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Where did I ever say the government would take down the common shares?
The last thing the government wants is a liquidation because the corpus delicti becomes the GSEs that cease to function... and with them, so does the U.S. housing economy and 25% of its GDP.
What the government wants is to get off the hook for a $400 B backstop in case of another crisis.
Sure. Great question. Here's the easy, simple answer. If government owns more than 50% of the GSEs, it must then put whatever portion of $5 T of GSE debt that they own onto the government's balance sheet and add it to the national deficit. Exactly as happened when government owned 100% of Fannie Mae prior to 1968 when LBJ initially privatized it. This blows up the debt ceiling, the governmnent's credit rating and it's global financial status. It is also likely that the near junk bond status of the Federal debt, as it is retired and gets reissued, will be at so costly a higher interest rate as to render the government insolvent.
So the government simply will NOT exercise the warrants as written. They quite likely would be willing to negotiate a settlement where the warrants for common stock get exchanged for some other benefit such as a new class of non-voting junior preferred shares, debentures or some similar rights offering.
Let's please put this non-starter to bed, once and for all. THIS WILL NEVER HAPPEN.
JMHO.
I alter my investment theses when conditions change and a new conclusion becomes appropriate. 18 months ago I changed my position on Fannie Mae preferred stock when Jacobs, Hindes filed their Delaware suit and, subsequently, a whole new round of litigations ensued that indicated the brink of insolvency in 2017 could be breached. I bought a significant position in FNMAS shares, adding a lot more, since. That investment has well more than doubled, to date.
In November, I carefully considered the Trump election victory and the nomination of Mnuchin as Treasury Secretary. I opened major positions in both FNMA and FMCC common shares because my analysis included the reality that release would be mandatory under a GOP D.C. triumvirate.
If circumstances warrant, I will change my positions again, in the future. If that happens, I will post my reasons... just as I did when I decided to buy into my current holdings.
Thanks. The point that is missed by most "experts" in Fannie Mae and Freddie Mac affairs of late is that until 1968, Fannie Mae was a government entity. It was privatized by President Lyndon Johnson to get its carried debt load off the Federal books because of the mounting expenses of the unfunded Viet Nam War. Much scrutiny has been given to the question since conservatorship of whether the GSEs debt must again become part of the governments next and perhaps greatest accounting nightmare.
Trump wants to pump-prime the economy with $1 T in infrastructure investments. Does anyone believe he also wants to risk transferring about $5 T in additional Fannie & Freddie debt onto that same ledger at the same time he enters office?
I DON'T THINK SO. This is why I have concluded the conservatorship must quickly come to an end. Trump does not want to go down in history as the President that sent the USA into bankruptcy and decline into a third rate country. Increase the Federal deficit to $26 T and that is precisely what will happen.
http://content.time.com/time/business/article/0,8599,1822766,00.html
That's true. The ones that really got totaled out were the shareholders that had 100% of their income swept to Treasury. Everyone else got at least some benefit from the conservatorship. Bondholders got paid 100%. GSE creditors got paid 100%. Government got repaid 100%+. The GSEs got a $400 B safety net to backstop against any further crises. And all Fannie Mae and Freddie Mac employees kept their jobs. Banks teetering on the brink got their bad loans cleansed by steering them to FnF. Thousands of delinquent and underwater homeowners had their homes saved by GSE workouts. And mortgage originations continued as the GSEs continued their liquidity efforts, as chartered. Then there are the SCAPEGOATS.
Only the shareholders bore 100% of the pain so everyone else could be kept whole. The crisis is over. Everyone else has been made whole except the government. They have been made MORE than whole. But now the shareholders are required to make further, 100% sacrifices of all their income solely because the government REFUSES to deal with its budgetary disputes. It plays brinksmanship with exceeding the debt ceiling each year. Its deficit grows each year. Government shutdowns are either threatened or actually occur each year. Ad nauseum.
The GSEs cannot continue to have 100% of the income due shareholders appropriated by the U.S. Treasury and spent to float Uncle's Boat. It was one thing to take the action in 2008 that, as obiterdictum's brilliant historical retrospective so eloquently recapped, could have crippled the overall domestic economy and ruined the financial health of institutions and average citizens, everywhere. But that scenario simply no longer exists.
It is time for this chapter in American history to come to a close.
That is my wish for the holiday of everyone's choice. Merry Christmas, Happy Hanukkah, Season's Greetings and a very Happy New Year to all.
