plodded through the BK boilerplate and bleed from coyotes howling for re-org compensation. Here the government was kind, could have advanced a receivership claim starting in 2009, but allowed the companies to resurrect themselves, pending action by Congress.
You know the rest of that story.
JMHO.
I said there was a $400 B backstop. There was. I never said government was trying to push the GSEs into taking some unnecessary amount to force a receivership. THAT is what you stated that I said.
I actually think the opposite. That Amendment 3 was imposed because the government feared the GSEs would never be able to get out of dividend Never-never-land and end the cycle of public support in bad years for stockholder profits in good years.
It's just like the cyclical pattern of derivative hedging and DTA's moving up and down in volatile swings where the government must provide draws when needed, but stockholders sue for all the profits in good times. It is time to put an end to this era of rollercoaster rides that threaten our country's economic health and vitality.
JMHO.
Great question. I have no easy answer for you, though. So much depends on the courts, now. A year ago I sensed a settlement was attainable, the legal war could end and some semblance of order could be reinstated that would preserve all equity and release under reasonable conditions. I no longer see that as possible; too many new suits have been filed, mucking up the machinery of any negotiated deal via too many signatories to any deal with too many, varied financial goals in Fanniegate.
1. The only way a $25 common S/P will be attained will be via a successful verdict upholding charges levied by plaintiffs. With appeals likely this could take many more years to confirm or reject. The only path this would have would be IF there is a ruling to invalidate both conservatorship and Amendment 3, and would require a new Delaware Court of Chancery action to stay liquidation in January, 2018 pending the appeal process to be concluded. I view this as highly unlikely. 2%?
2. I see two ways an $8 common S/P could be in the money. First would be a court ruling that Amendment 3 was an overreach and gets modified to a lesser percentage than 100%, a set parameter of duration beyond "forever" or some combination of both. The second path would be if some reform path like the Mulvaney bill gains traction and triggers a release and recap operation. Shares would rise on release, but the hiatus to rebuild capital would be lengthy, plus the GSEs would have to deal with the resumption of JPD payments and/or redemptions that hampers the recap process. 25%?
3. I see the prospects much more optimistically for junior preferred shares. The most immediate appreciation would be under the liquidation preference scenario. This could be triggered either of two ways: when the money runs out in DEC 2018... or... if some court settlement imposes unpalatable penalties on government and they recoil from any further risk of more litigation, ever again, and opt to exit their role in any related enterprise or only some new one. Since Fannie has little outstanding borrowings with priority above PFD shares, this outcome is a better bet. The last time I ran the numbers I concluded that shares bought at $5 would cash out at around $15-18 in a liquidation. In a release scenario, the S/P would rise equivalently because the dividends on the later-issued pfds carry a coupon rate of around 7.25% against a $25 par. I'll put that in focus; an FNMAS divvy @ $1.81 would be a 10% yield on an $18 share price, a figure consistent with equity dividends for REITS like NLY or ARR, both stocks I own and track regularly. Odds on this outcome: 75%.
I do not believe under any scenario that the warrants will be cancelled.
JMHO.
Let's play the Thursday Night Fannie Mae "Hide the Salami" version of Pokemon Go.
1. Two lawyers serve together at a distinguished law firm, Skadden, Arps.
2. One goes on to serve as an executive at a huge bank.
3. Another goes on to serve as CFO and then CEO for Fannie Mae.
4. Big banks create toxic mortgages that Fannie Mae buys.
5. Fannie loses $$$ and gets sent into conservatorship.
6. Banks get slammed for misdeeds and are charged with $ B's in fines.
7. Skadden, Arps represents UBS for doing this to FMCC, Fannie's twin.
8. Banks continue to originate mortgages.
9. The GSEs including Fannie continue to buy mortgages.
10. When mortgages go bad, FNMA and banks they bought from negotiate.
Now, certain big banks join with Fannie Mae leaders into a potential conjugal bliss where future mortgage quality disputes can be "discharged" in a totally consensual manner. That's just really good news! No conflict of interest there! "Was it good for you, too?"
