Fannie, Freddie Reality Check: The Big Bailout Is Coming

CNBC's Diana Olick is writing Freddie’s Forecast Seems A Little Too Bright.

Freddie Mac CEO, Richard Syron, warned of the troubled times in housing, even revised his forecast for home price drops, peak to trough, from 15 percent to 18-20 percent. He said we’re only halfway through the correction.

But then one of his underlings went on to assure everyone that Freddie Mac (FRE) would be able to withstand $40 billion worth of credit pain through 2009 (if it finishes raising that $5.5 billion it promised). He also talked about how they may reverse some of the previously estimated losses as the portfolio does better than expected.

Freddie, in the second quarter, wrote down the value of its subprime and Alt-A portfolio by $1 billion. Freddie is claiming that they can hold these securities to maturity and not have to take a loss, because over time, the dire predictions of defaults on these loans just won’t come to pass. Freddie’s subprime and Alt-A portfolio is about $130 billion. Think of that. Just $1 billion in writedowns.

I think Armando Falcon, a former head of OFHEO, said it best when I interviewed him yesterday:

"They've only written them down by let's say five or 6% total over the past few quarters. If those were sold on the market they would get maybe 50 cents on the dollar for these securities. At some point they can't delay the inevitable about having to mark these assets down to their true market value. They are now holding them close to book value, based on the theory that these are temporary impairments. As the market continues to decline into next year, it will be clear that these aren't just temporary impairments. Then the government will not be able to allow this forbearance on recognizing losses much longer."

Freddie CEO Makes Preposterous Claim

Anyone following Alt-A mortgages knows that Freddie's claim is simply preposterous. Thus, the only surprise this quarter is that anyone was surprised when Freddie Mac's loss was bigger than expected.

Freddie Mac (FRE) posted a loss of $821 million for the second quarter, slashed its quarterly dividend and promised investors that it would raise at least $5.5 billion in new capital, the institution said Wednesday.

It's the fourth quarterly loss in a row for the company, a government-sponsored entity designed to buy mortgages on the secondary market from lenders.

The magnitude of the loss, five times worse than what Freddie reported for the first quarter of 2008, stems from the general rise in home foreclosures compounded by the decline in securities made up of subprime mortgages. The collapse of subprime-backed securities has already forced the world's biggest banks to write off more than $200 billion over the past 12 months.

"We are confident the actions we are taking are strengthening Freddie Mac's financial and competitive position as well as its ability to serve the American homebuyer and will generate value well into the future," said CEO Richard Syron in a statement.

But critics contend that Syron's not doing enough. Freddie's share price continues to drop — down 18% at $6.57 in late afternoon trading — eroding its capital base. Syron says he doesn't want to raise more capital now, which would dilute the holdings of current shareholders.

Freddie Mac Alt-A Delinquencies



click on chart for sharper image

The above image from Freddie Mac's Second Quarter 2008 Results.

Freddie has $130 billion in subprime and Alt-A loans. Somehow CEO Richard Syron wants us to believe the problem will go away if left on its own.

The Big Bailout

The ProLibertate Blog is talking about The Big Bailout: America as a Full-Spectrum Kleptocracy.

With the Senate's passage of the Fannie Mae/Freddie Mac bailout Saturday (July 26), the United States of America has now become the world's first full-service kleptocracy, a form of government described earlier in this space as a government of, by, and for the robbers.

We are supposed to pretend to believe that the Senate, so great was its anxiety over the nation's economically distressed homeowners, met in a rare Saturday session for the sole purpose of administering the balm of Gilead on hardworking families who confront the bleak prospect of foreclosure.

When the Senate sacrifices so much as a minute of its down time, it does so not to relieve our burdens, but to add to them in the interest of their fellow parasites.

I encourage you to read the rest of the article. It's a great rant.

Gross Says Treasury Will Rescue Fannie, Freddie

Pimco's Gross Says U.S. Will Rescue Fannie, Freddie

Bill Gross, who manages the world's biggest bond fund, said the U.S. Treasury will probably be forced to buy as much as $30 billion of preferred shares in both Fannie Mae and Freddie Mac to help shore up their capital.

"By the end of the third quarter, the preferred stock in Fannie and Freddie will be issued, the Treasury will have bought it," Gross, co-chief investment officer at Pacific Investment Management Co., said today in an interview on Bloomberg Television. "We'll be on our way toward a joint Treasury-agency combination."

My Translation: When Gross says "Treasury" he really means "U.S. Taxpayers".

Freddie Chief Executive Officer Richard Syron today told investors the company will wait for its stock to improve before starting its planned $5.5 billion capital raising. Freddie agreed in May to raise the capital but failed to complete a sale as its stock slumped as much as 80 percent.

My Comment: The decision to wait for its stock to improve when losses on Alt-A loans are accelerating is enough to question the competence of Syron.

"I have enormous respect for Bill Gross," Syron, 64, said today in an interview with CNBC. "I think he's an extraordinarily talented manager, particularly on the fixed income side. But based on the information I have now, I do not believe that the Treasury will end up having to inject money into Freddie Mac."

My Comment: Syron clearly does not understand the risks of the company he is running. Shareholders should demand his ouster.

"This report significantly shortens the timeline for Treasury intervention," said Ajay Rajadhyaksha, the head of fixed-income research for Barclays Capital in New York. With the value of Freddie's outstanding stock now at $4.3 billion, Rajadhyaksha said, "I don't see how they can raise capital by themselves without a capital infusion from Treasury."

My Comment: Bingo.

Bill Gross: Common Shareholders Will Be Subordinated Significantly

Click Here To Play Video



Bill Gross Comments

"Most of the earnings in futures years will go the preferred holders, bond holders, and the Treasury, not the common stockholder."

"Mortgage rates have to come down or this economy is going nowhere"

"Obama and McCain are both talking fiction when it comes to balancing the budget in their term. The deficit which is now approaching $500 billion in my way of thinking will grow to $600 billion and then $700 billion because that's required in a period where slow growth persists."

"We need people on the Fed that understand interest rate spreads and credit spreads and the dynamics of the market place not just academics."

"I still like the dollar vs. the Euro. The ECB will be cutting rates 6 months down the road. The weakness in the US recession has been factored in. The weakness in Euroland is just beginning to be factored in."

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Operation "Rescue Fannie" Underway - Paulson a Blatant Liar

On Friday Treasury Secretary Paulson Said Keep Fannie and Freddie in Current Form.

U.S. Treasury Secretary Henry Paulson signaled that a government takeover of Fannie Mae and Freddie Mac won't be necessary, saying they should continue as shareholder-owned companies with federal charters.

"Today our primary focus is supporting Fannie Mae and Freddie Mac in their current form as they carry out their important mission," Paulson said in a statement in Washington.

Paulson's remarks indicate he wants to reassure shareholders they won't be wiped out by any government efforts to ensure the stability of the firms that own or guarantee almost half the $12 trillion in U.S. mortgages.

Yes, No, Yes, Maybe

The game playing charade was in full swing heading into the weekend. Watch the ping-pong ball.

• Early Friday it was rumored Bernanke Expands Swap-O-Rama To Include Fannie, Freddie.
• Late Friday Fed Says No Talks With Fannie, Freddie About Loans.The Federal Reserve has not had any discussions with Fannie Mae and Freddie Mac about access to direct loans from the central bank, Fed spokeswoman Michelle Smith said.
• On Sunday Reuters is repeating Bernanke tells Freddie discount window open. Fannie and Freddie declined to comment.

