Thoughts on FNMA and FMCC

[dcollon]

Take a look at the link below.  The fourth video is a discussion between Ackman and Clayton Rose.  The discussion about the GSE's start about 7:15 mins in the video.

 

http://www.gurufocus.com/news/121785/michael-porter-bill-ackman-and-clayton-rose-interview-with-cnbc

 

I hope that's what you were asking about Green King. 

[Green King]

Take a look at the link below.  The fourth video is a discussion between Ackman and Clayton Rose.  The discussion about the GSE's start about 7:15 mins in the video.

 

http://www.gurufocus.com/news/121785/michael-porter-bill-ackman-and-clayton-rose-interview-with-cnbc

 

I hope that's what you were asking about Green King.

 

Thanks

I think i have miss quoted. sorry

 

Munger wrote a piece years ago about why the two companies were such great businesses. 

 

I wish to find the Munger article on how the two companies work and learn more about it.

 

Personally i am still not sure if this is a done deal. Mean that it i will be worthless. Since the particular condition the government have left the company in. The preferred and common was not wiped out in the bail out process. So if the company continue to make money and the housing market recover the government will not have a cause to wipe out the company.

 

So the question is will the remaining assets be able to pay back the treasury ?

Will there be any assets left after the pay back ? (based on current trends and conditions)

[ Will look into it : if anyone has any reconmandation in finding out how please show me thinking about digging 10ks seems above my currently level of understanding.]

 

 

Can the government wipe out the common and preferred right to the company if debt owed to the Conservatorship is paid off ?

 

Also doesn't the government need them to exist to insure the mortgage market since the only reason mortgage market is working is because of them.

The private market dead right correct me if i am wrong the government still needs them to keep the economy going.  (providing liquidity in the mortgage market in creating a secondary market for home loans.)

So the asset is not the main thing for profits but instead the government guarantee and its role to provide liquidity from the market which private interest cannot replace at the very least in many years. Untill they want fun things to happen again.

 

 

Instinctively " What is think based on nothing but gut"

What are trying to do is to further stimulate the economy completely not sure i will try to understand it better.

 

Please correct me if i am wrong.

 

 

On a side note dose anyone know Derek Pilecki handle on this forum i think i saw poster linking this website assuming it is him.

[Packer16]

I think the jig is up.  The gov't has in essence nationalized FRE and FNM by diverting all dividends to themsleves.  Previoulsy, the gov't was being paid a 10% dividend and FRE and FNM actual had earnings after paying these dividends.  By this change, they in essence have made FRE and FNM property of the US gov't with no compensation for preferred or common shareholders.  You will most likely be able to make money on the back end if FRE and FNM are ever privitized again.

 

Packer 

[Green King]

I think the jig is up.  The gov't has in essence nationalized FRE and FNM by diverting all dividends to themsleves.  Previoulsy, the gov't was being paid a 10% dividend and FRE and FNM actual had earnings after paying these dividends.  By this change, they in essence have made FRE and FNM property of the US gov't with no compensation for preferred or common shareholders.  You will most likely be able to make money on the back end if FRE and FNM are ever privitized again.

 

Packer 

 

Thank you

 

I see what u mean now. Since FRE and FNM make their money through spread and fees and the government dose not want them to increase so the housing market can recover faster. (lower the cost of mortgage origination)

 

The boards are working for the interest of the conservator, therefore will only do what the treasury wants them to do and not run the company for profit but for economic recovery.

 

But what about 10 years from now? when the debts are paid off and the economy has recovered wouldn't the preferred be worth something than ?

Since they make money not from asset levels but from providing liquidity.

Than the question is " is this a undervalued option ? "

Or am i missing something ?

And governmental is going to bring the unwind the assets and privatize the company. Do they have to political and legal power to do this given that they didn't wipe out the shareholders when the time was best ? 

And why will they do that ? Politically ? what is there to gain from this ? wouldn't the shareholders and preferred holders stop this from happening or is this a orphan that no one cares about ? 

 

[Green King]

We bought fmcc common as we felt that was the best "perpetuity option" luckily we only started building our position a few days before I posted moreover we averaged down today buying some common at .16 or nearly 400mm equity valuation. The thesis is impaired but some would say this way the treasury gets paid even quicker...

 

Can you some context and reasoning on why Common and not preferred ? And why this is not impaired ?

This is a interesting move.

