Fannie, Freddie Capital Concerns Prompt Paulson to Take Control
By Dawn Kopecki and Alison Vekshin
Sept. 7 (Bloomberg) -- Treasury Secretary Henry Paulson decided to take control of Fannie Mae and Freddie Mac after a review found the beleaguered mortgage-finance companies used accounting methods that inflated their capital, according to people with knowledge of the decision.
Morgan Stanley, hired by the Treasury to probe the companies' finances, concluded the accounting, while legal, enabled Freddie, and to a lesser extent Fannie, to overstate the value of their reserves, according to the people who declined to be identified because the findings are confidential.
The Treasury plans to put Fannie and Freddie into a so- called conservatorship and pump capital into the companies, House Financial Services Committee Chairman Barney Frank said in an interview yesterday. The government would make periodic capital injections by buying convertible preferred shares or warrants, according to a person briefed on the plan. Paulson is seeking to end a crisis of confidence in the companies sparked by concern the companies didn't have enough capital to weather the biggest housing slump since the Great Depression.
The Treasury was ``convinced that the markets simply wouldn't respond until after something like this,'' said Frank, who was brief by Paulson. ``I think it's an important combination.''
Paulson is likely to make the announcement today, according to people familiar with the decision. He gathered Federal Reserve Chairman Ben S. Bernanke, Federal Housing Finance Agency Director James Lockhart, Fannie Chief Executive Officer Daniel Mudd and Freddie CEO Richard Syron to discuss the plan to take control of the government-sponsored enterprises, which have operated as private shareholder-owned corporations for almost 40 years.
Debt Holders Protected
Holders of the companies' common and preferred stock are ``very unlikely to come out of this at all happy,'' and the chief executive officers will be forced out, Frank said. Senior and subordinated debt holders will likely be protected, said other people who were briefed on the plan.
Fannie and Freddie own or guarantee almost half of the $12 trillion in U.S. home loans and the government had been leaning on the companies to help pull the economy out of the housing crisis. Instead, they got caught in the same slump that left the world's banks with more than $500 billion of losses since the collapse of the subprime-mortgage market last year.
Rising Costs
Concern over the companies' capital pushed their borrowing costs to record levels over U.S. Treasuries, sent their common and preferred stocks tumbling and boosted mortgage rates. Washington-based Fannie is down about 66 percent in New York Stock Exchange trading since the end of June. McLean, Virginia- based Freddie has fallen about 69 percent.
Paulson met with Mudd, 50, and Syron, 64, Sept. 5 to tell them of the decision to remove the executives from their jobs, according to two people briefed on the discussions. Mudd, who replaced three top executives almost two weeks ago, is negotiating with regulators to stay on in a consultative role for several months, according to people with knowledge of the talks.
A government takeover would be the latest attempt to blunt the impact of the yearlong credit crisis, after the Fed provided financing for Bear Stearns Cos.'s takeover by JPMorgan Chase & Co.
``They have to open their wallet,'' Bill Gross, manager of the world's biggest bond fund at Newport Beach, California-based Pacific Investment Management Co. About 61 percent of Gross's holdings were mortgage-backed securities as of June 30, mostly debt guaranteed by Fannie, Freddie or government agency Ginnie Mae, according to data on Pimco's Web site.
Obama, McCain Briefed
Pimco and other large investors may put in their own money once the Treasury decides to inject government funds, Gross said Sept. 5 in a Bloomberg Television interview.
Paulson hired Morgan Stanley a month ago to advise on Fannie and Freddie. Mark Lake, a spokesman for Morgan Stanley, declined to comment. Paulson also consulted with Bank of America Corp. Chief Executive Officer Kenneth Lewis on his plan, according to people with knowledge of the talks. Bank of America spokesman Scott Silvestri declined to comment.
The Treasury briefed Democratic presidential candidate Barack Obama yesterday and has contacted Republican contender John McCain's staff. Officials also discussed the plans with House Speaker Nancy Pelosi, Senate Majority Leader Harry Reid and Senate Banking Committee Chairman Christopher Dodd.
``We are making progress on our work with Morgan Stanley, FHFA and the Fed,'' Treasury spokeswoman Brookly Mclaughlin said Sept. 5 in Washington, declining to comment on any specific plans. FHFA spokeswoman Stefanie Mullin declined to comment.
Losses Grow
Fannie was created by the government in 1938 as part of President Franklin D. Roosevelt's New Deal. Freddie was chartered in 1970 to compete with Fannie.
As losses on the mortgages grew late last year, the companies recorded $14.9 billion in combined net losses, eating into their capital. Fannie raised $14.4 billion since November and Freddie sold $6 billion of preferred securities. Plans for a $5.5 billion sale were delayed as the company's fortunes sank.
Fannie had $47 billion of capital as of June 30, according to company filings. The company is required by its regulator to hold $37.5 billion. Freddie's capital stood at $37.1 billion, compared with a requirement of $34.5 billion, filings show.
Critics including former Federal Reserve Chairman Alan Greenspan and Richmond Federal Reserve Bank President Jeffrey Lacker have called for the companies to be nationalized. William Poole, the former head of the St. Louis Fed said in July that Freddie Mac is technically insolvent and Fannie Mae's fair value may be negative next quarter.
Fed Involvement
Fannie and Freddie dropped in after-hours trading on Sept. 5. Fannie fell $2.25, or 32 percent, to $4.79 at 5:50 p.m. in New York Stock Exchange trading and Freddie slumped $1.40, or 27 percent, to $3.70. The market value of Fannie's $21.7 billion in preferreds had dropped 64 percent to $7.87 billion late last month, according to Friedman Billings & Ramsey & Co. The market value of Freddie's $14.1 billion in preferreds has fallen 61 percent to $5.44 billion.
Fannie's market capitalization is now $7.6 billion, down from $38.9 billion at the end of last year. Freddie's has fallen to $3.3 billion, from $22 billion over the same period.
Bernanke participated in the meetings because the central bank was given a consultative role in overseeing Fannie's and Freddie's capital under legislation approved in July. Paulson's decision won the approval of Bernanke and Lockhart, the person briefed on the discussions said.
Conservatorship
The FHFA has the authority to place Fannie or Freddie into conservatorships or receiverships under the law. The legislation that President George W. Bush signed July 30 also gave the Treasury the power through the end of next year to extend unlimited credit to or make equity purchases in the firms.
Under a conservatorship, the authorities would aim to preserve Fannie and Freddie assets, rather than dispose of them, the law says.
The FHFA was scheduled to release its assessment of the companies' capital levels as early as last week as part of a quarterly appraisal of their finances.
Analysts have speculated that the Treasury would wipe out common shareholders, while seeking to shield preferred stockowners from total loss. Fannie and Freddie preferred shares are typically owned by banks and insurance companies. Their $5.2 trillion of debt outstanding is held by investors including Asian central banks, and would probably be guaranteed, analysts said.
Frank said the federal government will take a senior repayment position to ``all shareholders, preferred and common.''
The Treasury is ``going beyond no dividends, I believe, in terms of what's going to happen to the shareholders,'' Frank said. ``I think shareholders are going to find themselves in a very subordinate position.''
Debt Markets
``Treasury's main concern is the debt markets, and if it was to say that it will do whatever is necessary to keep Fannie and Freddie running, the better it is for their funding,'' said Alex Pollock, fellow at the American Enterprise Institute in Washington and former president of the Chicago Federal Home Loan Bank.
Fannie and Freddie sell billions of dollars of bonds each month to pay maturing debt. As of mid-August the companies had $223 billion of debt to refinance by the end of the quarter.
While they have continued to issue securities, Fannie and Freddie have paid record yields over U.S. Treasuries to attract investors reluctant to take on the debt even with its implicit backing from the government.
Freddie sold $3 billion of two-year reference notes this week at 3.229 percent, or 97.5 basis points more than Treasuries of similar maturity, the highest since at least 1998, based on company and market data compiled by Bloomberg.
To contact the reporter on this story: Dawn Kopecki in Washington at dkopecki@bloomberg.net; Alison Vekshin in Washington at avekshin@bloomberg.net;
Full Version: Fannie, Freddie Capital Concerns Prompt Paulson to Take Control By Dawn Kopecki and Alison Vekshin Sept. 7 (Bloomberg)
Common Ground Common Sense > Issues that Affect Our Lives > Job Market, Fiscal, and Economic Policies > Job Market, Fiscal, & Economic Issues Archive
Loan Giant Overstated the Size of Its Capital Base New York Times
US plan for Fannie, Freddie to hit shareholders
Forbes, NY - 3 hours ago
By John Poirier and Patrick Rucker WASHINGTON (Reuters) - The US government plans to take over Fannie Mae (nyse: FNM - news - people ) and Freddie Mac ...
Forbes, NY - 3 hours ago
By John Poirier and Patrick Rucker WASHINGTON (Reuters) - The US government plans to take over Fannie Mae (nyse: FNM - news - people ) and Freddie Mac ...
Mortgage Giants Agreeable to Rescue Plan, but Its Cost Is Unknown
New York Times, United States - 6 hours ago
By EDMUND L. ANDREWS and STEPHEN LABATON WASHINGTON — Fannie Mae and Freddie Mac agreed on Saturday afternoon to the Bush administration’s plan to rescue ...
New York Times, United States - 6 hours ago
By EDMUND L. ANDREWS and STEPHEN LABATON WASHINGTON — Fannie Mae and Freddie Mac agreed on Saturday afternoon to the Bush administration’s plan to rescue ...
Treasury to Outline Fan-Fred Plan 
Getty Images The Treasury is expected to announce Sunday afternoon details of a plan under which regulators will effectively take temporary control over Fannie Mae and Freddie Mac. Homebuyers and holders of Fannie and Freddie debt are the likely beneficiaries of the plan. • Earlier: Fan-Fred Intervention Confirmed • Wash Wire: Fan and Fred Enter Presidential Race • Deal Journal: When Obama and McCain Met Fannie • Real Time Econ: Foreclosure Effect on Prices May Be Small
Getty Images The Treasury is expected to announce Sunday afternoon details of a plan under which regulators will effectively take temporary control over Fannie Mae and Freddie Mac. Homebuyers and holders of Fannie and Freddie debt are the likely beneficiaries of the plan. • Earlier: Fan-Fred Intervention Confirmed • Wash Wire: Fan and Fred Enter Presidential Race • Deal Journal: When Obama and McCain Met Fannie • Real Time Econ: Foreclosure Effect on Prices May Be Small
A First Look Inside the Fannie / Freddie Bailout Plan by Paul Kedrosky | about: FNM, FRE
Common shareholders are being massively diluted as 'preferred' of a preferred/warrant deal that is presented as offering taxpayers upside.