Ah, yes, the Old School Tie fraternity of young lawyers finding new love in new positions (pun intended) in the highest level of mortgage business affairs. Now please excuse me while I throw up.
LOL.
JMHO.
1. Okay. Post a link, please. I think you're wrong.
2. That is normal procedure in "orals".
3. You ever heard of "good cop/bad cop"? Happens even in almost every SCOTUS deliberation.
The core issue in Perry is whether FHFA overstepped HERA by failing to conserve and preserve shareholder rights and assets. Judge Millett clearly stated that HERA did not proscribe this as either intent or content in the statute enacted by Congress.
This one difference between plaintiffs and defendants will determine who wins, loses or gets some "tweener" compromise ruling. The rest of the testimony is peripheral noise and inconsequential to the eventual ruling.
JMHO.
It has always been my impression that Kellerman sadly committed suicide. I can't comment on other theories about which I have no knowledge.
Very sad story, actually.
JMHO.
Sorry,but I didn't spill anything that wasn't stated in the April 15th hearing and oral arguments. Please read the transcript:
http://gselinks.com/pdf/Perry_Capital_Appeal_Court_of_Appeals_with_time.pdf
JMHO.
This quotation from Judge Millett has never been pointed out here, as best as I know, and succinctly cuts to the core of the Perry Appeal as it nears some type of denouement. It also obviates the need to plow through 130 pages of actually very boring transcript text and just revisit the argument to dismiss that just won't go away.
No, I never said that. Stop, already.
The plan seems to me to have been a wind down to prevent the GSEs from busting the country's economy at some point in the future. It's like euthanizing an animal with rabies before it kills innocent people around it. It's not the rabid animal's fault. It didn't mean to get the disease. But allowing it to live does nothing to protect others from dying because its fatal disease spreads easily and is hard to cure.
JMHO.
No, I think they were obligated under the terms of the PSA agreement to backstop up to $200 B to each GSE, total $400 B. The fact that so large an amount never was actually necessary does not change the fact that the amount of draws from UST could have risen to so high a level under any number of possible conditions. There were some economists predicting an eventual bailout of $800 B in 2009 before conditions finally started to improve.
JMHO.
Yes, exactly. Like Judge MoeRon Steal in the Jacobs, Hindes suit pending in Delaware?
I agree with your excellent point.
"Case dismissed."
JMHO.
At the time Amendment 3 was being considered, the government was obligated to provide a backstop of up to $400 billion to the GSEs. THAT is who has the economic interest.
Seems simple to me. Looks like the judge agreed.
JMHO.
DC judges cast doubt over plaintiff's argument during oral arguments according to transcript of April 15, 2016 hearing...
(Judge Millett): "Well, a fiduciary to whom, because this statute is different, it doesn't say a fiduciary to stockholders, it's a fiduciary serving the best interests of the entity or the agency."
This text is drawn from page 14 in the hearing transcript. Don't see much wiggle room, here.
JMHO.
The DC panel of judges in the Perry Appeal certainly seemed to reject many huge portions of the complaint put forth by plaintiffs. A few "gems" include disputing the financial health claimed prior to Amendment 3 being imposed, as discredited by FNMA's own 10-Q reports. And, of course, the view that FHFA was responsible to conserve the entity, not shareholder's interests. That's my read on the pushback that seemed to strongly favor dismissal.
http://gselinks.com/pdf/Perry_Capital_Appeal_Court_of_Appeals_with_time.pdf
JMHO.
Weren't Russell and the Timster both at Skadden, Arps, Meagher & Flom? Isn't Skadden the law firm that represented UBS in its litigation against FHFA in the matter of FMCC being sold toxic risk loans by TBTF banks and the huge judgements being leveled against them? I guess the two lovebirds had a lot of common experience to share, anyway.
No conflict of interest? Maybe not...