[Packer16]

My understanding is they will wind down the portfolios and continue as a gov't agency to provide the guarentee similar to what the fed gov't does for education loans.  There may not be enough CF from the wind down operation for the preferreds to get paid anything and the entity will become a gov't provider of guarentees.  The only "privitization" scenario I can forsee is if Romney gets elected and wants the gov't to get out of the remaining business.  All of this is very speculative thus the pricing for the FNM and FRE preferreds. 

 

I actually purchased some preferred before the decision and sold quickly thereafter (after losing a good part of my investment) as the current admin does not want the preferreds to have any value and the gov't will continue to receive slush fund dollars as long as they control FNM and FRE in trying to recover the taxpayers bailout money.

 

Packer

[BargainValueHunter]

http://www.forbes.com/sites/steveschaefer/2013/05/09/fannie-mae-books-8b-profit-releases-50b-valuation-allowance/

 

Uncle Sam is about to get a big check from Fannie Mae .

 

The mortgage finance firm recorded first-quarter pre-tax income of $8.1 billion, and will release a $50.6 billion valuation allowance on deferred tax assets that will enable it to pay the Treasury Department $58.7 billion in dividends June 30.

 

After that payment, the total dividends paid by Fannie to the Treasury in return for its 2008 rescue will total $95 billion, against the $117.1 billion in senior preferred stock held by the government.

[BargainValueHunter]

http://www.reuters.com/article/2013/05/08/us-usa-freddiemac-earnings-idUSBRE9470I120130508

 

Freddie Mac decided in the first quarter not to reverse about $30.1 billion in the write-downs of its deferred tax assets, but said it would likely reverse the write-down in either the second or third quarters.

 

The company has certain requirements and thresholds set up with auditors that it must meet before writing up the assets.

 

"We could pass that test as early as next quarter," Layton said.

 

Fannie Mae is weighing whether to reverse a write-down on about $60 billion.

 

Despite their now steady dividend payments, Fannie Mae and Freddie Mac will never be able to free themselves of government control under the current terms of their bailout, which do not allow them to build equity or purchase the preferred shares the government has taken.

 

The White House has estimated taxpayers might end up seeing a $51 billion profit on the federal funds injected in Fannie Mae and Freddie Mac if the two companies remain in conservatorship through fiscal year 2023.

[BargainValueHunter]

http://online.barrons.com/article/SB50001424052748704253204578466950395417708.html?mod=BOL_hpp_dc

 

Based on combined 2012 pretax profits of $28 billion and a conservative 6.5 price/earnings ratio, the two could easily raise $182 billion in the stock market, according to the investors. If the government converted its preferred shares into a 79.9% common stock interest and sold it, then it would receive at least $145 billion. An eight- to-10-times multiple is more likely, generating $200 billion to $250 billion.

 

Subtracting Uncle Sam's proceeds from a $182 billion stock sale would leave $35 billion for holders of the $33 billion par value in old preferred shares and common stock. If they received their allocation ahead of the common, they'd realize a 100% recovery. Thus, the hedge funds and other vulture investors who bought preferred for $2 to $4 would receive $25, a great payday, to be sure.

[constructive]

http://online.barrons.com/article/SB50001424052748704253204578466950395417708.html?mod=BOL_hpp_dc

 

If the government converted its preferred shares into a 79.9% common stock interest and sold it, then it would receive at least $145 billion.

 

This is wrong. The preferred aren't convertible to common, they have warrants for common in addition to the preferred. And converting to common and selling those into the IPO is just impossible and doesn't make any sense.

 

It's quite possible that they will IPO new corporate platforms. But the proceeds would go to the company (and then the Treasury), not the public shareholders.

[onyx1]

http://online.barrons.com/article/SB50001424052748704253204578466950395417708.html?mod=BOL_hpp_dc

 

If the government converted its preferred shares into a 79.9% common stock interest and sold it, then it would receive at least $145 billion.

 

And converting to common and selling those into the IPO is just impossible and doesn't make any sense.

 

 

I don't understand.  Please explain, thanks.

[constructive]

http://online.barrons.com/article/SB50001424052748704253204578466950395417708.html?mod=BOL_hpp_dc

 

If the government converted its preferred shares into a 79.9% common stock interest and sold it, then it would receive at least $145 billion.

 

And converting to common and selling those into the IPO is just impossible and doesn't make any sense.

 

 

I don't understand.  Please explain, thanks.

 

One, if the government sold common shares into an IPO they would be jumping the preferred in the capital structure. And two, they would be jumping the other common shares in the same share class (which wouldn't get the chance to sell into an IPO and would be worth much less).