Fannie & Freddie:
Bailout Background
- Fannie and Freddie, We All Support You [Dear John Thain]
- Rescuing 'Frannie' [Felix Salmon]
- Bill Ackman's Letter to Paulson on Restructuring Plan
Fannie and Freddie's Bust and Deeply Flawed Government Bailout
Nouriel Roubini | Sep 7, 2008
The government takeover of the two insolvent GSE's – Fannie and Freddie – is no surprise to the author of this blog. Two years ago – in August of 2006 – this forum argued that the biggest bust in housing since the Great Depression would lead to a systemic banking crisis, a financial crisis, a severe credit crunch, as serious recession and the bust of Fannie and Freddie . As we wrote then:
The scariest thing is that the gambling-for-redemption behavior…are not the exception in the mortgage industry; they are instead the norm. There are good reasons to believe that this is indeed the norm as lending practices have become increasingly reckless in the go-go years of the housing bubble and credit boom.
If this kind of behavior is – as likely – the norm, the coming housing bust may lead to a more severe financial and banking crisis than the S&L crisis of the 1980s. The recent increased financial problems of … sub-prime lending institutions may thus be the proverbial canary in the mine – or tip of the iceberg - and signal the more severe financial distress that many housing lenders will face when the current housing slump turns into a broader and uglier housing bust that will be associated with a broader economic recession. You can then have millions of households with falling wealth, reduced real incomes and lost jobs being unable to service their mortgages and defaulting on them; mortgage delinquencies and foreclosures sharply rising; the beginning of a credit crunch as lending standards are suddenly and sharply tightened with the increased probability of defaults; and finally mortgage lending institutions - with increased losses and saddled with foreclosed properties whose value is falling and that are worth much less than the initial mortgages – that increasingly experience financial distress and risk going bust.
One cannot even exclude systemic risk consequences if the housing bust combined with a recession leads to a bust of the mortgage backed securities (MBS) market and triggers severe losses for the two huge GSEs, Fannie Mae and Freddie Mac. Then, the ugly scenario that Greenspan worried about may come true: the implicit moral hazard coming from the activities of GSEs - that are formally private but that act as if they were large too-big-to-fail public institutions given the market perception that the US Treasury would bail them out in case of a systemic housing and financial distress – becomes explicit. Then, the implicit liabilities from implicit GSEs bailout-expectations lead to a financial and fiscal crisis. If this systemic risk scenario were to occur, the $200 billion fiscal cost to the US tax-payer of bailing-out and cleaning-up the S&Ls may look like spare change compared to the trillions of dollars of implicit liabilities that a more severe home lending industry financial crisis and a GSEs crisis would lead to.
The main, still unexplored issue, is where the risk from mortgages is concentrated: among the sub-prime lenders …or among commercial banks or among hedge funds and other financial intermediaries that purchased mortgage backed securities (MBSs) or among the GSEs (Fannie and Freddie)? Commercial banks claims that they have transferred a lot of their mortgage risk to other financial intermediaries – such as asset managers, hedge funds or insurance companies – who purchased large amounts of MBSs. But banks have still lots of mortgages on their books and, on top of it they have tons of consumer debt exposure (credit cards, auto loans, consumer credit) that may go really bad in a recession. If part of the housing risk has been off-loaded to hedge funds, the risk is not just of some of these hedge funds going bust but also their prime brokers (i.e. large investment banks) getting into trouble; counterparty risk will become serious once the hot potato of mortgage risk is pushed from one counterparty to the other. And finally, a large part of the housing risk is also in the hands of Fannie and Freddie. How much are the GSEs at risk is a complex issue…Either way, a serious housing bust followed by an economy-wide recession implies serious financial risks for the entire financial system, not just risks for the real side of the economy. A systemic risk episode triggered by a housing bust cannot be ruled out
The recent New York Times Magazine long profile article of yours truly (as "Dr Doom") reminded readers that this bust of housing, of the mortgage market and of Fannie and Freddie was predicted here exactly two years ago today's date (September 7th):
"On Sept. 7, 2006, Nouriel Roubini, an economics professor at New York University, stood before an audience of economists at the International Monetary Fund and announced that a crisis was brewing. In the coming months and years, he warned, the United States was likely to face a once-in-a-lifetime housing bust, an oil shock, sharply declining consumer confidence and, ultimately, a deep recession. He laid out a bleak sequence of events: homeowners defaulting on mortgages, trillions of dollars of mortgage-backed securities unraveling worldwide and the global financial system shuddering to a halt. These developments, he went on, could cripple or destroy hedge funds, investment banks and other major financial institutions like Fannie Mae and Freddie Mac."
So the bust and now bailout of Fannie and Freddie is no news for this author and the readers of this blog: it is one of the severe toxic collateral damages of the biggest housing and mortgage bubble and bust in US history.
Details on the US government bailout of the two GSEs – as well as the bailout of the other GSEs, the Federal Home Loan Banks that recently wasted hundreds of billions by lending to troubled mortgage lending institutions - are still partial but the overall picture is not pretty. This bailout plan has mostly lousy features that exacerbate the moral hazard of this government intervention and the overall fiscal costs of such intervention. Specifically consider the following ten flawed features of the plan:
http://www.rgemonitor.com/roubini-monitor/...ernment_bailout
Nouriel Roubini | Sep 7, 2008
The government takeover of the two insolvent GSE's – Fannie and Freddie – is no surprise to the author of this blog. Two years ago – in August of 2006 – this forum argued that the biggest bust in housing since the Great Depression would lead to a systemic banking crisis, a financial crisis, a severe credit crunch, as serious recession and the bust of Fannie and Freddie . As we wrote then:
The scariest thing is that the gambling-for-redemption behavior…are not the exception in the mortgage industry; they are instead the norm. There are good reasons to believe that this is indeed the norm as lending practices have become increasingly reckless in the go-go years of the housing bubble and credit boom.
If this kind of behavior is – as likely – the norm, the coming housing bust may lead to a more severe financial and banking crisis than the S&L crisis of the 1980s. The recent increased financial problems of … sub-prime lending institutions may thus be the proverbial canary in the mine – or tip of the iceberg - and signal the more severe financial distress that many housing lenders will face when the current housing slump turns into a broader and uglier housing bust that will be associated with a broader economic recession. You can then have millions of households with falling wealth, reduced real incomes and lost jobs being unable to service their mortgages and defaulting on them; mortgage delinquencies and foreclosures sharply rising; the beginning of a credit crunch as lending standards are suddenly and sharply tightened with the increased probability of defaults; and finally mortgage lending institutions - with increased losses and saddled with foreclosed properties whose value is falling and that are worth much less than the initial mortgages – that increasingly experience financial distress and risk going bust.
One cannot even exclude systemic risk consequences if the housing bust combined with a recession leads to a bust of the mortgage backed securities (MBS) market and triggers severe losses for the two huge GSEs, Fannie Mae and Freddie Mac. Then, the ugly scenario that Greenspan worried about may come true: the implicit moral hazard coming from the activities of GSEs - that are formally private but that act as if they were large too-big-to-fail public institutions given the market perception that the US Treasury would bail them out in case of a systemic housing and financial distress – becomes explicit. Then, the implicit liabilities from implicit GSEs bailout-expectations lead to a financial and fiscal crisis. If this systemic risk scenario were to occur, the $200 billion fiscal cost to the US tax-payer of bailing-out and cleaning-up the S&Ls may look like spare change compared to the trillions of dollars of implicit liabilities that a more severe home lending industry financial crisis and a GSEs crisis would lead to.
The main, still unexplored issue, is where the risk from mortgages is concentrated: among the sub-prime lenders …or among commercial banks or among hedge funds and other financial intermediaries that purchased mortgage backed securities (MBSs) or among the GSEs (Fannie and Freddie)? Commercial banks claims that they have transferred a lot of their mortgage risk to other financial intermediaries – such as asset managers, hedge funds or insurance companies – who purchased large amounts of MBSs. But banks have still lots of mortgages on their books and, on top of it they have tons of consumer debt exposure (credit cards, auto loans, consumer credit) that may go really bad in a recession. If part of the housing risk has been off-loaded to hedge funds, the risk is not just of some of these hedge funds going bust but also their prime brokers (i.e. large investment banks) getting into trouble; counterparty risk will become serious once the hot potato of mortgage risk is pushed from one counterparty to the other. And finally, a large part of the housing risk is also in the hands of Fannie and Freddie. How much are the GSEs at risk is a complex issue…Either way, a serious housing bust followed by an economy-wide recession implies serious financial risks for the entire financial system, not just risks for the real side of the economy. A systemic risk episode triggered by a housing bust cannot be ruled out
The recent New York Times Magazine long profile article of yours truly (as "Dr Doom") reminded readers that this bust of housing, of the mortgage market and of Fannie and Freddie was predicted here exactly two years ago today's date (September 7th):
"On Sept. 7, 2006, Nouriel Roubini, an economics professor at New York University, stood before an audience of economists at the International Monetary Fund and announced that a crisis was brewing. In the coming months and years, he warned, the United States was likely to face a once-in-a-lifetime housing bust, an oil shock, sharply declining consumer confidence and, ultimately, a deep recession. He laid out a bleak sequence of events: homeowners defaulting on mortgages, trillions of dollars of mortgage-backed securities unraveling worldwide and the global financial system shuddering to a halt. These developments, he went on, could cripple or destroy hedge funds, investment banks and other major financial institutions like Fannie Mae and Freddie Mac."
So the bust and now bailout of Fannie and Freddie is no news for this author and the readers of this blog: it is one of the severe toxic collateral damages of the biggest housing and mortgage bubble and bust in US history.