If you saw Tim Rood's extensive interview on CNBC the other morning on Trump Administration and housing policy direction, he introduced an interesting statistic I had never heard before. He claimed that the cost of regulation has added about $85 K to the cost of the average newly constructed home. So what you have is the "double-whammy" of long long mortgage loan periods matched to insane regulations that balloon the amount borrowed and, then, financed for 30 years.
I'll give you an example of what Rood stated on regulation overkill. I own a golf course condo in Venice, Florida with a glass sliding door opening to my screened back lanai. I wanted to replace it with updated french doors. Home Depot sells exactly what I want for about $2500, plus installation. But Mr. Code Enforcement says "Halt. Don't go there." All new doors and windows must meet hurricane code standards. Your revised cost... around $22 K, plus installation which is also 3X more costly due to code requirements for reinforced exterior carpentry. Now my existing doors do not meet hurricane codes standards, either, but never mind that. Just spend $20 K more because some petty bureaucrat wants to throw his weight around.
Trump wants to drain the regulatory swamp. Doing so in housing construction can go along way towards eliminating needless, huge amounts of regulatory cost that get buried within the labyrinth of mortgages financed and on which interest gets paid for 30 years.
JMHO.
Of all the valued stuff you have written and provided investors on this message board, this latest effort is perhaps your finest effort in succinctly and factually stating the fundamentals of the financial crisis and the role Fannie Mae played within it. I don't kiss anyone's butt, including yours, but I must give due credit when it is due.
What a brilliant summary. Thanks very much for sharing the retrospective.
I really mean that.
And to all followers of Fannie stock, a holiday rasher of bacon, a generous portion of baked ham, pork spareribs, deep-fried catfish, shrimp cocktail and a bountiful portion of lobster saute served with pork and beans and Chinese pork fried rice to celebrate the 2016 holiday season.
Feast on!
The climb out for Fannie shares will continue, next Tuesday.
Enjoy the holidays, everyone. Even Hanukkah Montana.
LOL. You could be right! Thanks. I needed that today.
I really think Mnuchin will fare positively in the confirmation process. He will have to endure the usual "slings and arrows" for the television audience at home to observe the customary Congressional "toughness" projected at all hearings broadcast on C-Span. But I think there are bigger and more productive fights for confirmation of nominees for State, AG, Energy and EPA. Besides, Mnuchin has a template to follow left by his GS predecessors.
I believe his confirmation is critical to a prompt and favorable shareholder outcome for Fannie Mae and Freddie Mac.
JMHO.
"$3b of MBS"...???
Do you mean $3 trillion, professor?
To this I say, with full force and total clarity: "Liar liar, pants on fire."
JMHO.
So, let's see if I get this right. You honestly believe that if Fannie Mae is released from conservatorship they somehow don't have to pay the $3 B in taxes? I just spit coffee on my keyboard.
Fannie earns $10 B per year in income, all of which went to the government via the sweep. If the sweep ends, Fannie could possibly keep all that $10 B as income. If Fannie resumes paying $3 B in annual dividends, as was their historical norm, Fannie's income is $7 B.
This should not be hard to comprehend with ten fingers, right?
A S/P estimate based on ten times earnings is always figured on net income which, with a dividend paying stock, would have its basis figured on after divvy net. Okay so far?
So a company that has NOT paid historical divvy levels while in conservatorship can reasonably be expected to resume paying them after release. Okay so far?
So a company that has been reporting $10 B in income while not paying divvies can logically be expected to report $7 B in income after resumption of dividend payments of $3 B per year.
Your suggestions make total sense. Excellent points to make an even better, fairer case for all parties.
Garbage. Fannie Mae earnings have been inflated by approximately $3 B per year by government eliminating the payment of dividends that were historically delivered to shareholders. Including this $3 B gaffe in computing a 10X S/P is a mistake even freshman business school majors would be unlikely to make. It's a 30% over-inflation.
I totally disagree that: "In no situation will preferred skyrocket while commons drop to zero". Plus, I don't seem to recall stating a $ zero projection for commons as you claim. Read Berko's proposal to takeover Fannie Mae's insurance business as just one of many ways preferreds can fare far better than common equity.
http://online.wsj.com/public/resources/documents/FairholmeOffer.pdf
http://www.valuewalk.com/2015/10/fannie-mae-liquidation/
https://www.thestreet.com/story/12108118/1/freddie-freddie-hedge-funds-could-claim-victory-go-home.html
Liquidation preference is a major part of Fairholme's complaint before Judge Sweeney and is also contested in other cases, as well. The current focus on "privatization" can include many outcomes that favor better value on preferred shares than commons, IMO. But, what the heck. Don't like preferreds? Don't buy 'em. I am comfortable with my decision which suits my risk tolerance and investment objectives. Yours are obviously different than mine.