[constructive]

http://fhfaoig.gov/Content/Files/WPR-2013-002_2.pdf - Page 8

"Thus, Treasury has liquidation preferences ahead of other stockholders to receive $189.5 billion if the Enterprises are liquidated."

 

So if they raised "only" $182B in an IPO, other equity holders would receive $0.

 

If they raised $250B in an IPO, the government preferred would receive $190B, then the junior preferred would receive $33B, then the government common shares would receive $21.6B and the other commons shares $5.4B.

 

I'm not saying it's impossible, but it's impossible in the way described by Barron's. And pulling off the biggest IPO in history at a decent valuation is incredibly unlikely.

[onyx1]

http://fhfaoig.gov/Content/Files/WPR-2013-002_2.pdf - Page 8

"Thus, Treasury has liquidation preferences ahead of other stockholders to receive $189.5 billion if the Enterprises are liquidated."

 

So if they raised "only" $182B in an IPO, other equity holders would receive $0.

 

If they raised $250B in an IPO, the government preferred would receive $190B, then the junior preferred would receive $33B, then the government common shares would receive $21.6B and the other commons shares $5.4B.

 

I'm not saying it's impossible, but it's impossible in the way described by Barron's. And pulling off the biggest IPO in history at a decent valuation is incredibly unlikely.

 

Thanks for your response Constructive.  Yes, the 2012 Amendments, as written, do allow the Treasury to take every last dollar from the GSEs over the next 20 years if they want to.  But just because they can, doesn't mean they will.  This is Washington after all and anything can happen when it comes to contracts especially when a political victory is possible for both sides.  Add in a large one-time cash infusion to the government coffers and there is lots more to grease any wheels that appear stuck. 

 

It looks to me like the Private Preferred shareholders are counting on the Treasury and lawmakers desire to have a lump sum today rather than a stream of income over decades.  Without this desire, nothing happens.  In order to receive this lump sum, an IPO is required.  But an IPO cannot happen with the Senior Preferred dividend and liquidation preference as currently written, so the Treasury would need to forgive the Senior Preferred.  What?  Forgive?  Why would they do that, its taxpayers money!  The key here is that at some point in the near future taxpayers will have received back much or all the $189.5B extended to the GSEs.  The GSEs have returned $55B as of 12/31/2012.  Add over $90B of valuation allowances against DTA's that are about to be reversed and they are 75% repaid.  With IPO proceeds from the warrant position enough to cover any remaining amounts due, politicians don't even need to lie with a straight face to claim triumphantly that taxpayers have been paid back in full plus a big return on their investment, and the GSEs are now capitalized with private dollars.  Pats on the back and congratulatory handshakes for all!!  How does this help the Private Preferred?  Since the new common shareholders can't receive dividends until the Private Preferreds coupons are reinstated, IPO participants are likely to balk unless the Private Preferred issues are addressed.  Maybe the Privates get their coupons reinstated, or even better paid in full.  Either way the Private Preferreds emerge a winner.

 

This scenario seems plausible, reasonable, logical, rational, and a winner for everyone.  Of course this combination may just doom it for failure since it's Washington after all.  But that's why the Private Preferreds are getting such longs odds. 

 

 

[constructive]

But an IPO cannot happen with the Senior Preferred dividend and liquidation preference as currently written, so the Treasury would need to forgive the Senior Preferred.

 

Actually, in my opinion an IPO can happen under the current terms. But it would have to be a new corporate platform, not the existing.

 

Revising the preferred terms to be more generous to public shareholders is also possible. But in that case it wouldn't be an IPO event (they already have plenty of shares outstanding). The government can just sell off all their preferred and warrants.

 

I don't think there is really that much political desire to accelerate the government's cash return (it's already coming in really fast), or to return Fannie and Freddie to private market viability (political opponents will try to tie this decision to banks and hedge funds).

[constructive]

Also, you have to think about how recently the terms of the preferred were amended (mid 2012), and how extreme the terms are.

 

Treasury and FHFA specifically amended the terms to eliminate any possibility of Fannie and Freddie's viability. This wasn't an accident, this was the clear intent.