JMHO.
FNMA CEO Tim Mayopoulos deals with the shorts. His own shorts. Seems he just can't keep them on.
You just can't make stuff like this up.
Selling MBS does not equal anything of value to Fannie Mae shareholders when it is sold by JP Morgan/Chase who books the MBS sale and the guarantee fees that it keeps. You know. The $$$ that USED to go to Fannie Mae.
But never worry. JPM isn't the big enchilada draining market share aware from FNMA. That role belongs to FHA, GNMA and other governmental agencies that remain in favor because there are few if any lawsuits arising from their more taxpayer-friendly approach to mortgage finance. Unlike the crowd in Fannie-land, with their crack (smoking?) legal teams.
Just my unwanted, dumb opinion.
I think this is a key element in the Fannie Mae S/P drop, yesterday, but I got dismissed for thinking and stating that this was of any importance. FNMA market share in MBS guarantees has been steadily declining for awhile, now. In 2015 it actually dipped below 40% by several percentage points by recollection. This JPMorgan news is like pouring gas on a fire because it confirms the feasability of what many economists have stated as eventual solutions to wind down and reform of GSE's stranglehold on the mortgage market. Interestingly enough, Gene Sperling is among those economists with such a view.
But that's just my stupid and worthless opinion. LOL.
If S/P breaches $1.65, there will be a lot of crying tonight in pro-Fannie households when the market closes.
JMHO.
Looks like Tim Pagliara may be falling apart with so seemingly reckless a charge of embezzlement against the former Director-National Economic Council and Assistant to the President for Economic Policy under both Clinton and Obama. Sperling is well remembered by some of us as an outspoken critic of the Fairholme Proposal to take over much of Fannie.
Maybe Tim and Bruce are in cahoots to implement the Fairholme strategy that seemed to heavily favor junior preferred shareholders. And maybe there is concern that Sperling's plan he helped author is gaining traction inside the beltway.
https://www.economy.com/mark-zandi/documents/2016-03-A-More-Promising-Road-To-GSE-Reform.pdf
Link can be googled if problematic.
Making accusations of "embezzlement" against a widely respected economist could have factual support, of course, but it also could just be a wild act of DESPERATION as the promise of Fanniegate riches seems to be giving ground to the reality of seriously dead money and mountain after mountain of legal bills.
Hey, just my humble, little opinion.
No, Joseph. That's just wrong. Fannie may have bought up mortgages that represent $1 trillion in asset value. Those are assets. When they sell MBS in the form of bonds, the real estate is NOT being sold. BONDS are being sold, guaranteed by Fannie Mae. Revenue is what a company derives from what it sells, not the amount of assets that it owns. Then comes income, or the profit it earns on what it sells. In Fannieland, that would be the amount of MBS sold and guarantee fees charged, minus its MBS dividends paid out, losses on asset writedowns(like foreclosures) and shareholder dividends paid out(like the sweep).
But don't believe me. Look at any annual report from Fannie or go to Yahoo Finance and click on financials. Look at the income statement for FY2015. Fannie Mae reported audited revenue of $110 B. Not $ trillions.
Sorry, I am not trying to be pedantic or argumentative, just accurate.
JMHO.
You are reiterating exactly what I stated earlier. Selling MBS is NOT selling mortgages.
If you think $4.6 billion in lost MBS and the associated guarantee fees is inconsequential to FNMA and FMCC, that's fine by me. But I disagree. It is a whole lot of money. It is a very consequential future threat.
The simple FACT that big bank money is willing to structure their own guarantees may carry a whole lot more credibility than a guarantee from a GSE that gets disowned by the Federal government and cut loose so the government can avoid further Draconian settlements for greedy hedgies, assuming that is the eventual judicial verdict.
JMHO.
The timhoward717 website/blog has seen no update since June 21, 2016. Former content is not shown. There is nothing new there, as of just a few minutes ago.
What's up with this? Is this forum active under a new website address or just defunct?