Details on the US government bailout of the two GSEs – as well as the bailout of the other GSEs, the Federal Home Loan Banks that recently wasted hundreds of billions by lending to troubled mortgage lending institutions - are still partial but the overall picture is not pretty. This bailout plan has mostly lousy features that exacerbate the moral hazard of this government intervention and the overall fiscal costs of such intervention. Specifically consider the following ten flawed features of the plan:
http://www.rgemonitor.com/roubini-monitor/...ernment_bailout
Fannie Mae, Freddie Mac Are Taken Over by U.S. Treasury to Avoid Collapse The U.S. government seized control of Fannie Mae and Freddie Mac after the biggest surge in mortgage defaults in at least three decades threatened to topple the companies making up almost half the U.S. home-loan market.
Fed, FDIC Will Help Small Banks Holding Fannie, Freddie to Restore Capital U.S. regulators said they will help develop plans to restore capital at banks with ``significant'' holdings in Fannie Mae and Freddie Mac after the government seized control of the two mortgage-finance companies.
Treasuries Drop Most in Two Months After U.S. Takes Over Fannie, Freddie Treasuries fell the most in almost two months as the government takeover of Fannie Mae and Freddie Mac gave investors confidence to buy higher-yielding assets.
Yen Declines Against Dollar After U.S. Government Rescues Fannie, Freddie The yen fell by the most in seven weeks against the euro and dropped versus the dollar on speculation the U.S. government's takeover of Fannie Mae and Freddie Mac prompted investors to buy higher-yielding assets.
Paulson Says Fannie, Freddie Can't Remain in Current Form: Statement Text Following is the text of a statement by U.S. Treasury Secretary Henry Paulson on the U.S. government takeover of mortgage companies Fannie Mae and Freddie Mac:
Fed, FDIC Will Help Small Banks Holding Fannie, Freddie to Restore Capital U.S. regulators said they will help develop plans to restore capital at banks with ``significant'' holdings in Fannie Mae and Freddie Mac after the government seized control of the two mortgage-finance companies.
Treasuries Drop Most in Two Months After U.S. Takes Over Fannie, Freddie Treasuries fell the most in almost two months as the government takeover of Fannie Mae and Freddie Mac gave investors confidence to buy higher-yielding assets.
Yen Declines Against Dollar After U.S. Government Rescues Fannie, Freddie The yen fell by the most in seven weeks against the euro and dropped versus the dollar on speculation the U.S. government's takeover of Fannie Mae and Freddie Mac prompted investors to buy higher-yielding assets.
Paulson Says Fannie, Freddie Can't Remain in Current Form: Statement Text Following is the text of a statement by U.S. Treasury Secretary Henry Paulson on the U.S. government takeover of mortgage companies Fannie Mae and Freddie Mac:
U.S. Seizes Mortgage Giants
Government Ousts CEOs of Fannie, Freddie;
Promises Up to $200 Billion in Capital
By JAMES R. HAGERTY, RUTH SIMON and DAMIAN PALETTA
September 8, 2008; Page A1
In its most dramatic market intervention in years, the U.S. government seized two of the nation's largest financial companies, taking direct responsibility for firms that provide funding for around three-quarters of new home mortgages.
Treasury Secretary Henry Paulson announced plans Sunday to take control of troubled mortgage giants Fannie Mae and Freddie Mac and replace the companies' chief executives. The Treasury will acquire $1 billion of preferred shares in each company without providing immediate cash, and has pledged to provide as much as $200 billion to the companies as they cope with heavy losses on mortgage defaults. The Treasury's plan puts the two companies under a conservatorship, giving management control to their regulator, the Federal Housing Finance Agency, or FHFA.
With that, the U.S. mortgage crisis entered a new and uncharted phase, potentially saddling American taxpayers with billions of dollars in losses from home loans made by the private sector. Bush administration officials argued that the cost of doing nothing would be far greater because of the toll on the economy of falling home prices and defaults in the $11 trillion U.S. mortgage market.
Mr. Paulson noted that more than $5 trillion of debt and mortgage-backed securities issued by Fannie and Freddie is owned by central banks and other investors world-wide. "Failure of either of them would cause great turmoil in our financial markets here at home and around the globe," Mr. Paulson said.
By taking this action, the government has seized control of the vast bulk of the secondary market for home mortgages and will have a more direct responsibility than ever for solving the housing crisis. The intervention also marks the failure of the public-private experiment that was created to boost home ownership among Americans. Fannie and Freddie were created by Congress to help prop up the housing market, and investors have long believed the government would bail the companies out in a crisis. But the companies have long been owned by private shareholders seeking to maximize profits.
The federal takeover was initially welcomed by banks and market watchers outside the U.S. who saw it as a way to dispel some of the uncertainty roiling the world's financial markets. The intervention could eventually be a boon for Wall Street, by providing a boost to the moribund mortgage industry and by perhaps diminishing the influence of Wall Street's two largest competitors in the market of packaging and reselling mortgage-backed bonds.
Markets across Asia rallied early Monday morning on the news, with financial shares leading the way. Japan's Nikkei Stock Average of 225 companies soared more than 3%, and Hong Kong's Hang Seng Index opened 4.5% higher.
The move is also likely to nudge down mortgage rates for consumers, who are facing the worst housing bust since the 1930s. Despite steep interest-rate cuts by the Federal Reserve, the cost of a typical 30-year fixed-rate mortgage has remained well over 6% for most of the past year. To bolster the mortgage market, Treasury said it will buy, on the open market, at least $5 billion of new mortgage-backed securities issued by Fannie and Freddie.
The government rescue of Fannie and Freddie is likely to leave a trail of billions of dollars in losses for stockholders, including some major banks. But it protects the investments of bondholders, including mutual funds, foreign central banks and government investment funds that own huge amounts of debt issued by the two companies. Investors that have loaded up recently on mortgage-backed bonds -- such as Pacific Investment Management Co., the large Newport Beach, Calif., bond manager -- could benefit as Treasury purchases of such securities drive up their values.
It is unclear how much the government's intervention will ultimately cost taxpayers. In addition to its initial acquisition of preferred shares, the government receives warrants giving it the right to a stake of 79.9% of each company for a nominal sum. The Treasury's preferred shares, which carry an annual dividend yield of 10%, will be senior to those earlier issued, meaning the government will have the first right to receive dividends.
Existing shareholders won't fare so well. The new overseers will eliminate dividends on billions of dollars of common and preferred stock, moves that are expected to further drive down the price of those shares. If the government exercises its warrants, existing common shares will be drastically diluted. Common shareholders are expected to see the value of their investment, which has already fallen, shrivel further, say analysts. Even preferred stockholders are expected to see a significant decline.
That prospect is especially problematic for some of the commercial banks and thrifts that hold high concentrations of Fannie and Freddie preferred shares. The Office of Thrift Supervision, a government agency that supervises savings and loans, said that roughly 2% of the 829 companies it regulates -- or around 17 banks -- had a concentration in common or preferred shares of Fannie Mae and Freddie Mac that surpassed 10% of their Tier 1 capital. Regulators said Sunday they would work with banks that hold large exposures to Fannie and Freddie "to develop capital-restoration plans" if necessary.
The Shape of the Future
The Treasury's move doesn't answer the question of what ultimately happens to Fannie and Freddie. Under the conservatorship of their regulator, the companies will still have their shares listed on the New York Stock Exchange. But management control goes to the regulator until it deems the companies financially healthy. Congress ultimately will have to decide in what form Fannie and Freddie will be relaunched or whether they will be replaced by different types of entities.
Mr. Paulson signaled that he wants to remake the U.S. housing-finance system in the longer term, ditching the "flawed business model" of government-sponsored enterprises like Fannie and Freddie. The Treasury plan limits the size of each company's mortgage portfolios to a maximum of $850 billion as of the end of 2009. (Fannie currently owns about $758 billion of mortgages and related securities, while Freddie's total is about $798 billion.) After that, the Treasury intends for the mortgage holdings to shrink about 10% a year until they reach about $250 billion at each company.
Wrangling over the future shape of Freddie and Fannie will likely be kicked to the next Congress. Already the majority Democrats are pushing back on elements of Treasury's plan. "Good luck on that," said Massachusetts Rep. Barney Frank, chairman of the House Financial Services Committee, when asked about the Treasury's plan to start reducing the firms' portfolios beginning in 2010. Mr. Frank called it "more of a sop to the right" than a real policy prescription and said it wasn't going to happen.
Many economists and analysts believe the government had to wade deeper into the mortgage market because for now "private markets are just not willing to put up the capital" for home mortgages at prices U.S. consumers could afford, said Susan Wachter, a professor of real estate and finance at the University of Pennsylvania's Wharton School. Without government support for the mortgage market, home prices would fall much further, exposing the country as a whole to greater economic strain, Ms. Wachter says.
The turn of events for Fannie and Freddie is remarkable considering the two companies for so long shunned the riskiest type of mortgages, only to embrace those mortgages late in the game in an effort to regain market share from Wall Street rivals.
As early as 2005, Fannie executives publicly expressed concerns about growing risks in the mortgage market. In May of that year, Thomas Lund, a Fannie Mae executive vice president, said that lenders should be concerned if borrowers straining to afford homes were given loans allowing for low payments in the early years but storing up much higher ones for later. "In many cases the consumers may not understand all the risks," he said.
Yet both companies expanded their exposure to riskier loans. At both Fannie and Freddie, so-called Alt-A loans, a category between prime and subprime, accounted for roughly 50% of credit losses in the second quarter, even though such loans accounted for only about 10% of the companies' business. Alt-A mortgages include loans made with less than full documentation of borrowers' income or assets.
As these and other loans -- including many in areas such as California and Florida that are among the hardest hit by the housing crisis -- started to go bad, the companies failed to raise enough capital late last year, when investors were still fairly bullish on their prospects, to see them through the current storm. The companies have recorded combined losses totaling about $14 billion over the past four quarters, eating deeply into their meager capital holdings. Most analysts expect them to report sizable losses for at least another couple of years as the costs of foreclosures mount.
A Reflection of the Market
Fannie and Freddie's credit problems are largely a reflection of the overall weakness in the housing market. Some 9.2% of mortgages on one- to four-family homes were at least a month overdue or in the foreclosure process in the second quarter, according to the latest survey of the Mortgage Bankers Association. That is the highest percentage in the 39 years that the trade group has been doing the surveys.