I will grant you that here are more scenarios where both classes of equity will fare well, in due course. That would be of benefit to me since I own both. When I consider today's pullback, I find it more palatable to be looking at huge gains on FNMAS from when I opened my position that way more than offset the bath I took on FNMA and FMCC today.
I own preferred shares at about the same buy in cost as my more recently acquired common share positions so I absolutely would view values differently than a longer term common stock holder like yourself.
Crapshoot? Yes and no. There definitely is inherent risk in owning common shares when capital is pre-plannned to run out at the end of 2017 and either trigger new draws from UST or insolvency proceedings. Personally, I view this extreme outlook as far less likely under the new administration. But the risk is real, which is why I remain hedged with an offsetting position in preferred shares that are likely to finish in the money at or near par, regardless of outcome.
But I added common shares in both Fannie and Freddie, also, despite the risk factor. Part of that investment thesis involves a very simple reality. Common shares traded in the $60+ area in 2007, and paid a $2 dividend, annualized. At that time Fannie had higher reserves, higher portfolio risk in Alt-A and subprime loan inventory and no deferred tax assets to speak of. Now fast forward to today. Fannie's business is basically unchanged, although its guarantee income has risen from higher fees charged. It's capital reserves have been drained by Senior Preferred payments to Treasury, later becoming the full Monty sweep (self)deal. But its market share has risen and its risk profile has been cleansed of all the crisis era garbage. So, in a nutshell, Fannie has only two obstacles to overcome to return to its pre-conservatorship S/P in the $60's.
1. Rebuild capital reserves.
2. Shed the warrant threat of 79.9% dilution.
Income and new preferred stock issues can accomplish the capital need in a few years, specially in a rising rate environment. The courts can resolve the warrant threat, or it can be negotiated down in a settlement and Amendment 4. These are not insurmountable tasks IF government is serious about removing itself from private enterprise adventures. I sense that this is the new Conservative imperative, starting January 20th.
I like the odds. But like you, I also fear a change of direction as this new team comes together and takes control. A lot of that fear evaporates if the courts cancel the warrants or award claw-backs to the Twins for over-payments above the original $186 B UST draws. This is why I watch the newswires like a hawk for updates.
GLTA.
Voacolo suit dismissed for plaintiff's failure to file required briefs ordered by the court. Another one bites the dust.
This was never a strong suit, IMO. Each case dismissed increases the possibility of gaining an overall settlement.
Points to consider on improving valuation of common shares beyond initial uptick from release:
1. As observed by others, relist on NYSE will create institutional action.
2. Rising interest rates in 2017 are favorable to GSE income line due to ARM's and hedging gains.
3. Rising home prices increase GSE revenue per contract. Favorable to topline.
4. Pressure from recapitalization eases with each year's income redirected from sweep back to reserves.
5. Fannie Mae's market share has actually risen since 2008.
A $12 S/P in 2017 could easily become a $20 S/P in 2018, and so forth.
It's all good!
Donot, I think part of the flaw in your pro-forma is the $10 B in Fannie Mae earnings assumption. Remember that there are $3 B in dividends that are not being paid while government grabs all the cash. If you discount down the projected income to more like $7 B with divvies restored you come up with more like a $14 per share recovery. That's pretty close to my $12 guesstimate, yesterday. Personally I would be pleased with a released FNMA $12 FnF common S/P and with dividends restored, even at a diluted 10 cent per quarter rate. Those numbers will only continue to rise in forward years after release. And if the warrants go away, either via settlement or court ruling, apply the 5X multiplier and buy yourself a real nice yacht.
Just trying to help. As many heads as we can bang together on this, the better an estimate we'll all come up with.
There was some real useful content on the board yesterday, even with the snarky comments, here and there. Thanks to all who contributed.
Yes. Kudos. YOU get it.
Great post.
This stuff is getting over thought and the simple truth lost in the copious, explanatory details.
Please see page 5, "Optional Redemption" section. There is a redemption window in 5 year increments, only. This is fairly typical in higher yielding preferred shares and one of the reasons such issues are often chosen by retirees and fixed income investors and funds serving those markets.