Hedge Fund Model At Fannie, Freddie

John Snow stepped into the fray with a statement Fannie Mae, Freddie Mac Followed 'Hedge Fund' Model.

Former U.S. Treasury Secretary John Snow said that Fannie Mae and Freddie Mac have relied on leverage to fund their businesses in the same fashion as a hedge fund, and that the government should avoid taking them over.

"Congress ought to be embarrassed" for years of delays in passing legislation aimed at strengthening regulation of the two companies, Snow, now chairman of New York-based buyout fund Cerberus Capital Management LP, said in a telephone interview. He said he suggested when in office that "the business model they were using was really the model of a hedge fund."

The government-chartered companies, which grew to account for almost half of the $12 trillion in U.S. mortgages, were able to borrow at cheap rates because of an implicit federal guarantee, Snow said. His opposition to a full government takeover echoes the signal sent today by his successor, Treasury Secretary Henry Paulson.

"Congress ought to be embarrassed"

Yes, congress out to be embarrassed, but Snow has the wrong idea. Fannie Mae and Freddie Mac should be set adrift. There should be no government backing of either.

As I said in Nature of the Fannie Mae Bailout, "Fannie Mae exists to expand affordable housing. Clearly Fannie Mae has failed its core mission. All government sponsored corporations fail their mission. The very nature of promoting housing makes prices go up, until the final blowoff top which we are now on the backside of, having reached Peak Credit."

Operation "Rescue Fannie" Underway

The TimesOnline is reporting US Treasury rescue for Fannie Mae and Freddie Mac.

US TREASURY secretary Hank Paulson is working on plans to inject up to $15 billion (£7.5 billion) of capital into Fannie Mae and Freddie Mac to stem the crisis at America’s biggest mortgage firms.

Under the terms of the proposed move, the US government would receive a new class of shares in exchange for the capital, which would be hugely dilutive to shareholders.

The potential rescue comes as investors are braced for more bad news from the financial sector. Citigroup is expected to reveal further writedowns of at least $8 billion with its second-quarter results, and Merrill Lynch is forecast to reveal writedowns of some $4 billion.

Both banks are expected to post sizeable losses for the second quarter, and reveal plans to sell off billions of pounds worth of assets.

The capital injection would also see both lenders granted permission to use the Federal Reserve’s discount window - a short-term emergency funding source. Freddie Mac has a $3 billion short-term funding line that comes up for renewal tomorrow. The short-term debt is one of the hundreds of funding lines that the two agencies use.

Discount Window Pops Up Again

That last paragraph shows why the discount window keeps popping up. Putting two and two together it appears the Fed has been caught in a lie.

Freddie Mac's Next Hurdle: Raise Cash

The Washington Post is reporting Freddie Mac's Next Hurdle: Raise Cash.

Treasury Department officials were working the telephones yesterday to make sure that Freddie Mac, one of the nation's two troubled mortgage giants, will be able to sell $3 billion of its securities tomorrow in a previously scheduled sale that has now become a crucial test of investor confidence.

Since when in a supposedly capitalistic system should it necessary for the Fed and Treasury intervene in the markets on a day to day basis?

The Post article continues...

It would be only the latest in a series of unusual interventions. In March, the Fed extended a $30 billion credit line to orchestrate JP Morgan Chase's purchase of troubled investment bank Bear Stearns. The Fed then let other investment banks borrow directly from the Fed at favorable rates. And Friday the Federal Deposit Insurance Corp. seized control of California-based IndyMac Bank with plans to liquidate its assets at a cost that could wipe out more than 10 percent of the FDIC's funds.

"Someday this capitalistic economy, or what we used to call the capitalistic system, needs to get back on track and that means failure," said Lee Hoskins, former president of the Federal Reserve Bank of Cleveland. "You can't have risk-taking without failure."

To What Extent Did Paulson Lie?

Now we get to debate the meaning of the following

• "Keeping Fannie and Freddie in Current Form"
• "There will be no nationalization of Fannie and Freddie"
• "A government takeover will not be necessary"

It seems to me that and injection of $15 billion capital into Fannie Mae and Freddie Mac and creating a new class of Government Owned Securities is most emphatically NOT in agreement with the above ideas.

Paulson Is The Great Pretender

Hell there is so much pretending going on it's hard to keep track. For starters everyone is pretending Fannie and Freddie are solvent. If they were solvent there would be no need for a $15 billion injection. Secondly, the government directly owning a new class of shares is not keeping Fannie in its current form.

The big concern is "Where does it stop?" Opening up a $15 billion dollar window will be the first of 10 such operations. This is likely the start of a U.S. Taxpayer Bailout of China. Disgustingly it is a U.S. Taxpayer bailout of PIMCO as well. Flashback May 23, 2008.

Bill Gross Triples Bet On Mortgages

The Financial Times reported Pimco's Bill Gross triples bet on mortgages.

Bill Gross, whose Pimco Total Return fund (PTTRX) is the world's largest bond mutual fund, has tripled his bet on mortgage debt, which now comprises about 61 percent of the fund's assets, the Financial Times said on Friday.

The chief investment officer of Pacific Investment Management Co said his decision to raise exposure in recent months stemmed from the U.S. government's implicit guarantee of debt issued by Fannie Mae (FNM) and Freddie Mac (FRE), the government-sponsored mortgage financiers.

"Government policy is moving to sanctify the status of the government-sponsored agencies," Gross said, according to the newspaper. "It became a question of which institutions would be sheltered by the government umbrella."

"Operation Rescue Fannie" has now morphed into a taxpayer bailout of Bill Gross, China, and anyone else that levered into buying Fannie Mae garbage. It is a moral hazard to the highest degree, for bondholders to be made whole in this mess.

Paulson Is A Blatant Liar

It's now time to point blank call Paulson what he is: A blatant liar.

Flashback July 10th 2008 Paulson: Financial Institutions Must Be Allowed To Fail.

For market discipline to be effective, market participants must not expect that lending from the Fed, or any other government support, is readily available," Paulson said. "For market discipline to effectively constrain risk, financial institutions must be allowed to fail."

Even though I called for it, this is extremely disgusting to see. I am hoping that bondholders participate at least partially over this, but I'm not holding my breath.

Addendum

Several people asked about the "inflationary" aspects of such a bailout. My reply is these bailouts cannot be looked at in isolation. The ongoing destruction of credit will dwarf this proposed bailout. The destruction of credit via defaults and writeoffs dwarfs the stimulus package and will dwarf the next one as well. I have repeatedly said there would be government attempts to contain deflation, just as there were in Japan. Those attempts will do nothing but prolong the agony.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

We're All Homeowners Now, Nationalization of Fannie, Freddie Unavoidable

Yesterday Freddie Mac, Fannie Mae Plunged on Capital Concerns.

Freddie Mac fell 18 percent and Fannie Mae dropped 16 percent after Lehman Brothers Holdings Inc. analysts said in a report today that an accounting change may force them to raise a combined $75 billion. Speculation that the companies may take further writedowns also weighed on the stock, said John Tierney, a credit strategist at Deutsche Bank AG in New York.

The new FAS 140 rule that seeks to stop companies keeping assets in off-balance sheet entities may force Fannie Mae and Freddie Mac to bring mortgages back onto their books, requiring them to put up capital, Lehman analysts led by Bruce Harting wrote in a note to clients today.

