Fannie Mae Preferred S (FNMAS)

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Fannie, Freddie will pay us back soon*

http://www.timesrecord.com/

Amidst all the news this month, it is not surprising that the Federal Housing Finance Administration’s “stress test” results for Fannie Mae and Freddie Mac have gotten little attention. But there is good news here for taxpayers.

Based on the stress test results, it is likely that Freddie Mac can repay taxpayers over the next four years, with Fannie Mae needing an extra year to do so.

This will come as a surprise to the pundits that have vilified Fannie Mae and Freddie Mac in recent years.

The FHFA was formed on September 4, 2008, combining the functions of three separate and ineffective regulatory agencies into one competent regulator. Ever since, the FHFA has regulated Freddie Mac and Fannie Mae—also known as government-sponsored enterprises, or GSEs)—using a “public utility model,” ensuring that the GSEs can reliably serve the public during a period of financial turmoil, while working through the problems that the GSEs created for themselves during the 2004-07 period.

This is good news for taxpayers and anyone who believes that a 30-year fixed-rate mortgage should continue to be available.

Immediately after formation, the FHFA took the GSEs into conservatorship in order to preserve and protect the GSE’s ability to provide stability and liquidity to the mortgage market. The deal that was struck was that the U.S. Treasury would invest in the GSEs to the extent that they had losses, in exchange receiving senior preferred stock with a 10 percent dividend.

Over time, this became a vicious circle with the GSEs borrowing from Treasury to pay the dividend to Treasury.

Under the new dividend deal, which begins in 2013, the GSEs will no longer pay a 10 percent dividend to Treasury but instead will “sweep” their earnings to Treasury to repay taxpayers.

The GSEs will no longer draw money from the Treasury.

Given that Fannie Mae and Freddie Mac have had total comprehensive income in the last four quarters of $9.15 billion and $11.8 billion respectively, this means that the prospects are good that taxpayers can be paid back sooner than anyone expected.

Earnings may continue to improve if the GSEs continue to work through the “bad years" (2004-2007) while operating prudently.

The GSEs will also reduce their portfolios at a 15 percent annual rate, so in a few years they may be “small enough to fail” and would no longer need to be in conservatorship.

Nothing is certain, but the prospects for taxpayers have improved markedly in recent months.

The “wild card” is that Treasury—on behalf of taxpayers—h olds warrants to own 79.9 percent of the GSE’s common stock. Treasury could exercise these warrants and start selling them off to private investors over time, similar to what was done with the financial restructuring of AIG, which has resulted in a profit for taxpayers.

Given the GSE’s earnings prospects, private investors may be willing to pay a significant price in order to own these warrants.

All in all, it is fair to say that taxpayers can get all of their money back from the “bailout” of the GSEs in the next few years. Successful repayment of taxpayers would be a major achievement for Fannie Mae, Freddie Mac, the FHFA, and the Obama administration.

*Wayne P. Olson, a former Brunswick resident, is the author of the forthcoming book The A to Z of Public Utility Regulation.