Hope this will help clarify the redemption window reference. Could be my bad choice of words. If so, sorry. It is what I have always heard it referred to.
http://www.fanniemae.com/resources/file/ir/pdf/stock-info/series_s_12062007.pdf
Note that FNMAS can only be called at 5 year intervals.
Many of the Fannie Mae preferred shares have specific redemption windows which must be followed under terms of the initial offer. The next window to redeem the FNMAS shares I own would be in December of 2018, so speculation on just wiping all these out is just nonsense.
The coupon rate pay on all Fannie preferred series is only about $1 B per year. The math to retire all this debt via redemption makes no sense vs. just paying all or partial divvies and using the balance to recapitalize.
JMHO.
Cubshawk, don't confuse him further. He obviously is creating a "bulletproof" position for Watt to serve out his term with no accountability to to the law (HERA) and no supervisor to direct his performance serving as FHFA Director.
FHFA is an executive branch position and Watt was nominated by President Obama, the President of the United States and, constitutionally, the head of the executive branch. Now we are being asked to believe that Melvin Watt has been made "King" of the FHFA and can only be removed from office by suing him in court. If ANY of that is true, then we may actually have unraveled the great mystery of how and why our government has become such a dysfunctional piece of shit for so many years.
JMHO.
No, just providing examples of Presidential power to terminate. No different than when President Obama fired General Stanley McChrystal, relieving him of his command and forcing him into retirement. McChrystal's appointment was confirmed by the Senate but Obama still fired his ass. President Obama also fired General James Mattis, another appointee confirmed by Congress when he earlier replaced the dishonored General David Petraeus following the Paula Broadwell e-mail scandal.
Where do you come up with the fantasy that "Watt was elected by Congress"? Congress does not elect executive branch leaders. They are nominated or appointed by the President and then confirmed by Congress. Obama appointed Watt who was subsequently confirmed by Congress prior to assuming his term of office.
Facts? Sure. In 1981, President Ronald Reagan fired 11,000 air traffic controllers as he threatened to do when they went on strike. He then executed his threat and terminated all of them.
Previously, President Richard M. Nixon terminated Special Prosecutor Archibald Cox who was investigating Nixon's involvement in the Watergate scandal.
Being the President of the United States grants great power and very special privileges. Just look at all the PARDONS of court sentences granted despite verdicts contra-indicating such reversals.
Trump can fire Watt for failing to implement DTS provisions clearly spelled out in HERA that have gone unmet and unfulfilled since 2008 when the law was enacted by Congress and signed by then President George W. Bush. That remains my position.
So, it is your opinion that no Federal employee, including FHFA Director Melvin Watt, can be terminated for failing to execute his or her appointed duties with being taken to court to prove their incompetence or dereliction of duties? Or is your point that Watt is somehow Superman?
I am afraid I don't buy into your view on this one. Sure, any termination can be challenged in court. Virtually ANYTHING can be challenged in court if someone wishes to file an action.
Please provide some legal support for your claims on this. I'll accept it if it's valid.
Failure to implement mandated DTS provisions within HERA is a violation of law and falls well within the realm of the high crime and misdemeanor standard applied to the President and other high ranking Federal officials in impeachment cases. If such action must be filed before Congress to become binding, so be it. I believe Watt has amassed enough negative vibe on both sides of the aisle to be discarded in any kind of up and down vote. Remember his testimony before Dem. Representative Mike Capuano of Mass? I seem to recall an equally difficult hearing session before Ranking Member Representative Maxine Waters, as well.
JMHO.
The simplest deal for a settlement would be a clean slate agreement that all deals and debts under conservatorship are cancelled and things go back to the way they were in August, 2008. Senior preferred shares are cancelled. Warrants are cancelled. SPD are terminated. The sweep is ended.
So what does the government get for its offset to givebacks? An end to the $400 B backstop. An end to settlement cost risks, at least for the majority of cases pending in courts. An end to Documentgate releases. An end to HUGE DOJ defense costs. And, possibly, a deal to have GSEs write off DTAs and resume paying Federal taxes, albeit at likely lower corporate rates under DT Tax policy revisions.
This is a businesslike sort of settlement. Trump is a businesslike guy.
JMHO.
Cause? How about failure to comply with the Duty to Serve provisions mandated by HERA in 2008 that STILL are in the rule making process, 8 years later?
http://www.nationalmortgagenews.com/news/compliance-regulation/cheat-sheet-how-fnma-will-require-gses-to-serve-poorer-communities-1092828-1.html
Valuation, valuation, valuation. Who's got warrants figured right?