Fannie Mae would need to add $46 billion of capital and Freddie Mac would need about $29 billion, the Lehman analysts wrote.

Lie of the Day

Unsurprisingly, the lie of the day today is Fannie, and Freddie are Adequately Capitalized.

Mortgage financiers Fannie Mae and Freddie Mac are adequately capitalized and continue to be active in the mortgage market, said James Lockhart, director of the Office of Federal Housing Enterprise, which regulates the two enterprises.

"Both of these companies are adequately capitalized, which is our highest criteria," Lockhart said in an interview with CNBC. "They have been very active in the mortgage market, and they are continuing to be. And, in fact, Congress has put on them the requirement to do jumbo mortgages and they have been doing those as well."

Fannie Mae holds or guarantees over $5 trillion in mortgages. A mere 1% decline would wipe them out. Is that adequately capitalized? I do not think so and neither does Minyanville's Kevin Depew.

We're All Homeowners Now

Here are two video links on the impending nationalization of Fannie Mae.

We're All Homeowners: Nationalization of Fannie, Freddie Unavoidable

DepewTube: Nationalizing Fannie and Freddie

"Fannie Mae and Freddie Mac are not adequately capitalized even if the housing market turned around today. And it's not going to turn around today".

Separately Bloomberg is reporting Freddie, Fannie Don't Need More Capital, Ofheo Says.

"It concerns me that people sort of extrapolate well beyond what the facts are," Lockhart said. "Fannie and Freddie are continuing to do their job in the marketplace. They were created for just this type of marketplace and they are continuing to fulfill their function."

Fannie Mae and Freddie Mac, created by Congress to increase homeownership, have become one of the few avenues for new mortgage financing as competitors scaled back last year amid record increases in delinquencies and defaults. Their share of the conforming mortgage market, or new loans of $417,000 or less, almost doubled to 81 percent in the first quarter.

Fannie Mae Has Failed Its Mission

The second lie of the day is that "Fannie and Freddie are continuing to do their job in the marketplace." Nothing could possibly be further from the truth.

There is a rock solid Case for Abolishing the FHA and GSEs for many reasons. Here are some of them:

• Fannie Mae has failed to help make housing affordable (its primary mission)
• Fannie Mae's CEO was forced out in disgrace
• Fannie Mae and Freddie Mac were both involved in multi-year derivative scandals where they had no idea what their derivative books ever were.
• Government sponsorship of housing is absolutely guaranteed to drive up prices (until things implode as they did in the US).

And most importantly the government has no business promoting housing over renting for any reason. Such promotion causes bubbles and the biggest bubble in history is now imploding. If ever there was a complete model of precisely what not to do, the US government sponsorship of Fannie Mae and Freddie Mac would surely be on the list.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Fannie, Freddie $223 Billion Debt Rollover Problem

Fannie and Freddie have a looming $223 Billion Debt Rollover Problem.

Aug. 20 (Bloomberg) -- Fannie Mae and Freddie Mac's success in repaying $223 billion of bonds due by the end of the quarter may determine whether they can avoid a federal bailout.

Fannie, based in Washington, has about $120 billion of debt maturing through Sept. 30, while McLean, Virginia-based Freddie has $103 billion, according to figures provided by the government-chartered companies and data compiled by Bloomberg.

My Comment: It is a near certainty taxpayers will be bailing out Fannie and Freddie. The only questions now are about the size and exact nature of that bailout.

The Treasury will probably be forced to buy as much as $30 billion of preferred shares in both Fannie and Freddie by the end of next month, according to Bill Gross, who manages the world's biggest bond fund at Pacific Investment Management Co.

My Comment: Bill Gross made a huge bet on Fannie and Freddie. So far, I do not think it is working. More on this below.

Freddie Mac "continues to have strong access to the debt markets at attractive spreads," spokeswoman Sharon McHale said. Fannie spokesman Brian Faith declined to comment.

Investors this week demanded an extra 104 basis points in yield to own Freddie's five-year debt rather than Treasuries of similar maturity, the most since reaching a 10-year high of 114 basis points in March. The gap narrowed to 74 basis points after Paulson's announcement. A basis point is 0.01 percentage point.

Fannie spreads approached a 10-year high of 104 basis points on Aug. 18, from 74 basis points on July 28. In the decade before 2008, the spread averaged 43 basis points.

My Comment: Spreads are at record highs. Why Freddie spokeswoman Sharon McHale would call record spreads "attractive" is a mystery.

After receiving authority last month to inject unlimited capital into Fannie and Freddie, a Treasury spokeswoman this week said Paulson had no plans to use his new power.

My Comment: Paulson has virtually zero credibility at this point, on the dollar, on Fannie, on anything.

Freddie's 5.57 percent perpetual preferred shares are trading at $9.37 to yield 15.3 percent, compared with $17.99 and a yield of 7.77 percent on June 30 before the crisis erupted. Fannie's 5.5 percent preferred shares yield 16.4 percent, up from 7.83 percent on June 30.

My Comment: Those preferred yields suggest that bondholders may not be made whole by whatever shape the bailout takes. Pimco just might find itself on the wrong side of its bet if bondholders participate in some of the losses. And certainly equity holders will be wiped out in any kind of bailout.

Minyan Peter was discussing various bailouts today in Fannie, Freddie and Countrywide Issues Affect Everyone.

On Freddie and Fannie I expect that the government will invest in those entities at a capital level just below the now explicitly US guaranteed senior debt – think “super-senior" subordinated debt with warrants. To do anything different would provide a windfall to existing subordinated debtholders and preferred and common shareholders, which I believe would be politically unpalatable. At the same time, though, while common dividends will be eliminated, I expect that the existing preferred stock dividends and subordinated debt interest coupons will be paid.

On Countrywide, I have always felt that the question was never “Will Bank of America (BAC) buy Countrywide?” but “At what price will BofA buy Countrywide?” Well, it has now become clear that the price to be paid is going to come not just from BofA and Countrywide shareholders, but from Countrywide debtholders as well. My best guess is that BofA will drag the uncertainty out as long as it can, continuing to release more and more troubling data about the Countrywide portfolio.

Ultimately, though, I expect that BofA will tender for the bonds – at a substantial discount to par – and book some level of gain in the process. Remember, having closed the deal that no one thought he should close, Ken Lewis needs to find some way to save face with his board of directors.

But I hope by walking through these two examples, you can see that every deal will be different, and more importantly, given the magnitude of pain to be inflicted, everyone will be impacted.

$233 Billion is a an enormous amount of debt to have roll over between now and September 30, especially in this market. And there is a decent chance the bond market chokes on those rollovers. That is one reason why Paulson asked for a blank check to buy unlimited amounts of Fannie and Freddie bonds.

If the Fed does step in to bankroll those bonds, it may want "super-senior rights". Fear of that possibility is pushing those spreads to record levels. Paulson's resolve to not use the authority he asked for is very likely to be put to the test.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Paulson And Others Translated

July 10 2008

Financial Institutions Must Be Allowed To Fail

Paulson: "Homeowners should not anticipate a government bail-out. Banks should not expect to be bailed-out by government, despite intervention by the Federal Reserve in the near-collapse of Bear Stearns in March."

Translation: Critical banks and GSEs must not be allowed to fail.

Paulson: "For market discipline to be effective, market participants must not expect that lending from the Fed, or any other government support, is readily available. For market discipline to effectively constrain risk, financial institutions must be allowed to fail."

Translation: Expect the mother of all bailouts at taxpayer expense.