"Make no mistake, anybody in the mortgage business is going to see much higher losses than they thought they would a year ago because we've had the worst housing market and the largest home price declines that anybody has seen," said Thomas Lawler, a housing economist in Leesburg, Va., who formerly worked for Fannie.
Both companies are also exposed to some of the mortgage industry's most troubled players. Countrywide Financial Corp., now part of Bank of America Corp., was the largest provider of loans purchased by Fannie Mae, accounting for 29% of its business in 2007, according to Inside Mortgage Finance, and was the second largest source of loans for Freddie Mac, with a 16% share. IndyMac Financial Corp., which previously had focused its business on Alt-A loans that didn't meet Fannie and Freddie guidelines, switched to a policy of making loans that could meet their standards in 2007. IndyMac was taken over by the Federal Deposit Insurance Corp. this summer.
At Fannie, Herb Allison, who formerly served as chairman of the investment company TIAA-CREF, succeeds Daniel Mudd. Freddie's chief executive, Richard Syron, was succeeded by David Moffett, who has been vice chairman and chief financial officer of U.S. Bancorp.
Potentially, Mr. Syron could walk away with an exit package totaling as much as $15 million, said David Schmidt, a senior consultant at James F. Reda & Associates LLC, a compensation consulting concern in New York. That includes a pension and deferred compensation, about $3.7 million in severance pay and a possible payment of $8.8 million to compensate for forfeiting recent equity grants. A Freddie spokesman said Mr. Syron had said he doesn't "anticipate receiving nearly that much."
Mr. Mudd's exit package, including stock he already owns, could total $14 million, Mr. Schmidt estimates. That includes $5 million in pension and deferred compensation, $4.2 million in severance pay and $3.4 million of restricted stock, based on Friday's closing price. The value of that stock could fall sharply, however.
Government Ousts CEOs of Fannie, Freddie;
Promises Up to $200 Billion in Capital
By JAMES R. HAGERTY, RUTH SIMON and DAMIAN PALETTA
September 8, 2008; Page A1
In its most dramatic market intervention in years, the U.S. government seized two of the nation's largest financial companies, taking direct responsibility for firms that provide funding for around three-quarters of new home mortgages.
Treasury Secretary Henry Paulson announced plans Sunday to take control of troubled mortgage giants Fannie Mae and Freddie Mac and replace the companies' chief executives. The Treasury will acquire $1 billion of preferred shares in each company without providing immediate cash, and has pledged to provide as much as $200 billion to the companies as they cope with heavy losses on mortgage defaults. The Treasury's plan puts the two companies under a conservatorship, giving management control to their regulator, the Federal Housing Finance Agency, or FHFA.
With that, the U.S. mortgage crisis entered a new and uncharted phase, potentially saddling American taxpayers with billions of dollars in losses from home loans made by the private sector. Bush administration officials argued that the cost of doing nothing would be far greater because of the toll on the economy of falling home prices and defaults in the $11 trillion U.S. mortgage market.
Mr. Paulson noted that more than $5 trillion of debt and mortgage-backed securities issued by Fannie and Freddie is owned by central banks and other investors world-wide. "Failure of either of them would cause great turmoil in our financial markets here at home and around the globe," Mr. Paulson said.
By taking this action, the government has seized control of the vast bulk of the secondary market for home mortgages and will have a more direct responsibility than ever for solving the housing crisis. The intervention also marks the failure of the public-private experiment that was created to boost home ownership among Americans. Fannie and Freddie were created by Congress to help prop up the housing market, and investors have long believed the government would bail the companies out in a crisis. But the companies have long been owned by private shareholders seeking to maximize profits.
The federal takeover was initially welcomed by banks and market watchers outside the U.S. who saw it as a way to dispel some of the uncertainty roiling the world's financial markets. The intervention could eventually be a boon for Wall Street, by providing a boost to the moribund mortgage industry and by perhaps diminishing the influence of Wall Street's two largest competitors in the market of packaging and reselling mortgage-backed bonds.
Markets across Asia rallied early Monday morning on the news, with financial shares leading the way. Japan's Nikkei Stock Average of 225 companies soared more than 3%, and Hong Kong's Hang Seng Index opened 4.5% higher.
The move is also likely to nudge down mortgage rates for consumers, who are facing the worst housing bust since the 1930s. Despite steep interest-rate cuts by the Federal Reserve, the cost of a typical 30-year fixed-rate mortgage has remained well over 6% for most of the past year. To bolster the mortgage market, Treasury said it will buy, on the open market, at least $5 billion of new mortgage-backed securities issued by Fannie and Freddie.
The government rescue of Fannie and Freddie is likely to leave a trail of billions of dollars in losses for stockholders, including some major banks. But it protects the investments of bondholders, including mutual funds, foreign central banks and government investment funds that own huge amounts of debt issued by the two companies. Investors that have loaded up recently on mortgage-backed bonds -- such as Pacific Investment Management Co., the large Newport Beach, Calif., bond manager -- could benefit as Treasury purchases of such securities drive up their values.
It is unclear how much the government's intervention will ultimately cost taxpayers. In addition to its initial acquisition of preferred shares, the government receives warrants giving it the right to a stake of 79.9% of each company for a nominal sum. The Treasury's preferred shares, which carry an annual dividend yield of 10%, will be senior to those earlier issued, meaning the government will have the first right to receive dividends.
Existing shareholders won't fare so well. The new overseers will eliminate dividends on billions of dollars of common and preferred stock, moves that are expected to further drive down the price of those shares. If the government exercises its warrants, existing common shares will be drastically diluted. Common shareholders are expected to see the value of their investment, which has already fallen, shrivel further, say analysts. Even preferred stockholders are expected to see a significant decline.
That prospect is especially problematic for some of the commercial banks and thrifts that hold high concentrations of Fannie and Freddie preferred shares. The Office of Thrift Supervision, a government agency that supervises savings and loans, said that roughly 2% of the 829 companies it regulates -- or around 17 banks -- had a concentration in common or preferred shares of Fannie Mae and Freddie Mac that surpassed 10% of their Tier 1 capital. Regulators said Sunday they would work with banks that hold large exposures to Fannie and Freddie "to develop capital-restoration plans" if necessary.
The Shape of the Future
The Treasury's move doesn't answer the question of what ultimately happens to Fannie and Freddie. Under the conservatorship of their regulator, the companies will still have their shares listed on the New York Stock Exchange. But management control goes to the regulator until it deems the companies financially healthy. Congress ultimately will have to decide in what form Fannie and Freddie will be relaunched or whether they will be replaced by different types of entities.
Mr. Paulson signaled that he wants to remake the U.S. housing-finance system in the longer term, ditching the "flawed business model" of government-sponsored enterprises like Fannie and Freddie. The Treasury plan limits the size of each company's mortgage portfolios to a maximum of $850 billion as of the end of 2009. (Fannie currently owns about $758 billion of mortgages and related securities, while Freddie's total is about $798 billion.) After that, the Treasury intends for the mortgage holdings to shrink about 10% a year until they reach about $250 billion at each company.
Wrangling over the future shape of Freddie and Fannie will likely be kicked to the next Congress. Already the majority Democrats are pushing back on elements of Treasury's plan. "Good luck on that," said Massachusetts Rep. Barney Frank, chairman of the House Financial Services Committee, when asked about the Treasury's plan to start reducing the firms' portfolios beginning in 2010. Mr. Frank called it "more of a sop to the right" than a real policy prescription and said it wasn't going to happen.
Many economists and analysts believe the government had to wade deeper into the mortgage market because for now "private markets are just not willing to put up the capital" for home mortgages at prices U.S. consumers could afford, said Susan Wachter, a professor of real estate and finance at the University of Pennsylvania's Wharton School. Without government support for the mortgage market, home prices would fall much further, exposing the country as a whole to greater economic strain, Ms. Wachter says.
The turn of events for Fannie and Freddie is remarkable considering the two companies for so long shunned the riskiest type of mortgages, only to embrace those mortgages late in the game in an effort to regain market share from Wall Street rivals.
As early as 2005, Fannie executives publicly expressed concerns about growing risks in the mortgage market. In May of that year, Thomas Lund, a Fannie Mae executive vice president, said that lenders should be concerned if borrowers straining to afford homes were given loans allowing for low payments in the early years but storing up much higher ones for later. "In many cases the consumers may not understand all the risks," he said.
Yet both companies expanded their exposure to riskier loans. At both Fannie and Freddie, so-called Alt-A loans, a category between prime and subprime, accounted for roughly 50% of credit losses in the second quarter, even though such loans accounted for only about 10% of the companies' business. Alt-A mortgages include loans made with less than full documentation of borrowers' income or assets.
As these and other loans -- including many in areas such as California and Florida that are among the hardest hit by the housing crisis -- started to go bad, the companies failed to raise enough capital late last year, when investors were still fairly bullish on their prospects, to see them through the current storm. The companies have recorded combined losses totaling about $14 billion over the past four quarters, eating deeply into their meager capital holdings. Most analysts expect them to report sizable losses for at least another couple of years as the costs of foreclosures mount.
A Reflection of the Market
Fannie and Freddie's credit problems are largely a reflection of the overall weakness in the housing market. Some 9.2% of mortgages on one- to four-family homes were at least a month overdue or in the foreclosure process in the second quarter, according to the latest survey of the Mortgage Bankers Association. That is the highest percentage in the 39 years that the trade group has been doing the surveys.
"Make no mistake, anybody in the mortgage business is going to see much higher losses than they thought they would a year ago because we've had the worst housing market and the largest home price declines that anybody has seen," said Thomas Lawler, a housing economist in Leesburg, Va., who formerly worked for Fannie.
Both companies are also exposed to some of the mortgage industry's most troubled players. Countrywide Financial Corp., now part of Bank of America Corp., was the largest provider of loans purchased by Fannie Mae, accounting for 29% of its business in 2007, according to Inside Mortgage Finance, and was the second largest source of loans for Freddie Mac, with a 16% share. IndyMac Financial Corp., which previously had focused its business on Alt-A loans that didn't meet Fannie and Freddie guidelines, switched to a policy of making loans that could meet their standards in 2007. IndyMac was taken over by the Federal Deposit Insurance Corp. this summer.