The problem with the warrants is not just dilution of the S/P. It is also their dilution of the common dividend pool. Fannie paid $2/year in common divvies prior to 2008. Dividing that by 4 B additional shares drops the two buck divvy to forty cents. That would tend to drop the common share price from around $60 where it sat, prior to 2008, to around $12 under the dilutive scenario.
Ackman is no dummy. He has a HUGE stake in trying to make the warrants go away in any settlement. It is the preferred stakeholders that care little about warrants. Easy for them. They have no skin in that game.
Commons rise to $60 with warrants rescinded. Or they go to $12 with warrants left intact. That's my best guess.
Fed 25 basis point rate hike went ignored in S/P last week, even with Yellin's press conference remarks widely construed to signal two or maybe even three increases on tap for 2017. Interest rate increases are favorable to GSE income from increases in topline revenue (homebuyers and refinancers looking to lock in before rates go up) and from ARM inventory delivering elevated margins.
Only a small share of MBS outstanding are indexed, largely to LIBOR, which tends to move slowly and at smoothed rates compared to Fed action. So, in a nutshell, all is well based on the Fed action to start to restore more market-based interest rates. Plus, hedging arrangements generally favor gains in a rising market based on historical patterns.
The other aspect to higher rates is the facilitation of future MBS sales or any new issues of preferred shares floated for recapitalization. Higher coupon rates go a long way to moderate risk concerns over weakening or possibly disappearing government guarantees... explicit, implicit, assumed or wish-listed... especially when some overseas bond markets are confronting negative rate scenarios.
For preferred share issues to help rebuild capital reserves, Fannie Mae & Freddie Mac must restore NYSE uplisting to be marketable to the major financial houses and funds. This requires divvies to be restored, immediately, on at least a partial basis, e.g. starting @ 50% of coupon and full restoration in 2 to 3 years of continued GSE profitability.
JMHO.
Trump has party control over both houses. All he needs to do is get Ryan and McConnell to pass a resolution stating the housing and economic crises have ended and repeal HERA as no longer necessary, then sign the bill himself after legislative passage. Then he simply instructs Treasury to cancel all the deals made under conservatorship, unless he opts to salvage some vestige like warrants (which I doubt he will do, hanging Obama with any fallout from court decisions that they were illegal).
Then the dialog can progress to any reform measures capable of subsequent passage after the courts rule on clean up of issues found to have cause during the conservatorships.
This is the kind of quick, to-the-point fix that I expect from a businessman who doesn't suffer from bureaucratic brain disorder.
JMHO.
This analysis is plagiarized without credit from a Seeking Alpha article issued 12/16/16 with the same headline. The original source material is provided on the gselinks summary page. The content is thorough and highly detailed, perhaps to the point of being over-thought, but I have to respect the level of analysis to which the writer went to develop the alternative scenarios.
When you consider the combinations and permutations of actions that could be dictated by court rulings, the number of potential outcomes rises geometrically beyond the scope of this article that is more RRR-alternatives focused.
The transition team being led by Timothy Rood certainly supports your point. I can only hope you are right. I fear the wild card of Ben Carson with unknown views on housing, and the possible appointment of Mark Calabria somehow swinging the tide with input from Mulvaney who was a long time sponsor of Hensarling's "kill the GSEs" initiatives.
I'm still hoping for the best outcome, but with Trump an unknown entity, for now, I am wary of surprises, too.
Mulvaney requires FNMA to raise $160B in reserves. That is 5% of assets figured against Fannie's $3.2 T total at the end of its latest FY. They cannot even exit conservatorship until the 2.5% threshold is met, which would total $80 B. At $10 B per year in income generation, it would take 8 years before any dividends could be paid or S/P should advance one dime.
You can cheer for this outcome all you want, but I would not look forward to another 8 years of the Rope-a-Dope for investors.
Mick Mulvaney chosen to become White House Budget Director.
His most recent proposal on releasing Fannie and Freddie would be the "Slow Boat to China" approach for shareholders if it gains traction within the new administration. Not great news.
Tim Rood's CNBC interview on privatizing Fannie & Freddie was very optimistic on Thursday. Really great news.
Watt deciding to stay on under Trump... not likely to fly after his Congressional testimony showdown with Mulvaney, earlier.
Glad to see the message board back, up and running.