July 10 2008

Fannie, Freddie 'Insolvent' After Losses

Former Fed Governor William Poole: "Congress ought to recognize that these firms are insolvent, that it is allowing these firms to continue to exist as bastions of privilege, financed by the taxpayer"

Translation: "Congress ought to recognize that these firms are insolvent, that it is allowing these firms to continue to exist as bastions of privilege, financed by the taxpayer"

July 11 2008

Paulson Backs Fannie, Freddie in Their 'Current Form'

Paulson: "Today our primary focus is supporting Fannie Mae and Freddie Mac in their current form as they carry out their important mission"

Translation: We are working behind the scenes to address the inevitable failure of Fannie Mae and Freddie Mac. There is no conceivable way that Fannie and Freddie stay in their current form.

July 11 2008

Fed Says No Talks With Fannie, Freddie About Loans

Fed spokeswoman Michelle Smith: "There have been no discussions with the GSEs about access to the discount window"

Translation: We have plans to discuss the discount window with the GSEs as early as Monday, July 14.

July 13 2008

Paulson Statement on Freddie Mac, Fannie Mae

Paulson: "Fannie Mae and Freddie Mac play a central role in our housing finance system and must continue to do so in their current form as shareholder-owned companies."

Translation: There is not a snowball's chance in hell that Fannie and Freddie survive in their current form. We are working on contingency plans right now.

July 17 2008

Merrill Lynch: Don’t forget the salt

Merrill Lynch CEO John Thain: “Right now we believe that we are in a very comfortable spot in terms of our capital.” (July 17, 2008 — Thain on a conference call after posting Merrill’s second-quarter results)

Translation: We have nowhere near enough capital. If you believe we do, then you are a complete fool. After all, I have stated Merrill has no need to raise capital 8 times this year only to immediately raise capital. (See above link).

July 20 2008

Banks sound but economy to take time

Paulson: "Our banking system is a safe and a sound one."

Translation: Our banking system is on the verge of collapse. (Please see You Know The Banking System Is Unsound When.... for more on this theme)

July 23 2008

Death Spiral Financing at WaMu, Merrill Lynch, Citigroup

Washington Mutual CEO Kerry Killinger: "The capital that we have in place is sufficient to manage through this period. We have no plans at this point to raise additional capital."

Translation: We desperately need to raise capital. Unfortunately, death spiral financing and low share price prevents us from doing so.

August 19 2008

Freddie and Fannie fix under market pressure

Treasury Department: The Treasury has no intention of using its newly authorized power to invest in either the debt or equity of Fannie and Freddie.

Translation: We have every intention to invest in the GSEs, and far sooner than anyone thinks. We never would have asked for a blank check if we did not think we needed it. Boy do we need it.

August 22 2008

Buffett Says Fannie Mae, Freddie Mac 'Game Is Over'

Warren Buffet: "Fannie Mae and Freddie Mac, the two largest mortgage finance companies, don't have any net worth. The game is over as independent companies."

Translation: "Fannie Mae and Freddie Mac, the two largest mortgage finance companies, don't have any net worth. The game is over as independent companies."

September 4 2008

Bill Gross Wants Treasury To Buy Assets To Prevent Tsunami

Bill Gross: "Unchecked, it can turn a campfire into a forest fire, a mild asset bear market into a destructive financial tsunami. If we are to prevent a continuing asset and debt liquidation of near historic proportions, we will require policies that open up the balance sheet of the U.S. Treasury."

Translation: Please rescue PIMCO. I bet the farm on a bailout.

Take A Load Off Fannie



click here to play video

The video is very enjoyable with a great song throughout.

My analysis of what's at stake for the taxpayer can be found in Paulson Rolls The Dice At Taxpayer Expense.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Former Fed Governor Says "Fannie, Freddie Insolvent"

In case you were wondering about Record Spreads On Fannie Mae, wonder no more. Former Fed Governor Poole says Fannie Mae, Freddie Losses Makes Them 'Insolvent'

Chances are increasing that the U.S. may need to bail out Fannie Mae and the smaller Freddie Mac, former St. Louis Federal Reserve President William Poole said in an interview. Freddie Mac owed $5.2 billion more than its assets were worth in the first quarter, making it insolvent under fair value accounting rules, he said. The fair value of Fannie Mae's assets fell 66 percent to $12.2 billion, data provided by the Washington-based company show, and may be negative next quarter, Poole said.

"Congress ought to recognize that these firms are insolvent, that it is allowing these firms to continue to exist as bastions of privilege, financed by the taxpayer," Poole, 71, who left the Fed in March, said in an interview.

"At some point we're going to reach that inflection, where the government is going to have to either guarantee explicitly or Fannie and Freddie are going to have be left to fend for themselves,'' Peter Boockvar, an equity strategist at Miller Tabak & Co. in New York, said in an interview with Bloomberg Television. "We're getting to that point where a decision has to be made by Washington."

Poole is "a long-time critic," said Sharon McHale, a spokeswoman for McLean, Virginia-based Freddie Mac.

"Freddie Mac is doing exactly what Congress intended when it chartered the company and, more recently, when it passed the Economic Stimulus Act," McHale said. "We are well capitalized and positioned to continue to serve our vital housing mission."

While leading the St. Louis Fed, Poole roiled markets in 2003 when he said the government should consider severing its implied backing of Fannie Mae and Freddie Mac and said the companies lack the capital to weather financial market disruptions. In 2006 and 2007 he called for lawmakers to strip Fannie Mae and Freddie Mac of their charters.

"I worry about those institutions," retired Richmond Fed President Alfred Broaddus said. "They are huge. They dwarf the Bear Stearns issue. In the very worst case scenario, I don't know how you do it other than extend money and the public takes the loss."

The companies have about $80 billion of regulatory capital supporting $5.2 trillion of mortgages.

Poole Fan

I agree with Poole. There is absolute no reason taxpayers should be on the hook for Fannie and Freddie losses. I have agreed with Poole on other occasions as well.

Please consider commentary in Poole, Paulson, Bernanke on Bailouts and Bank Failures regarding Poole's statement "I am more skeptical of the financial strength of the GSEs, and believe that we could see substantial problems in that sector."

Capital vs. Liquidity

Inquiring minds will also wish to consider Poole's position on liquidity vs. capital in No Helicopter Drop For Failed Banks in which Poole addresses the question "Can the Fed Provide Capital to the GSEs?"

Long Time Critics

Sharon McHale, a spokeswoman for Freddie Mac counters with "Poole is a long-time critic".

Excuse me but Poole has been Long Time Correct. Fannie and Freddie are going to have to raise capital in spite of the ridiculous assertions otherwise.

For more on capital raising efforts please see We're All Homeowners Now, Nationalization of Fannie, Freddie Unavoidable.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Massive Freddie Dilution Coming Right Up

Financials have been flying for three days on short squeeze (see Short Squeeze In Financials Continues). However, capital raising efforts are going to eat into that.

Please consider Freddie Clears SEC Hurdle Towards Major Stock Sale.

Freddie Mac (FRE) moved ever-closer to a planned stock sale by becoming a registrant with the Securities and Exchange Commission; the company’s filing of a Form 10 registration statement with the SEC is a large milestone for the company, and paves the way for the company to offer shares.

“Becoming an SEC registrant marks an important milestone for the company and demonstrates our commitment to enhanced transparency and financial reporting,” said chairman and CEO Richard F. Syron.

