Replies to post #200202 on Fannie Mae-No Politics (FNMA)

[obiterdictum]

A cash-settled total return swap is a specific kind of OTC derivative contract. These are financial terms that can be looked up as stated.

The focus in a cash-settled total return swap is not on shares and share ownership but on the contract itself, the parties involved, the underlying asset and the contract terms.

Focus on shares, transfer of shares and ownership of shares in any way other way than the notional number and value of the shares will lead to misunderstandings.

There is no sell off of shares.

SInce this is a timed contract between Pershing Square Funds and entities under UBS AG, the contract has an expiration date: April 30, 2015. Here are the details.

The contract refers to:

The underlying or referenced asset - the equities FNMA and FMCC at the notional share price of 3.53 and 3.50. The share price is related to a notional number of shares: FNMA: 15,434,715 shares and FMCC:8,434,958 shares.

The Parties to the Contract - Pershing Square Funds and UBS AG

Contract Terms:
UBS AG pays to Pershing Square any increase in the notional value of the shares under contract. The beginning notional value of the underlying assets is equal to the share prices $3.53 and $3.50 multiplied by the notional number of shares. The notional value increases with each increase in the share price.

Pershing Square pays to UBS AG any decrease notional value of the shares under contract. The beginning notional value of the underlying assets is equal to the share prices $3.53 and $3.50 multiplied by the notional number of shares. The notional value decreases with each decrease in the share price. Also, Pershing Square pays to UBS AG a rate of interest on the notional value of the shares. The rate of interest was not specified.

Settlement Terms:.
Payment is cash only. Hence the term cash-settled.

Contract Expiration Date:
April 30, 2015

How the parties make or lose money.
Pershing Square Funds profits if the notional value is greater than the the beginning value plus the total amount interest paid to UBS AG.

UBS AG profits from the rate of interest charged on the notional value plus any decrease in the notional value of the shares under contract.

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Example for FNMA only:

1. Beginning notional value for both parties is : $54,484,543.95 ($3.53 per share x 15,434,715 shares)

2. If the share price increase to $7.03 by April 30, 2015, the increase is $3.50. So, UBS AG is obligated to pay Pershing Funds $54,021,502.50 in cash ($3.50 per share increase x 15,434,715 shares).

3. If the share price decrease to $3.08 by April 30, 2015, the decrease is $.45. So, Pershing is obligated by contract to pay UBS AG $6,945,621.75 plus the rate of interest on notional starting value of $54,484,543.95. If the interest rate is equal to the one year LIBOR rate that amount would be, for example only, $305,113,45 (.56% x $54,484,543.95).

So for Pershing Square Funds to profit at the minimum, using this example, the FNMA notional share price must increase to at least $3.56 by the expiration date of the contract.

UBS AG makes a profit of $305,113,45 by drawing and signing some papers plus any decrease in the beginning notional value.

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Here are the terms spelled out in Item 6 in the SC 13D/A

On March 28, 2014, certain of the Reporting Persons entered into Swaps for the benefit of certain Pershing Square Funds.

Pershing pays bank - Total return to Pershing

Under the terms of the Swaps, (u) certain of the Pershing Square Funds will be obligated to pay to the bank counterparty any negative price performance of the 15,434,715 notional number of shares of common stock subject to the Swaps as of the expiration date of such Swaps, plus interest rates set forth in the applicable contracts, and

Bank (USB AG) pays Pershing - Total Return to Bank

(ii) the bank counterparty will be obligated to pay certain of the Pershing Square Funds any positive price performance of the 15,434,715 notional number of shares of common stock subject to the Swaps as of the expiration date of the Swaps.

Cash Settled - this defines the cash-settled nature of the total return swap

During the term of the Swaps, cash will be paid by the bank counterparty to the relevant Pershing Square Fund in an amount equal to the amount of notional distributions or dividends paid by the Issuer in respect of such notional number of shares of common stock. All balances will be settled in cash.

Identification of Bank Counterparty UBS AG

The Pershing Square Funds’ counterparties for the Swaps include entities related to UBS AG.

Beneficial Ownership and Voting Rights held in Abeyance.

The Swaps do not give the Reporting Persons direct or indirect voting, investment or dispositive control over any securities of the Issuer and do not require the counterparty thereto to acquire, hold, vote or dispose of any securities of the Issuer. Accordingly, the Reporting Persons disclaim any beneficial ownership of any shares of common stock of the Issuer that may be referenced in the swap contracts or common stock or other securities or financial instruments that may be held from time to time by any counterparty to the contracts.

Sources:
SC 13D/A - FNMA
http://www.sec.gov/Archives/edgar/data/310522/000119312514122908/0001193125-14-122908-index.htm - see EX-99.3

SC 13 D/A - FMCC
http://www.sec.gov/Archives/edgar/data/1026214/000119312514122897/0001193125-14-122897-index.htm - see EX-99.3