At Fannie, Herb Allison, who formerly served as chairman of the investment company TIAA-CREF, succeeds Daniel Mudd. Freddie's chief executive, Richard Syron, was succeeded by David Moffett, who has been vice chairman and chief financial officer of U.S. Bancorp.
Potentially, Mr. Syron could walk away with an exit package totaling as much as $15 million, said David Schmidt, a senior consultant at James F. Reda & Associates LLC, a compensation consulting concern in New York. That includes a pension and deferred compensation, about $3.7 million in severance pay and a possible payment of $8.8 million to compensate for forfeiting recent equity grants. A Freddie spokesman said Mr. Syron had said he doesn't "anticipate receiving nearly that much."
Mr. Mudd's exit package, including stock he already owns, could total $14 million, Mr. Schmidt estimates. That includes $5 million in pension and deferred compensation, $4.2 million in severance pay and $3.4 million of restricted stock, based on Friday's closing price. The value of that stock could fall sharply, however.
$300 Billion to Save Fannie, Freddie bloomberg.com — William Poole, former president of the Federal Reserve Bank of St. Louis, said taxpayers may face a $300 billion bill to revive Fannie Mae and Freddie Mac, the mortgage giants being taken over by the Federal government. "I would not be surprised if their total losses aggregate about 5 percent of their obligations" of about $6 trillion, Poole said in an interview. He said financial fallout from Fannie and Freddie was likely to be a long-term drain on the Treasury. Treasury Secretary Henry Paulson said he would replace the chief executives of Washington-based Fannie Mae and McLean, Virginia-based Freddie Mac and eliminate their dividends. 
Statement on the Conservatorship of Fannie Mae and Freddie Mac
By Dean Baker
Secretary Paulson's decision to put Fannie Mae and Freddie Mac under a conservatorship was the right move at the right time. As the market reaction shows, it removed an important source of uncertainty in the housing market and in financial markets more generally. The big question now is what these institutions will look like going forward. There is a strong argument for keeping these institutions public.
First, it is important to be clear on why Fannie Mae and Freddie Mac faced collapse. These mortgage giants went under because they were somehow unable to recognize the housing bubble and to adjust their lending to protect themselves against the inevitable crash. It is their job to know the housing market and to recognize a bubble. Furthermore, if Fannie and Freddie had begun to tighten credit five or six years ago, when house prices were already clearly out of line, they could have stopped the growth of the bubble before it reached such dangerous proportions.
The current disaster should not lead people to forget the benefits that these companies conveyed to homeowners. By creating the secondary-mortgage market, they created first a national and then an international market for home mortgages. This had the effect of equalizing interest rates across the country and making homeownership affordable to millions of families.
There is still a very big need for Fannie and Freddie to ensure a well-operating secondary-mortgage market. However, it is not clear what benefit the country would get by returning them to their mixed public-private status. In effect, both Fannie and Freddie can be operated as public corporations, which was the case with Fannie Mae prior to its privatization in 1968.
The private sector should take the leading role in most areas of the economy because it is more innovative and more willing to take risks than the public sector. However, it is not clear that we want a lot of innovation in the secondary mortgage market. Financial innovations in the mortgage market helped extend the housing bubble and are the basis of much of the financial turmoil now facing the country and the world.
We would have benefited enormously had Fannie and Freddie operated in a conservative manner - buying up mortgages that met solid lending criteria, and packing them into standard mortgage-backed securities. Fannie and Freddie's eagerness to keep market share, even at the cost of acquiring riskier mortgages, was the main cause of their bankruptcy. Their innovative private sector practices are likely to cost taxpayers tens of billions of dollars in this bailout, in addition to the much greater harm they caused to the economy by extending the housing bubble.
In the future, Fannie and Freddie can best serve their role of providing the stable anchor of the secondary mortgage market by being government corporations. These companies are playing with the taxpayers' dollars. While the public guarantee of Fannie and Freddie debt is necessary to ensure the stability of the secondary-mortgage market, there is no reason that this guarantee should apply to any investment on which their top executives choose to gamble.
- September 8, 2008
By Dean Baker
Secretary Paulson's decision to put Fannie Mae and Freddie Mac under a conservatorship was the right move at the right time. As the market reaction shows, it removed an important source of uncertainty in the housing market and in financial markets more generally. The big question now is what these institutions will look like going forward. There is a strong argument for keeping these institutions public.
First, it is important to be clear on why Fannie Mae and Freddie Mac faced collapse. These mortgage giants went under because they were somehow unable to recognize the housing bubble and to adjust their lending to protect themselves against the inevitable crash. It is their job to know the housing market and to recognize a bubble. Furthermore, if Fannie and Freddie had begun to tighten credit five or six years ago, when house prices were already clearly out of line, they could have stopped the growth of the bubble before it reached such dangerous proportions.
The current disaster should not lead people to forget the benefits that these companies conveyed to homeowners. By creating the secondary-mortgage market, they created first a national and then an international market for home mortgages. This had the effect of equalizing interest rates across the country and making homeownership affordable to millions of families.
There is still a very big need for Fannie and Freddie to ensure a well-operating secondary-mortgage market. However, it is not clear what benefit the country would get by returning them to their mixed public-private status. In effect, both Fannie and Freddie can be operated as public corporations, which was the case with Fannie Mae prior to its privatization in 1968.
The private sector should take the leading role in most areas of the economy because it is more innovative and more willing to take risks than the public sector. However, it is not clear that we want a lot of innovation in the secondary mortgage market. Financial innovations in the mortgage market helped extend the housing bubble and are the basis of much of the financial turmoil now facing the country and the world.
We would have benefited enormously had Fannie and Freddie operated in a conservative manner - buying up mortgages that met solid lending criteria, and packing them into standard mortgage-backed securities. Fannie and Freddie's eagerness to keep market share, even at the cost of acquiring riskier mortgages, was the main cause of their bankruptcy. Their innovative private sector practices are likely to cost taxpayers tens of billions of dollars in this bailout, in addition to the much greater harm they caused to the economy by extending the housing bubble.
In the future, Fannie and Freddie can best serve their role of providing the stable anchor of the secondary mortgage market by being government corporations. These companies are playing with the taxpayers' dollars. While the public guarantee of Fannie and Freddie debt is necessary to ensure the stability of the secondary-mortgage market, there is no reason that this guarantee should apply to any investment on which their top executives choose to gamble.
- September 8, 2008
Center for Economic and Policy Research, 1611 Connecticut Ave, NW, Suite 400, Washington, DC 20009
Phone: (202) 293-5380, Fax: (202) 588-1356, Home: www.cepr.net
Phone: (202) 293-5380, Fax: (202) 588-1356, Home: www.cepr.net
The Fannie/Freddie Bailout's Good News - Jim Cramer, TheStreet.com
Paulson Propping Up The Living Dead - Editorial, Wall Street Journal
Paulson Changes Rules of the Capital Game - Colin Barr, Fortune
Beginning of the Financial 'Surge' - Randall Forsyth, Barron's
The Dilemma of Fan and Fred - Floyd Norris, New York Times
We Need Fundamental Mortgage Reform - Bert Ely, Wall Street Journal
Saving the Financial System All Over Again - J. Hussman, Hussman Funds
Paulson Propping Up The Living Dead - Editorial, Wall Street Journal
Paulson Changes Rules of the Capital Game - Colin Barr, Fortune
Beginning of the Financial 'Surge' - Randall Forsyth, Barron's
The Dilemma of Fan and Fred - Floyd Norris, New York Times
We Need Fundamental Mortgage Reform - Bert Ely, Wall Street Journal
Saving the Financial System All Over Again - J. Hussman, Hussman Funds
Dodd Questions Fannie Mae, Freddie Mac Takeover
Democratic Sen. Christopher Dodd, chairman of the Senate Banking Committee, has questions about the government's takeover plan for the two housing finance giants. Dodd says he's surprised the authority to take control of the companies was actually used — and so quickly after it was given.
Comrades Bush, Paulson and Bernanke Welcome You to the USSRA (United Socialist State Republic of America)
Nouriel Roubini | Sep 9, 2008 The now inevitable nationalization of Fannie and Freddie is the most radical regime change in global economic and financial affairs in decades. For the last twenty years after the collapse of the USSR, the fall of the Iron Curtain and the economic reforms in China and other emerging market economies the world economy has moved away from state ownership of the economy and towards privatization of previously stated owned enterprises. This trends was aggressively supported the United States that preached right and left the benefits of free markets and free private enterprise.
Today instead the US has performed the greatest nationalization in the history of humanity. By nationalizing Fannie and Freddie the US has increased its public assets by almost $6 trillion and has increased its public debt/liabilities by another $6 trillion. The US has also turned itself into the largest government-owned hedge fund in the world: by injecting a likely $200 billion of capital into Fannie and Freddie and taking on almost $6 trillion of liabilities of such GSEs the US has also undertaken the biggest and most levered LBO ("leveraged buy-out") in human history that has a debt to equity ratio of 30 ($6,000 billion of debt against $200 billion of equity).
So now Comrades Bush, Paulson and Bernanke (as originally nicknamed by Willem Buiter) have now turned the USA into the USSRA (the United Socialist State Republic of America). Socialism is indeed alive and well in America; but this is socialism for the rich, the well connected and Wall Street. A socialism where profits are privatized and losses are socialized with the US tax-payer being charged the bill of $300 billion.
This biggest bailout and nationalization in human history comes from the most fanatically and ideologically zealot free-market laissez-faire administration in US history. These are the folks who for years spewed the rhetoric of free markets and cutting down government intervention in economic affairs. But they were so fanatically ideological about free markets that they did not realize that financial and other markets without proper rules, supervision and regulation are like a jungle where greed – untempered by fear of loss or of punishment – leads to credit bubbles and asset bubbles and manias and eventual bust and panics.