While Syron said that the “registration statement does not relate to an offering of securities,” it certainly moves the GSE closer to a planned $5.5 billion capital raise that has been in the offing since the company reported its first quarter results.

“We conclude what was a difficult chapter in Freddie Mac’s history and join the ranks of other large, public financial institutions as an SEC registrant,” said Buddy Piszel, executive vice president and chief financial officer. “Along the path to SEC registration, we’ve upgraded our internal controls and financial reporting to strengthen our business, resulting in a return to timely quarterly financial reporting.”

Freddie did reiterate in a press statement that it would raise at least $5.5 billion of new core capital via “one or more offerings, which will include both common and preferred securities.” It also said that it expects to exceed capital targets established by the Office of Federal Housing Enterprise Oversight, its regulator, when it reports second quarter results.

Freddie Mac Daily Chart



click on chart for sharper image

As of the close today today Freddie Mac's Market Cap is $5.94 Billion. Those scrambling to get in (forced in via the short squeeze if you prefer to look at it that way) are going to suffer massive dilution when a $6 billion company attempts to raise $5 billion in capital.

Freddie Insults Shareholders

The Wall Street Journal is reporting How Freddie Mac Raises Money: Insult Shareholders. Then Run Back to Them.

Earlier this week, Deal Journal noted that the government was blaming shareholders far more than management for the dismal performance of Fannie and Freddie. The Wall Street Journal’s James B. Stewart, writing in his “Common Sense” column, also complained that shareholders were left behind. Many shareholders, he said, put Fannie and Freddie “in pretty much the same category as U.S. Treasury Bonds, and safer than the local utility.” His kicker: “We’ve all learned that quasi-governmental is only quasi-safe.”

Economist and former Treasury Secretary Lawrence Summers, in a great blog post on the Web site Creative Capitalism, tackles how Fannie and Freddie were able to play both sides of the game: “When there were social failures the companies always blamed their need to perform for the shareholders. When there were business failures it was always the result of their social obligations. Government budget discipline was not appropriate because it was always emphasized that they were “private companies.” But market discipline was nearly nonexistent given the general perception–now validated–that their debt was government backed.”

At this point, Freddie may be wishing it had less meddling from the government. After all, it would be a lot easier to attract new investors if Paulson hadn’t already told the old ones to jump in a lake.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

SEC Panic - Shorting Curbs Placed on GSE Stocks

The panic at the Fed, the SEC, and the Treasury department continues. In an emergency action the SEC Curbs Shorting of GSE Stocks, Considers Limits for Wider Market.

The Securities and Exchange Commission announced an emergency action aimed at reducing short-selling aimed at Wall Street brokerage firms, Fannie Mae and Freddie Mac, and will immediately begin considering new rules to extend new requirements to the rest of the market.

SEC Chairman Christopher Cox said at a Senate Banking Committee hearing that
the SEC would institute an emergency order requiring any traders to pre-borrow stock before shorting Fannie Mae and Freddie Mac, the embattled government-sponsored entities that own more than half the nation's mortgages.

Ackman Shorts Fannie, Freddie

Bloomberg is reporting Ackman Shorts Fannie, Freddie, Suggests Restructuring.

Hedge fund manager William Ackman, who is betting against shares of Fannie Mae and Freddie Mac, criticized any government plan to buy equity in the existing mortgage-finance companies and said shareholders should be wiped out.

"We've not yet heard Secretary Paulson's plan but it would be a grave error for the government to invest in the equity of Fannie Mae and Freddie Mac as they are currently capitalized," Ackman, 42, said in a telephone interview from his New York office.

Ackman said he had discussions last week with the Treasury, Federal Reserve and Senate Finance Committee about his plan for Fannie Mae and Freddie Mac, which guarantee or own almost half the $12 trillion in U.S. home loans outstanding.

Under Ackman's plan, Fannie Mae's senior unsecured debt would be reduced by 10 percent and the junior debt would be completely eliminated, adding $86 billion in equity capital to the company.

"The good news is that Fannie Mae has all the capital that it needs," Ackman said. "It just has the capital in the wrong form with too much debt and not enough equity."

Ackman's Plan To Save Fannie and Freddie

CNBC has two videos on Ackman's Plan To Save Fannie and Freddie.

Ackman, who runs the New York-based Pershing Square Capital Management, has a short position in both the junior debt and the equity of both Fannie Mae and Freddie Mac, and is critical of the federal plans to backstop the two companies if needed.

In a CNBC interview, Ackman laid out a plan he claims will reduce leverage at the two government sponsored enterprises. [Mish note: Two videos are present in this link and there is additional discussion about the plan in the Bloomberg link above]

Ackman has no position in the senior debt of the two mortgage lenders.

With his short position, Ackman stands to benefit if the value of the Fannie and Freddie Mac stock and junior debt deteriorates.

"Investors made a bet," Ackman said. "They received dividends, and so on...they allowed the institutions to become too levered, they chose these directors....The subordinated debt holders received an excess yield. This is not the senior debt of Fannie Mae - there is a relatively small amount of it outstanding....We believe the subordinated debt holders should get warrants."

Shorting Curbs Can't Help

Shorting curbs cannot possibly help when the problem is solvency not liquidity. In spite of the announcement, shares of Fannie and Freddie are down another 19% each as of 1:40 PM Central.

If the SEC intended to cause a short covering rally in the GSEs, it sure failed miserably. Indeed, the market response shows just how futile the actions of the SEC, the treasury department, and the Fed are.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

New Rules at Freddie Mac Likely to Backfire

Freddie Mac is boosting incentives to servicers as well as doubling the length of time it is giving servicers to foreclose.

Inquiring minds may wish to consider Freddie Mac Pushes Out Foreclosure Timelines.

Pressure to raise servicer spreads may have just gotten a little more intense on Thursday, with Freddie Mac (FRE) announcing a huge, mixed bag of changes to its servicing guidelines — including doubling the amount of money it pays for each workout alternative, and lengthening foreclosure timelines in key states. The GSE also said it would start reimbursing servicers for the cost of door-to-door outreach programs, and make administrative changes intended to streamline the workout process.

Perhaps the boldest move by Freddie Mac on Thursday — and one that won’t get much press attention — was its decision to eliminate foreclosure timeline compensation altogether for servicers, effective immediately. In other words, servicers will no longer earn a bonus based on how quickly they can foreclose.

If that doesn’t scream “modify more loans,” then the GSE’s decision to double compensation for servicers in completing workouts certainly will. Freddie said it will now pay servicers $800 for a loan modification, $2,200 for a short payoff or make-whole preforeclosure sale, and $500 per repayment plan. Deeds-in-lieu of foreclosure didn’t get Freddie’s same endorsement, however, and will remain at the current incentive level of $250, the GSE said.

The mortgage finance giant also said that it was increasing its allowable foreclosure timeline in 21 states to a whopping 300 days from last of date payment, and 150 days from initiation of foreclosure, effective on Friday.

For servicers, news of increased workout incentives came as welcome news; extension of foreclosure timelines, however, did not. The reason? Longer foreclosure timelines mean increased servicer advances, and given that most servicers are operating on 25 to 50 basis points in a servicing fee, pushing out reimbursement timelines means that servicers will feel the squeeze.

The GSE also revised its loan modification guidelines, eliminating a prior requirement that a mortgage must not have been previously modified; the idea here is to allow servicers the ability to re-modify a previously modified loan, and signals capitulation on data showing that many previous loan modifications aren’t sticking.