[colinwalt]

This discussion is a bit over my head I'm afraid, but FWIW Third Ave think (or thought, as these are the April 2013 letters) there's a possibility of significant upside:

 

http://www.thirdave.com/ta/documents/sl/Third%20Avenue%20Funds%202Q%202013%20Shareholder%20Letters.pdf

 

See page 31 / 32:

 

The unfortunate truth about Fannie and Freddie is that,

against the wishes of many of the Senators and Congressional

reps in the U.S. government,these mortgage insurers provide

vital services to the economy, to homeowners and to voters.

They have a combined $5 trillion balance sheet that cannot

be duplicated. They are larger than Bank of America,

Citigroup and Wells Fargo combined.

 

Our original investment thesis on FNMA/FMCC has not

changed.These are nearly impossible institutions to replace,

recreate or eliminate. They are the ultimate U.S. housing

price recovery play.They have an incredible cost of capital

advantage(thanks to the quasi-government guaranty).

 

This has always been a political risk that can go either way

based on the swipe of a pen and the political winds that are

blowing at that time. Against this political risk, we have the

facts on our side (helpful but not always sufficient).

 

...

 

If the government decides to extinguish those Senior

preferreds after getting a full return of capital (but no return

on capital) all of that value will drop to the public preferred

securities we own and they will be worth par($25 or $50)

versus where they are trading now $4-$8 (15 cents on the

dollar).That will result in a 6-7x return from here.

 

...

 

The common stock could be worth well

north of $100 billion if the Government preferreds are

extinguished after full repayment – that means the stock,

with 5.8 billion shares outstanding could be worth $17-20

per share vs.the $1+ or so it has recently been trading.

 

Thankfully we do not live in Argentina, China, or some

other country that likes to seize and run private companies

indefinitely. At some point we will realize that these

companies need to be returned to the public markets – and

fortunately for taxpayers, our government can get all their

initial investment returned and make a significant profit on

the equity.

[nkp007]

Thanks for posting. That letter shows how many of the incentives align to potentially pay at least part of the private preferreds.

 

Not saying it will happen, but I think the probabilities are favorable.

[fareastwarriors]

http://www.bloomberg.com/news/2013-08-06/obama-said-to-call-for-limited-u-s-mortgages-role.html

 

.Obama Said to Call for Limited U.S. Mortgages Role

 

[fareastwarriors]

http://www.bloomberg.com/news/2013-08-06/obama-said-to-call-for-limited-u-s-mortgages-role.html

 

.Obama Said to Call for Limited U.S. Mortgages Role

 

http://www.nytimes.com/2013/08/07/us/politics/obama-fannie-mae-freddie-mac.html?ref=business

 

Obama to Outline Plans for Fannie Mae and Freddie Mac

[fareastwarriors]

http://www.bloomberg.com/news/2013-08-07/freddie-mac-to-pay-treasury-4-4-billion-on-quarterly-profit.html

 

Freddie Mac to Pay Treasury $4.4 Billion on Quarterly Profit

 

[colinwalt]

Berkowitz likes the preferreds too...

 

http://www.fairholmefunds.com/show_pdf.php?file=http://www.fairholmefunds.com/sites/default/files/FAIRX_6.30.13%20v14_web.pdf#pagemode=bookmarks

 

"The Fund was able to purchase the preferred stocks of Fannie and Freddie near one-fifth of liquidation values – a significant bargain thanks to market predictions of U.S. Government agencies expropriating their assets. we see them differently. Fannie and Freddie are successful, publicly traded, shareholder-owned companies just like AIG and Bank of America. Shifting political winds can change their futures, but not alter their pasts.

 

The Fund has filed complaints in the court of Federal claims and the U.S. District court in Washington. In our suits, we seek nothing more than the enforcement of existing contractual rights, which require the payment of dividends to Fannie and Freddie preferred shareholders. our arguments are based on fundamental principles. In America, property ownership is a sacrosanct freedom, guaranteed by our Constitution. In America, we follow the rule of law, not the rule of the crowd. In America, profitable companies honor contracts"

[Luke 532]

"The Fund was able to purchase the preferred stocks of Fannie and Freddie near one-fifth of liquidation values"

 

Assuming the prefs that he bought were the FNMAS (par $25), that would mean his cost basis is around $5.00... or roughly where the shares are trading today.

[BargainValueHunter]

Fannie and Freddie are going to be dead.

 

Bruce Berkowitz

June 1, 2011

AAII Presentation and Q&A

 

It is always nice to see a top value guy look at the facts as they change and develop a new opinion based on those new facts.

 

:)

[schin]

I just started reviewing the different preferred shares, but have not finished my analysis. Has anyone done any work on the best one to invest in?