The ideologue "regulators" who literally held a chain saw at a public event to smash "unnecessary regulations" are now communists nationalizing private firms and socializing their losses: the bailout of the Bear Stearns creditors, the bailout of Fannie and Freddie, the use of the Fed balance sheet (hundreds of billions of safe US Treasuries swapped for junk toxic illiquid private securities), the use of the other GSEs (the Federal Home Loan Bank system) to provide hundreds of billions of dollars of "liquidity" to distressed, illiquid and insolvent mortgage lenders, the use of the SEC to manipulate the stock market (restrictions on short sales), the use of the US Treasury to manipulate the mortgage market (Treasury will now for the first time outright buy agency MBS to manipulate and prop up this market), the creation of a whole host of new bailout facilities (TAF, TSLF, PDCF) to prop and rescue banks and, for the first time since the Great Depression,to bail out non-bank financial institutions, and a whole range of other executive and legislative actions (including the recent bill to provide a public guarantee to mortgage for banks willing to reduce their face value).
This is the biggest and most socialist government intervention in economic affairs since the formation of the Soviet Union and Communist China. So foreign investors are now welcome to the USSRA (the United Socialist State Republic of America) where they can earn fat spreads relative to Treasuries on agency debt and never face any credit risks (not even the subordinated debt holders who made a fortune yesterday as those claims were also made whole).
Like scores of evangelists and hypocrites and moralists who spew and praise family values and pretend to be holier than thou and are then regularly caught cheating or cross dressing or found to be perverts these Bush hypocrites who spewed for years the glory of unfettered wild west laissez faire jungle capitalism (and never believed in any sensible and appropriate regulation and supervision of financial markets) allowed the biggest debt bubble ever to fester without any control, have caused the biggest financial crisis since the Great Depression and are now forced to perform the biggest government intervention and nationalizations in the recent history of humanity, all for the benefit of the rich and the well connected. So Comrades Bush and Paulson and Bernanke will rightly pass to the history books as a troika of Bolsheviks who turned the USA into the USSRA. Fanatic zealots of any religion are always pests that cause havoc and destruction with their inflexible fanaticism; but they usually don't run the biggest economy in the world. But these laissez faire voodoo-economics zealots in charge of the USA have now caused the biggest financial crisis since the Great Depression and the nastiest economic crisis in decades. So let them be shamed in public for their hypocrisy and zealotry that has caused so much financial and economic damage.
Nouriel Roubini | Sep 9, 2008 The now inevitable nationalization of Fannie and Freddie is the most radical regime change in global economic and financial affairs in decades. For the last twenty years after the collapse of the USSR, the fall of the Iron Curtain and the economic reforms in China and other emerging market economies the world economy has moved away from state ownership of the economy and towards privatization of previously stated owned enterprises. This trends was aggressively supported the United States that preached right and left the benefits of free markets and free private enterprise.
Today instead the US has performed the greatest nationalization in the history of humanity. By nationalizing Fannie and Freddie the US has increased its public assets by almost $6 trillion and has increased its public debt/liabilities by another $6 trillion. The US has also turned itself into the largest government-owned hedge fund in the world: by injecting a likely $200 billion of capital into Fannie and Freddie and taking on almost $6 trillion of liabilities of such GSEs the US has also undertaken the biggest and most levered LBO ("leveraged buy-out") in human history that has a debt to equity ratio of 30 ($6,000 billion of debt against $200 billion of equity).
So now Comrades Bush, Paulson and Bernanke (as originally nicknamed by Willem Buiter) have now turned the USA into the USSRA (the United Socialist State Republic of America). Socialism is indeed alive and well in America; but this is socialism for the rich, the well connected and Wall Street. A socialism where profits are privatized and losses are socialized with the US tax-payer being charged the bill of $300 billion.
This biggest bailout and nationalization in human history comes from the most fanatically and ideologically zealot free-market laissez-faire administration in US history. These are the folks who for years spewed the rhetoric of free markets and cutting down government intervention in economic affairs. But they were so fanatically ideological about free markets that they did not realize that financial and other markets without proper rules, supervision and regulation are like a jungle where greed – untempered by fear of loss or of punishment – leads to credit bubbles and asset bubbles and manias and eventual bust and panics.
The ideologue "regulators" who literally held a chain saw at a public event to smash "unnecessary regulations" are now communists nationalizing private firms and socializing their losses: the bailout of the Bear Stearns creditors, the bailout of Fannie and Freddie, the use of the Fed balance sheet (hundreds of billions of safe US Treasuries swapped for junk toxic illiquid private securities), the use of the other GSEs (the Federal Home Loan Bank system) to provide hundreds of billions of dollars of "liquidity" to distressed, illiquid and insolvent mortgage lenders, the use of the SEC to manipulate the stock market (restrictions on short sales), the use of the US Treasury to manipulate the mortgage market (Treasury will now for the first time outright buy agency MBS to manipulate and prop up this market), the creation of a whole host of new bailout facilities (TAF, TSLF, PDCF) to prop and rescue banks and, for the first time since the Great Depression,to bail out non-bank financial institutions, and a whole range of other executive and legislative actions (including the recent bill to provide a public guarantee to mortgage for banks willing to reduce their face value).
This is the biggest and most socialist government intervention in economic affairs since the formation of the Soviet Union and Communist China. So foreign investors are now welcome to the USSRA (the United Socialist State Republic of America) where they can earn fat spreads relative to Treasuries on agency debt and never face any credit risks (not even the subordinated debt holders who made a fortune yesterday as those claims were also made whole).
Like scores of evangelists and hypocrites and moralists who spew and praise family values and pretend to be holier than thou and are then regularly caught cheating or cross dressing or found to be perverts these Bush hypocrites who spewed for years the glory of unfettered wild west laissez faire jungle capitalism (and never believed in any sensible and appropriate regulation and supervision of financial markets) allowed the biggest debt bubble ever to fester without any control, have caused the biggest financial crisis since the Great Depression and are now forced to perform the biggest government intervention and nationalizations in the recent history of humanity, all for the benefit of the rich and the well connected. So Comrades Bush and Paulson and Bernanke will rightly pass to the history books as a troika of Bolsheviks who turned the USA into the USSRA. Fanatic zealots of any religion are always pests that cause havoc and destruction with their inflexible fanaticism; but they usually don't run the biggest economy in the world. But these laissez faire voodoo-economics zealots in charge of the USA have now caused the biggest financial crisis since the Great Depression and the nastiest economic crisis in decades. So let them be shamed in public for their hypocrisy and zealotry that has caused so much financial and economic damage.
Silence of Lambs
William Greider: The bailout of two mortgage giants sticks the American taxpayer with the bill--with not of peep of protest from Obama and McCain.
William Greider: The bailout of two mortgage giants sticks the American taxpayer with the bill--with not of peep of protest from Obama and McCain.
Where's the damn outrage? -- The two CEOs who were relieved of their duties at Fannie and Freddie, as I understand it, received parting gifts of $9 million and $14 million. Disgusting! And what about the CEO's of all the big banks and the 219 local banks on the "watch list." They allowed their banks to buy so many toxic bonds that when the bonds were priced to market, the banks were seen to be under water. What happens to all these moron CEOs? Do they get kicked out with gifts of millions too? Where's the responsibility? Where's the justice? Where's the outrage? Why aren't charges brought against these fakers who got away with super-stupidity and derelictions of duty? Why are they receiving millions as they are kicked out of office? Disgusting, shameful, ugly! And there's no outrage.
Nationalization of Fannie, Freddie triggers defaults for derivatives
Submitted by cpowell on 05:03PM ET Monday, September 8, 2008. Section: Daily Dispatches By Aline van DuynFinancial Times, London
Monday, September 8, 2008
http://www.ft.com/cms/s/0/ed1e14c6-7dd0-11...658.html?ncli...
One of the largest defaults in the history of the $62,000 billion credit derivatives market has been triggered by the US government's seizure of Fannie Mae and Freddie Mac, raising questions about how dealers will unwind billions of dollars worth of contracts.
Although the $1,600 billion of debt issued by the troubled mortgage groups is regarded as safe after the US government's move to take control of the companies, their move into "conservatorship" counts as the equivalent of a bankruptcy in the credit derivatives market.
This triggers a default on credit default swaps -- instruments that provide a form of insurance on fixed-income assets. Dealers in the market are now working to settle these contracts.
The exact amount of CDS on Fannie Mae and Freddie Mac are not known, reflecting the private nature of the market, but they are part of widely traded indices and the amounts are likely to be significant. Analysts at Lehman Brothers said: "There is likely to be a considerable amount of notional protection outstanding."
The industry body, International Swaps and Derivatives Association, said on Monday it would launch a protocol to facilitate settlement of credit derivative trades involving Fannie Mae and Freddie Mac and would publish further details in due course.
The uncertainty surrounding the Fannie Mae and Freddie Mac CDS contacts highlights the need for improved settlement and trading procedures. Already, regulators have put pressure on CDS dealers, including all the large financial institutions, to reduce settlement and trading risks.
The near-collapse of Bear Stearns in March highlighted the extent to which many large financial institutions were linked together through the CDS market, and the Federal Reserve and other regulators want to reduce such systemic financial risks.
The growth of the CDS market over the past decade has outpaced development of settlement systems and trading infrastructure. One worry is the lack of standard procedures in contracts for dealers to agree ways to settle defaulted credit derivatives.
The actual payments on credit default swaps on Fannie Mae and Freddie Mac are expected to be limited because the value of the mortgage agencies' debt remains high after the US government stepped in to back it.
That means that meeting any claims on CDS may not be that costly, although the details are still being worked out and the impact is unknown.
Analysts at Creditsights said regulators could "use the bailout as another lever" to enhance the CDS market's efficiency.
Bailout hands Pimco $1.7 billion payday
Submitted by cpowell on 05:24PM ET Tuesday, September 9, 2008. Section: Daily Dispatches By Deborah BrewsterFinancial Times, London
Tuesday, September 9, 2008
http://www.ft.com/cms/s/0/838d3cb4-7e96-11...0077b07658.html
NEW YORK -- The Bill Gross-managed Pimco Total Return fund reaped a $1.7 billion payday following the US government takeover of home loan giants Fannie Mae and Freddie Mac.
While shareholders in Fannie and Freddie suffered deep losses, the world's biggest bond fund saw its highest ever one-day rise against its benchmark index on Monday, benefiting from the bet made by Mr Gross on mortgage bonds issued by the agencies.