Free Rent

I was speaking with Aaron Krowne at Mortgage Lender Implode-O-Meter this weekend over a site outage (I will get to that in a moment) but we also briefly discussed "New Rules" at Freddie.

We both think that doubling the length of time to do a workout is just begging freeloaders to take advantage.Those who have made up their minds to walk away, may now be able to live rent free for 10 months before the foreclosure proceedings start.

Assume a $2,000 mortgage payment. 10 months non-payment would allow someone to save up $20,000 before walking away. That's one hell of an incentive Freddie is offering someone who is making a walk, no-walk decision.

And what's the point of huge incentives to do workouts if "previous loan modifications aren’t sticking"? One possible answer is that Freddie has resorted to praying for a miracle, and that housing picks up in 2009. An alternate answer is that Freddie may be so stuffed to the gills with foreclosures that it simply cannot handle any more.

Sorry, Freddie, there will be no 2009 recovery miracle with unemployment soaring. Nor will these workout schemes do anything but delay, at great expense, the chargeoffs.

Websites Down

On Friday I started getting reports that Mortgage Lender Implode-O-Meter was down. I was able to access the site just fine. Saturday morning I received messages that many sites were down. Here is the list.

http://ml-implode.com/
http://bankimplode.com/
http://www.nakedcapitalism.com/
http://economistsview.typepad.com/economistsview/
http://mrmortgage.ml-implode.com/
http://www.creditbubblestocks.com/
http://www.benbittrolff.blogspot.com/
http://www.financialarmageddon.com/

I tried them all and I had access. Here is the explanation from Aaron Krowne. "There was a problem with SiteMeter that is now corrected. Furthermore, the problem was only with Internet Explorer. Those who use Firefox had no problems accessing those sites."

My site was not affected because I am using StatCounter instead of SiteMeter.

I am a Firefox user, and for the record I highly recommend it. The above quirk plays no part in this recommendation. The plain fact of the matter is that my site, and many of the above sites will load faster under Firefox than IE, and Firefox offers a more secure browsing environment.

Firefox is free. Download Firefox Now if you are still on IE.

Note: This download will not overlay or affect IE in the slightest. There are a few quirky sites that require IE (Microsoft downloads being one of them) and that is about all I use IE for.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Is it Acceptable to Present a $196 Billion Sac-O'-Sheet to Sophisticated Investors as Diamonds-in-the-Rough?

The FHFA has filed a $196 Billion lawsuit against 17 banks accusing said banks of "misleading Fannie Mae and Freddie Mac about the soundness of the mortgages underlying the securities".

Inquiring minds note BofA, JPMorgan Among 17 Banks Sued by U.S. for $196 Billion.

Bank of America Corp. and JPMorgan Chase & Co. (JPM) were among 17 banks sued by the U.S. to recoup $196 billion spent on mortgage-backed securities bought by Fannie Mae and Freddie Mac.

The Federal Housing Finance Agency, on behalf of Fannie Mae and Freddie Mac, filed 17 lawsuits yesterday in New York state and federal courts and in federal court in Connecticut. The FHFA accuses the banks of misleading Fannie Mae and Freddie Mac about the soundness of the mortgages underlying the securities.

“The loans had different and more risky characteristics than the descriptions contained in the marketing and sales materials provided to the enterprises for those securities,” the FHFA said in a statement.

“The claims brought by the FHFA are unfounded,” said Frank Kelly, a spokesman for Frankfurt-based Deutsche Bank. “Fannie Mae and Freddie Mac are the epitome of a sophisticated investor.”

Lawsuit Claims

Please consider FHFA Sues 17 Firms to Recover Losses to Fannie Mae and Freddie Mac

The Federal Housing Finance Agency (FHFA), as conservator for Fannie Mae and Freddie Mac (the Enterprises), today filed lawsuits against 17 financial institutions, certain of their officers and various unaffiliated lead underwriters. The suits allege violations of federal securities laws and common law in the sale of residential private-label mortgage-backed securities (PLS) to the Enterprises.

Complaints have been filed against the following lead defendants, in alphabetical order:

1. Ally Financial Inc. f/k/a GMAC, LLC - $6 billion
2. Bank of America Corporation - $6 billion
3. Barclays Bank PLC - $4.9 billion
4. Citigroup, Inc. - $3.5 billion
5. Countrywide Financial Corporation -$26.6 billion
6. Credit Suisse Holdings (USA), Inc. - $14.1 billion
7. Deutsche Bank AG - $14.2 billion
8. First Horizon National Corporation - $883 million
9. General Electric Company - $549 million
10. Goldman Sachs & Co. - $11.1 billion
11. HSBC North America Holdings, Inc. - $6.2 billion
12. JPMorgan Chase & Co. - $33 billion
13. Merrill Lynch & Co. / First Franklin Financial Corp. - $24.8 billion
14. Morgan Stanley - $10.6 billion
15. Nomura Holding America Inc. - $2 billion
16. The Royal Bank of Scotland Group PLC - $30.4 billion
17. Société Générale - $1.3 billion

These complaints were filed in federal or state court in New York or the federal court in Connecticut. The complaints seek damages and civil penalties under the Securities Act of 1933, similar in content to the complaint FHFA filed against UBS Americas, Inc. on July 27, 2011. In addition, each complaint seeks compensatory damages for negligent misrepresentation. Certain complaints also allege state securities law violations or common law fraud.

$196 Billion Sac-O'-Sheet

The 17 banks are from the FHA filing, the amounts above are from the Bloomberg article.

Please note the Deutsche Bank defense: "Fannie Mae and Freddie Mac are the epitome of a sophisticated investor."

The DB defense has me asking a pair of questions

1. "Should Gannie and Freddie have known better?"


2. "Is it Acceptable to Present a $196 Billion Sac-O'-Sheet to Sophisticated Investors as Diamonds-in-the-Rough?"

The answer to question number 1 is "of course".

I am not a lawyer, but I believe the heart of the matter is question number 2. More explicitly, did the banks violate disclosure laws in submitting loans to Fannie and Freddie.

I believe the banks not only did so, but purposely and blatantly did so.

Bank of America Extremely Exposed

Note the Bank of America exposures, and the accompanying Bank of America stock weakness.

2. Bank of America Corporation - $6 billion
5. Countrywide Financial Corporation -$26.6 billion
13. Merrill Lynch & Co. / First Franklin Financial Corp. - $24.8 billion

Where is Wells Fargo?

By the way, where is Wells Fargo?

Is Wells Fargo lily white and if so was is it because they were stupid enough to hold all the mortgage paper themselves?

Final Thoughts

The FHA took its sweet time filing this lawsuit. I believe purposely so. They have had all the time in the world to gather evidence and make a case. This is a serious case, and Fannie and Freddie have subpoena power. That subpoena power gives the FHFA a big advantage over private investors notes the Wall Street Journal in Big Banks Face Suits on Mortgage Bond Losses

Bank of America is scared to death and rightfully so.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Fannie & Freddie Clobbered Over Need to Raise Capital

The proposal by Bernanke and Congress to up the lending limit on Fannie Mae and Freddie Mac will not solve a thing if both are capital impaired and cannot make new loans. That seems to be the situation as Freddie Mac Loses $2 Billion and Seeks New Capital.

Freddie Mac, the nation's No. 2 buyer and guarantor of home loans, lost $2 billion in the third quarter and said Tuesday it must raise fresh capital to meet regulatory requirements. Its shares fell more than 26 percent.