Mr Gross had made a big shift out of US Treasuries and corporate bonds over the past year and into agency bonds, betting that the government would support Fannie and Freddie Mac. By May this year, more than 60 per cent of his $132 billion fund was in mortgage debt.
Mortgage-backed bond prices rose after the US government seized control of the agencies.
Mr Gross's fund, which side-stepped the housing market slide, had risen strongly before Sunday's government bailout. In the 12 months to August 1, the fund returned 9.2 per cent, beating all of its peers, according to fund tracker Morningstar.
On Monday, the fund rose by 1.3 per cent, or $1.7 billion, its biggest one-day rise ever against the Lehman Aggregate Bond index.
Mr Gross, who co-founded Pimco and has managed the Total Return fund since 1987, was one of the first to call for a bailout of Fannie and Freddie.
In his latest monthly commentary, he also said that the government needed to use more of its own money to support financial markets, or risk a "financial tsunami."
Mr Gross' style is to take a macro-economic view and make tactical changes based on short-term movements in the economy.
The recent success of the Total Return fund has helped Pimco to be the only one of the 25 largest mutual fund managers to lift its assets under management in the year to date, according to Financial Research Corp. data to the end of July.
By contrast, several well-respected equity fund managers are suffering in the wake of the government move, which leaves Fannie and Freddie stock almost worthless. Legg Mason's Bill Miller, Fidelity, Dodge & Cox, and Wellington are among the fund managers that had heavy exposure to Fannie and Freddie -- and had lifted that further this year, according to Bloomberg data.
Bailing Out Right-Wing Economics
Last weekend, the Bush administration took the necessary step of bailing out Fannie Mae and Freddie Mac, the two congressionally chartered, but privately held, troubled mortgage giants whose missions include "boosting homeownership and funding apartment construction for low- and moderate-income families." The two firms "guarantee or own roughly half of all the $12 trillion US mortgage market" and, as such, their bailout "represented one of the most sweeping interventions in financial markets since the Depression," according to the Wall Street Journal. Under the Bush administration plan, the two companies have been placed "under 'conservatorship,' a legal status akin to Chapter 11 bankruptcy" and the government "replaced the companies' chief executives and shifted management control to their regulator, the Federal Housing Finance Agency." The two firms recently suffered billions in losses due to the unprecedented number of defaults and foreclosures in the U.S. housing market. Earlier this summer, the U.S. Treasury began to fear the firms' liabilities were in danger of exceeding their assets and asked Congress to allow a federal bailout, should the need arise. The bailout is reminiscent of the Bush administration's $30 billion rescue of Bear Stearns in March, a move that President Bush and his conservative allies called "the right decision." Dispensing with regulatory oversight, only to embrace dramatic and expensive subsequent bailouts, has become the hallmark of years of failed right-wing stewardship over the economy.
'PRIMARY CONTRIBUTORS': In an op-ed in yesterday's Wall Street Journal, Sen. John McCain (R-AZ) and Gov. Sarah Palin (R-AK) reluctantly endorsed the federal takeover of Fannie Mae and Freddie Mac, arguing that the two institutions' lobbyists are the "primary contributors to this great debacle." McCain and Palin wrote that, should they be elected, their administration would "no longer use taxpayer backing to serve lobbyists, management, boards and shareholders." Fannie Mae and Freddie Mac "spent a combined $170 million" over the past 10 years on lobbying activities aimed at creating "a sort of regulation-free zone around their businesses." Although McCain and Palin are correct in naming lobbyists as "primary contributors" to the current crisis, their feigned outrage rings hollow because "at least 20 McCain fundraisers have lobbied on behalf of Fannie Mae and Freddie Mac" in recent years. In all, these 20 fundraisers earned "at least $12.3 million in fees" from the two institutions. More troubling, however, is the fact McCain's campaign manager, Rick Davis, "served as president of an advocacy group led by Fannie Mae and Freddie Mac" that worked to cripple regulatory initiatives in Congress. Fannie Mae and Freddie Mac founded the lobbying organization because they feared that "congressional meddling would lower their healthy profits." During his tenure, Davis moved to challenge even the smallest measures to make sure that Fannie Mae and Freddie Mac are be held more accountable for their actions. In July 2003, for example, Davis "wrote to the American Banker, taking issue with an opinion piece...arguing that Fannie and Freddie should operate with greater transparency." Such transparency and greater regulatory controls could have helped avert the current crisis.
MORE THAN SIZE: The Bush administration argued that the interventions were needed not because federal regulators had been "asleep at the switch" as Fannie Mae and Freddie Mac deepened their involvement in the subprime lending market, but because Congress failed to act as the two institutions grew "too big to fail." The remedy, the Bush administration suggests, is simply downsizing their held portfolios at a rate of 10 percent per year, presumably until the two firms are no longer "too big to fail." But as Center for American Progress Senior Fellow David Abromowitz explains, the problem is that "the intertwined nature of global financial markets today requires" federal intervention "even in the case of smaller financial players...when regulators fail to do their jobs." Abromowitz asks, "How small would [Fannie Mae and Freddie Mac] have to get to matter little if they failed but still be able to benefit consumers?" U.S Treasury Secretary Henry Paulson believes such questions are beside the point, arguing on Monday that the two institutions "should not have existed" at all. Similarly, Alan Greenspan has argued that the two firms "should be broken up, made smaller and fully privatized, without even a whiff of government support." Such statements however, ignore the very real benefits that Fannie Mae and Freddie Mac deliver: keeping "the supply of money widely available and at a lower cost" and ultimately expanding access to homeownership. As Abromowitz writes, "If one concludes that the current housing crisis results heavily from laissez-faire ideology trumping common sense protection of safety, soundness, and consumers, then the logical remedy would be to require more effective regulation" -- not piecemeal privatization.
MORE OF THE SAME: McCain's endorsement of the bailout of Fannie Mae and Freddie Mac is the second major federal intervention that he has supported in recent months. In March, he backed the Federal Reserve's decision to extend a $30 billion credit line to finance the takeover of Bear Stearns by JP Morgan. The strange dissonance between McCain's free-market, pro-deregulation rhetoric and his repeated support for sweeping government interventions suggests that a McCain administration would depart little from the Bush administration's status quo. One example of just how close McCain and Bush are to one another with regard to financial policy is the Bush administration's appointment of Herbert Allison to head Fannie Mae in the wake of the government bailout. Allison is a close McCain ally who during McCain's 2000 campaign was considered the "best bet" to become McCain's Treasury Secretary. McCain himself argued yesterday that the U.S. Treasury "had broadly followed the McCain plan" for the Fannie Mae and Freddie Mac bailout. McCain and Palin lament that "Fannie and Freddie's lobbyists succeeded and Congress failed" and claim that "under our administration this will not happen again." However, their pattern of endorsing dramatic and expensive federal bailouts, while shunning the regulatory measures needed to prevent them, suggests otherwise.
Fannie and Freddie's New Derivatives Cliffhanger
The bailout triggers settlement of $1.4 trillion in unregulated credit-default swaps. Do the hedge funds have the money?
http://www.businessweek.com/bwdaily/dnflas...ws+%2B+analysis
A 'Failed Business Model'
Opinion: Steve Forbes: What Next For Fannie & Freddie? A 'Failed Business Model' Washington: Outsiders' Insight May Be Right Thing For GSEs Fannie And Freddie's 15-Month Fix Dodd On The Bailout The Road From Here Wall Street: BofA's Bailout Benefit Some Banks Get Burned The Bailout Boon For Euro Banks Video: Beyond The Bailout Fannie, Freddie And The Taxpayer Banks After GSE Bailout
Henry Paulson's plan is a major disappointment.
Although it was certainly necessary to bail out ailing mortgage giants Fannie Mae (nyse: FNM - news - people ) and Freddie Mac (nyse: FRE - news - people ), the plan put forward by the treasury secretary this weekend prioritizes steering them back to financial health and defers into the future what is to become of the companies.
What's worse, after blaming the collapse of the companies on a "flawed business model," the plan will preserve that model indefinitely, allowing the shareholders of what are now insolvent entities to recover some value.
Long after Paulson is gone from the Treasury, Washington will be wrestling with the problem of what to do about Fannie and Freddie. And if the two companies are eventually nationalized, privatized or liquidated, the government--meaning taxpayers--will have to compensate the existing shareholders in some way.
The plan is relatively simple, but its implications for the future are troubling. First, Fannie and Freddie will be put under government control in an arrangement called a conservatorship. The purpose of a conservatorship is, essentially, to keep things as they are.
A conservator does not have the power to make any significant changes to the business model of a company; rather, its focus is to guide the company back to stability. Why anyone would sustain what Paulson himself called a flawed business model is hard to understand.
It gets worse. Under the plan, the Treasury is committed to providing equity capital to Fannie and Freddie. Another puzzle: Why is it necessary to inject taxpayer funds into these companies as equity? Ordinary companies need capital so that they can meet their obligations, but both these companies will have access to a financial facility at the Treasury that will allow them to borrow all the funds they require.
They don't need capital. The injection of capital is, in fact, a gift to the existing shareholders, who--as the owners of insolvent companies--own nothing and deserve no benefits from the taxpayers. By injecting these taxpayer funds and enabling the companies to survive, the Treasury plan opens the possibility that the existing shareholders will eventually profit from their investments, when, by all rights, they should be wiped out.
The nature of this gift is further emphasized by the fact that the Treasury is taking warrants for its agreement to finance these companies. These warrants will only be worth something--and thereby allow the Treasury to compensate the taxpayers--if the companies are nursed back to financial health under the conservatorship. So the government has created an incentive for itself to keep the companies alive and restore their well-being.
Once that occurs, the current shareholders will again be able to reap the benefits of holding interests in government-sponsored enterprises (GSEs)--only in this case, the two companies will not be implicitly backed by the government; they will be explicitly backed. In that case, the shareholders and the managements will once more profit from the government backing, while the taxpayers will still be the ones taking the losses.
There was an alternative, one that was simpler and much more sensible from a policy perspective. Since Fannie and Freddie operated under this "flawed business model"--by which Paulson probably meant government backing for shareholder-owned companies, the essence of a GSE--the plan should have set things in motion for the elimination of this model.
Instead of a conservatorship, the plan should have provided for a receivership. That system would get rid of the common stockholders while still monitoring the companies for an indefinite period in order to keep the mortgage market functioning smoothly.
Thus, while Paulson's plan was intended to provide some "breathing room" for consideration of the companies' future, what it will do in effect is restore them to health as government-sponsored enterprises, and, more critically, allow them and their newly empowered shareholders to bargain about the companies' collective future from a position of strength.
No wonder U.S. Sen. Charles Schumer of New York--probably the GSEs' most ardent supporter in Congress--issued the following statement after Paulson addressed the press on Sunday: "This plan will be met with broad acceptance in Congress, because it doesn't prejudge the ultimate fate of Fannie Mae and Freddie Mac.'' Translation: Prepare for a fight--because we intend to keep the GSEs alive.
Republican presidential candidate John McCain has been campaigning against the culture of corruption in the federal government. Democratic presidential candidate Barack Obama has based his campaign on the idea of change in Washington. Fannie Mae and Freddie Mac are telling illustrations of corporate welfare--the profitable private exploitation of a cozy relationship with the government. And the Paulson plan will foster just what a cynic might expect: more of the same.
Peter J. Wallison is the Arthur F. Burns fellow in financial policy studies at the American Enterprise Institute . General counsel of the Treasury during the Reagan administration, he is the author of Ronald Reagan: The Power of Conviction and the Success of His Presidency and Serving Two Masters, Yet Out of Control: Fannie Mae and Freddie Mac.
The Trouble With Fannie, Freddie
Freddie, Fannie Bailout
http://www.forbes.com/opinions/2008/09/08/...tml?partner=rcm
Opinion: Steve Forbes: What Next For Fannie & Freddie? A 'Failed Business Model' Washington: Outsiders' Insight May Be Right Thing For GSEs Fannie And Freddie's 15-Month Fix Dodd On The Bailout The Road From Here Wall Street: BofA's Bailout Benefit Some Banks Get Burned The Bailout Boon For Euro Banks Video: Beyond The Bailout Fannie, Freddie And The Taxpayer Banks After GSE Bailout Henry Paulson's plan is a major disappointment. Although it was certainly necessary to bail out ailing mortgage giants Fannie Mae (nyse: FNM - news - people ) and Freddie Mac (nyse: FRE - news - people ), the plan put forward by the treasury secretary this weekend prioritizes steering them back to financial health and defers into the future what is to become of the companies.
What's worse, after blaming the collapse of the companies on a "flawed business model," the plan will preserve that model indefinitely, allowing the shareholders of what are now insolvent entities to recover some value.
Long after Paulson is gone from the Treasury, Washington will be wrestling with the problem of what to do about Fannie and Freddie. And if the two companies are eventually nationalized, privatized or liquidated, the government--meaning taxpayers--will have to compensate the existing shareholders in some way.
The plan is relatively simple, but its implications for the future are troubling. First, Fannie and Freddie will be put under government control in an arrangement called a conservatorship. The purpose of a conservatorship is, essentially, to keep things as they are.
A conservator does not have the power to make any significant changes to the business model of a company; rather, its focus is to guide the company back to stability. Why anyone would sustain what Paulson himself called a flawed business model is hard to understand.
It gets worse. Under the plan, the Treasury is committed to providing equity capital to Fannie and Freddie. Another puzzle: Why is it necessary to inject taxpayer funds into these companies as equity? Ordinary companies need capital so that they can meet their obligations, but both these companies will have access to a financial facility at the Treasury that will allow them to borrow all the funds they require.
They don't need capital. The injection of capital is, in fact, a gift to the existing shareholders, who--as the owners of insolvent companies--own nothing and deserve no benefits from the taxpayers. By injecting these taxpayer funds and enabling the companies to survive, the Treasury plan opens the possibility that the existing shareholders will eventually profit from their investments, when, by all rights, they should be wiped out.
The nature of this gift is further emphasized by the fact that the Treasury is taking warrants for its agreement to finance these companies. These warrants will only be worth something--and thereby allow the Treasury to compensate the taxpayers--if the companies are nursed back to financial health under the conservatorship. So the government has created an incentive for itself to keep the companies alive and restore their well-being.
Once that occurs, the current shareholders will again be able to reap the benefits of holding interests in government-sponsored enterprises (GSEs)--only in this case, the two companies will not be implicitly backed by the government; they will be explicitly backed. In that case, the shareholders and the managements will once more profit from the government backing, while the taxpayers will still be the ones taking the losses.
There was an alternative, one that was simpler and much more sensible from a policy perspective. Since Fannie and Freddie operated under this "flawed business model"--by which Paulson probably meant government backing for shareholder-owned companies, the essence of a GSE--the plan should have set things in motion for the elimination of this model.
Instead of a conservatorship, the plan should have provided for a receivership. That system would get rid of the common stockholders while still monitoring the companies for an indefinite period in order to keep the mortgage market functioning smoothly.
Thus, while Paulson's plan was intended to provide some "breathing room" for consideration of the companies' future, what it will do in effect is restore them to health as government-sponsored enterprises, and, more critically, allow them and their newly empowered shareholders to bargain about the companies' collective future from a position of strength.
No wonder U.S. Sen. Charles Schumer of New York--probably the GSEs' most ardent supporter in Congress--issued the following statement after Paulson addressed the press on Sunday: "This plan will be met with broad acceptance in Congress, because it doesn't prejudge the ultimate fate of Fannie Mae and Freddie Mac.'' Translation: Prepare for a fight--because we intend to keep the GSEs alive.
Republican presidential candidate John McCain has been campaigning against the culture of corruption in the federal government. Democratic presidential candidate Barack Obama has based his campaign on the idea of change in Washington. Fannie Mae and Freddie Mac are telling illustrations of corporate welfare--the profitable private exploitation of a cozy relationship with the government. And the Paulson plan will foster just what a cynic might expect: more of the same.
Peter J. Wallison is the Arthur F. Burns fellow in financial policy studies at the American Enterprise Institute . General counsel of the Treasury during the Reagan administration, he is the author of Ronald Reagan: The Power of Conviction and the Success of His Presidency and Serving Two Masters, Yet Out of Control: Fannie Mae and Freddie Mac.
The Trouble With Fannie, Freddie
Freddie, Fannie Bailout
http://www.forbes.com/opinions/2008/09/08/...tml?partner=rcm
Freddie/Fannie: What Did It Take to Get Management/Board Onside
Paul Kedrosky | Sep 10, 2008
Why didn't the Freddie/Fannie bailout deal wipe out the common shares? That's one question most people have, myself included, as we look at the structure of the deal. Leaving common shareholders with 20% of the equity of the firms seems unnecessarily generous. Is that price that was required to get management on board during the transition to conservatorship? Was it the carrot?
Because it seems clear what the management stick was alongside the hypothesized carrot. That was the silly story planted in the media yesterday that Freddie/Fannie played games timing their liabilities, and so their balance sheets were squishier than regulators thought.
Gosh, you think? Did anyone really think that Freddie and Fannie played it straight up? There had only been a host of analysis suggesting same for some time -- I even prattled about it on CNBC weeks ago. Leaking that information to the media now strikes me as a stick trying to get cooperation out of the two companies' respective CEOs. You know, "Play along, or we'll make you look like bad men for diddling the numbers."
But was the other side of the deal not washing out the common shares? Granted, it's not a huge carrot, but it is a carrot to avoid management/board lawsuits -- notice how careful Paulson was to say that this was not management's or the board's fault -- and even provide some wildly unlikely upside.
Originally published at Infectious Greed and reproduced here with the author's permission.
Paul Kedrosky | Sep 10, 2008
Why didn't the Freddie/Fannie bailout deal wipe out the common shares? That's one question most people have, myself included, as we look at the structure of the deal. Leaving common shareholders with 20% of the equity of the firms seems unnecessarily generous. Is that price that was required to get management on board during the transition to conservatorship? Was it the carrot?Because it seems clear what the management stick was alongside the hypothesized carrot. That was the silly story planted in the media yesterday that Freddie/Fannie played games timing their liabilities, and so their balance sheets were squishier than regulators thought.
Gosh, you think? Did anyone really think that Freddie and Fannie played it straight up? There had only been a host of analysis suggesting same for some time -- I even prattled about it on CNBC weeks ago. Leaking that information to the media now strikes me as a stick trying to get cooperation out of the two companies' respective CEOs. You know, "Play along, or we'll make you look like bad men for diddling the numbers."
But was the other side of the deal not washing out the common shares? Granted, it's not a huge carrot, but it is a carrot to avoid management/board lawsuits -- notice how careful Paulson was to say that this was not management's or the board's fault -- and even provide some wildly unlikely upside.
Originally published at Infectious Greed and reproduced here with the author's permission.
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- Reactions To GSE Bail-Out: Is This The Best Deal For Taxpayers? For the Financial System?
- GSEs Not Nationalized But in 'Conservatorship', Bail-Out for Creditors, Shareholders Trimmed But Not Wiped Out
- Overview of Long-Term Solutions for Government-Sponsored Enterprises (GSEs)
GSE Bail-Out Is the Biggest Credit Event in the CDS Market: Who's On the Hook?
- On Sep 8, 13 Wall Street firms agreed unanimously that the government seizure of the biggest U.S. mortgage-finance companies Fannie and Freddie qualified as a so-called credit event on CDS contracts covering more than $1.4 trillion in debt. Upon the bail-out of all debt securities alike, senior and subordinate, the value of these underlying securities recovers near par meaning that protection sellers will only need to cover a small portion to make protection buyers whole. The absolute losses however increase with the number of outstanding contracts
- As there are likely more CDS contracts than securities outstanding, ISDA organizes an auction to determine the value of the insured securities as well as the amount of pay-offs in a cash settlement
- FT: Michael Hampden-Turner, credit strategist at Citigroup in London, estimates there are $200bn-$500bn of outstanding CDS and other credit derivatives referencing Fannie and Freddie--> This would make their default the biggest the market has encountered. The previous record was held by Delphi, the US carparts maker that went bankrupt in 2005 and which had about $25bn of CDS
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