The mortgage financier said it is "seriously considering" cutting in half its dividend in the fourth quarter and has hired Goldman Sachs Group Inc. and Lehman Brothers Holdings Inc. as financial advisers to help it examine possible new ways of raising capital in the near future.

My Comment: After listening to its latest conference call I questioned Fannie Mae's cure rates and capitalization in Fannie Mae's Credit Loss: What's The Real Story?

In the call Fannie repeatedly dodged questions over capital concerns. In response, I wrote "Fannie Mae is way undercapitalized and a systemic threat. Oddly enough this was the opinion of the Fed before they abruptly changed their minds in reaction to the credit crunch."

It did not take long to prove that assertion, and so much for the alleged transparency from this Fed.

Expect a disaster in Fannie Mae's next quarterly statement as well.

Freddie Mac said it set aside $1.2 billion in the turbulent July-September period to account for bad home loans, reflecting "the significant deterioration of mortgage credit."

My Comment: It is now clear that Fannie Mae is way too optimistic about what cure rates will be. This will restrict the ability of both Fannie and Freddie to take back more loans as well as issue new loans.

The $2 billion third-quarter loss for McLean, Va.-based Freddie Mac worked out to $3.29 a share, compared with $1.17 a share in the third quarter of 2006.

Freddie Mac's regulatory core capital was estimated to be just $600 million in excess of the 30 percent mandatory target capital surplus directed by the Office of Federal Housing Enterprise Oversight.

My Comment: In the next bubble blowing gimmick, expect the amount of regulatory capital required to be lowered. The Fed , Congress, and oversight committees will do damn near anything to keep the bubble alive. However, nothing will work. The system is broke. It's time for a new one.

"We have begun raising prices, tightened our credit standards and enhanced our risk management practices," Piszel said. "We also continue to improve our internal controls."

My Comment: Raising prices huh? We finally have explicit confirmation of what I have been saying for a long time: Mortgage rates are going to disconnect from 10-year treasuries over default concerns. We can now add capital impairment as a reason for further disconnect.

"We were getting thin" in terms of excess capital, and Freddie Mac decided it needed to bolster its capital "to manage through this credit cycle," Piszel said in a telephone interview. That cycle isn't expected to improve until 2009, he said, with home prices projected to register a 5 percent to 6 percent decline nationwide.

My Comment: Notice how 2007 became 2008 became 2009. I expect it will be more like 2012 at the earliest. My reasons were outlined in When Will Housing Bottom? Now we have more reasons to add to the list.

Sympathy Plays

It seems that Countrywide Financial is falling in sympathy. Also remember that CEO Mozilo recently promised Countrywide would make money next year. Fat Chance.

Countrywide (CFC) Daily Chart



click on chart for sharper image

Fannie Mae (FNM) Daily Chart



click on chart for sharper image

Freddie Mac (FRE) Daily Chart



click on chart for sharper image

Mr. Practical nailed it this morning with his comment: "The clear implication of the Freddie Mac (FRE) report is that there is no way, even if politicians insist, to expand the balance sheets of the GSEs to help the broad economy 'recover' from the credit slump."

I will add to that by saying both the ability to buy back loans and to raise loan amounts are now officially DOA. Oh, they can raise loan amounts alright, they just won't be able to act on it.

Mike Shedlock / Mish
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Five Most Recent Posts

All Hail The Grand Poobah; Blank Checks For Fannie and Freddie

Losses continue to mount at Fannie and Freddie where Obama has virtually declared no loss is too big for taxpayers to pay.

Please consider U.S. Move to Cover Fannie, Freddie Losses Stirs Controversy.

The Obama administration's decision to cover an unlimited amount of losses at the mortgage-finance giants Fannie Mae and Freddie Mac over the next three years stirred controversy over the holiday.

The Treasury announced Thursday it was removing the caps that limited the amount of available capital to the companies to $200 billion each.

Unlimited access to bailout funds through 2012 was "necessary for preserving the continued strength and stability of the mortgage market," the Treasury said. Fannie and Freddie purchase or guarantee most U.S. home mortgages and have run up huge losses stemming from the worst wave of defaults since the 1930s.

"The timing of this executive order giving Fannie and Freddie a blank check is no coincidence," said Rep. Spencer Bachus of Alabama, the ranking Republican on the House Financial Services Committee. He said the Christmas Eve announcement was designed "to prevent the general public from taking note."

In exchange for the funding, the Treasury has received preferred stock in the companies paying 10% dividends. The Treasury also has warrants to acquire nearly 80% of the common shares in each firm.

The companies on Thursday disclosed new packages that will pay Fannie Chief Executive Officer Michael Williams and Freddie CEO Charles Haldeman Jr. as much as $6 million a year, including bonuses. The packages were approved by the Treasury and the Federal Housing Finance Agency, or FHFA, which regulates the companies.

At Freddie, annual compensation will total as much as $4.5 million for Bruce Witherell, chief operating officer; $3.5 million for Ross Kari, chief financial officer; $2.8 million for Robert Bostrom, general counsel; and $2.7 million for Paul George, head of human resources.

Excuse me for asking the obvious question but how in the hell can the head of human resources for a company that is losing hundreds of billions of dollars a year be worth anything, let alone $2.7 million.

This is precisely the problem with regulation. Fannie and Freddie should not exist at all, it was an act of regulation that created them, it is an act of regulation that keeps them in business, and it is regulation that defends its policies that lose taxpayer money to the tune of hundreds of billions of dollars, and it is regulators that are approving ridiculous salaries for a company that should not even be in business.

The only thing that makes any sense is to shut down Fannie and Freddie totally, yet regulation and regulators have not taken step one in that direction. Yet, people scream for more and more regulation.

The latest proposal is to create a regulator of regulators, some sort of systemic risk all knowing wizard who supposedly would have prevented this crisis.

Never mind that thousands of people knew Fannie and Freddie would blow sky high, including some Fed governors. Ironically, we cannot even get rid of the GSEs after they have blown sky high and losses continue to mount.

Never mind that regulators continually get into bed with those they are supposed to regulate.

All Hail The Grand Poobah

Instead we can look forward to the creation of the post Grand Poobah of regulators.

Grand Poobah is a term derived from the name of the haughty character Pooh-Bah in Gilbert and Sullivan's The Mikado (1885). In this comic opera, Pooh-Bah holds numerous exalted offices, including "First Lord of the Treasury, Lord Chief Justice, Commander-in-Chief, Lord High Admiral... Archbishop of Titipu, and Lord Mayor" and Lord High Everything Else. The name has come to be used as a mocking title for someone self-important or high-ranking and who either exhibits an inflated self-regard or who has limited authority while taking impressive titles.

The term "Grand Poobah" was used on the television show The Flintstones as the name of a high ranking elected position in a men's club. Fred Flintstone and his friend Barney Rubble were members of the Loyal Order of Water Buffaloes Lodge No. 26. The lodge is a spoof of men's clubs like the Freemasons, the Shriners, the Elks Club and the Moose Lodge.

The only regulation we need is a sound currency, no fractional reserve lending, and a balanced budget amendment. Instead we can look forward to the the creation of some sort of regulatory Grand Poobah, an idiotic waste of time and money.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Fannie, Freddie "Mother of all Bailouts" may cost Taxpayers $1 Trillion

The estimated taxpayer costs of the GSE bailouts grows by the day and has now hit as much as $1 trillion.

Please consider Fannie-Freddie Fix at $160 Billion With $1 Trillion Worst Case.

The cost of fixing Fannie Mae and Freddie Mac, the mortgage companies that last year bought or guaranteed three-quarters of all U.S. home loans, will be at least $160 billion and could grow to as much as $1 trillion after the biggest bailout in American history.

“It is the mother of all bailouts,” said Edward Pinto, a former chief credit officer at Fannie Mae, who is now a consultant to the mortgage-finance industry.

The Congressional Budget Office calculated in August 2009 that the companies would need $389 billion in federal subsidies through 2019, based on assumptions about delinquency rates of loans in their securities pools. The White House’s Office of Management and Budget estimated in February that aid could total as little as $160 billion if the economy strengthens.

If housing prices drop further, the companies may need more. Barclays Capital Inc. analysts put the price tag as high as $500 billion in a December report on mortgage-backed securities, assuming home prices decline another 20 percent and default rates triple.

Sean Egan, president of Egan-Jones Ratings Co. in Haverford, Pennsylvania, said that a 20 percent loss on the companies’ loans and guarantees, along the lines of other large market players such as Countrywide Financial Corp., now owned by Bank of America Corp., could cause even more damage.

“One trillion dollars is a reasonable worst-case scenario for the companies,” said Egan, whose firm warned customers away from municipal bond insurers in 2002 and downgraded Enron Corp. a month before its 2001 collapse.

Foreign governments, including China’s and Japan’s, hold $908 billion of [Fannie and Freddie] bonds, according to Fed data.

“Do we really want to go to the central bank of China and say, ‘Tough luck, boys’?

The terms of the 2008 Treasury bailout create further complications. Fannie and Freddie are required to pay a 10 percent annual dividend on the shares owned by taxpayers. So far, they owe $14.5 billion, more than the companies reported in income in their most profitable years.

“It’s like a debt trap,” said Qumber Hassan, a mortgage strategist at Credit Suisse Group AG in New York. “The more they draw, the more they have to pay.”

Allowing the companies to go under and hoping that private financing will fill the gap isn’t realistic, analysts say. It would require at least two years of rising property values for private companies to return to the mortgage-securitization market, said Robert Van Order, Freddie’s former chief international economist and a professor of finance at George Washington University in Washington.

The price tag of supporting Fannie and Freddie “needs to be evaluated against the cost of not having a mortgage market,” said Phyllis Caldwell, chief of the Treasury’s Homeownership Preservation Office.

Whatever the fix, the money spent will not be recovered, said Alex Pollock, a former president of the Federal Home Loan Bank of Chicago who is now a fellow at the Washington-based American Enterprise Institute.

That was a good report and credit goes to Bloomberg reporters Lorraine Woellert and John Gittelsohn. There is much more in the article. Inquiring minds will give it a closer look.

Bernanke's Exit Problem Grows by the Day

The amazing thing to me is the credit given to Bernanke for doing nothing but kicking the can down the road. We had an easy chance to do the right thing which was to make the Fannie and Freddie bondholders share in the pain.

Instead, Bernanke, Congress, and the Treasury collectively forced broke taxpayers to bail out wealthy bondholders. Now Bernanke is scrambling for an exit and praying for a miracle, but no exit or miracle will be found.

How the hell can Fannie and Freddie pay a 10 percent annual dividend on the shares owned by taxpayers when they are losing billions of dollars a year? Secondly, can the Fed unload the $trillion in Fannie and Freddie debt on its balance sheet without disrupting the market?

What can't happen, won't happen.

Meanwhile, Congress, the Fed, and the Obama administration all foolishly wants to "support" housing although we have more houses sitting vacant than anyone knows what to do with. To top it off, FHA Volume is Sign of ‘Very Sick System’; Fannie, Freddie, FHA Account for 90% of Mortgage Market

Without government guarantees, there would be no mortgage market. With government guarantees taxpayer losses mount by the minute. ... And supposedly Bernanke is a genius for this setup.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Nature of the Fannie Mae Bailout

I strongly believe that GSEs are part of the problem and no part of the solution. Government has no business promoting housing over renting and I would abolish HUD, the FHA, and end government sponsorship of the GSEs as quickly as practical. Ron Paul has advocated the same.

Has anyone even bothered to look up the Mission Statement of Fannie Mae?

We are a shareholder-owned company with a public mission. We exist to expand affordable housing and bring global capital to local communities in order to serve the U.S. housing market.

Fannie Mae exists to expand affordable housing. Clearly Fannie Mae has failed its core mission. All government sponsored corporations fail their mission. The very nature of promoting housing makes prices go up, until the final blowoff top which we are now on the backside of, having reached Peak Credit.

In a surprising statement Treasury Secretary Paulson said Financial Institutions Must Be Allowed To Fail. My Translation is "This mess has finally gotten too big for the Fed to bail".

That leaves taxpayers on the hook as Fannie and Freddie Waterfalls Are Too Big For Fed to Bail.

I posted the most likely form of a bailout would come in the nature of nationalization. Inquiring minds will want to read We're All Homeowners Now, Nationalization of Fannie, Freddie Unavoidable.

The Covered Bond Proposal

Minyan peter, former treasurer for a major US bank discusses a Continental Illinois style bailout and a conservatorship situation in conjunction with covered bonds. Let's pick up the discussion in Fannie, Freddie Expecting Bailout.

With the rumors swirling on both Fannie (FNM) and Freddie (FRE), I would offer the following thoughts:

The US Government will not explicitly guarantee the debt of Fannie and Freddie, but rather will either inject capital (super senior preferred stock subordinated debt a la a Continental Illinois style bailout) or provide a “make-whole” guaranty on the assets of both companies (a la an FDIC/RTC style failing bank resolution). The choice of the former suggests a “going concern” for the GSEs, while the latter suggests an orderly wind-down.

In either case there's considerable historical precedence. And either choice implies that the common stock of both companies is worthless and the preferred stock value is at best uncertain.

If Freddie and Fannie are placed into conservatorship and are wound down (the second choice), I expect that the US mortgage market will move quickly to the covered bond format that is common to the Europe mortgage market.

I believe that Hank Paulson began laying the public groundwork for this on Tuesday when he stated at the FDIC conference that “…as Treasury seeks to encourage new sources of mortgage funding in the United States, improve underwriting standards and strengthen financial institutions' balance sheets, covered bonds have the potential to serve these purposes and reduce the costs for first-time home buyers, and for existing homeowners to refinance.”

PIMCO offers a discussion on Bond Basics: Covered Bonds, for those who want to get up to speed.

Mother of all Bailouts

Noriel Roubini is discussing How to Avoid the "Mother of All Bailouts".

The issue now is: what happens next to Fannie and Freddie given that they are effectively insolvent?

The conventional answer is that their shareholders get fully wiped out but that their creditors (those holding the $5 trillion of these agencies' debt and their other liabilities) are made whole as the U.S. government cannot afford reneging on the implicit guarantee of the liabilities of Fannie and Freddie and it cannot risk a collapse of the mortgage and housing market that defaulting on part of the liabilities of Fannie and Freddie would imply. Unfortunately, the conventional wisdom may turn out to be right; but it could also turn out to be wrong.

The hawkish rhetoric about the “moral hazard” the from implicit guarantees that Greenspan, Bernanke, Paulson, Bush and the administration peddled for eight years was thrown out of the window the moment the housing and mortgage bust started. Instead, for the last few months the GSEs – that were already bleeding and becoming insolvent on their own portfolio – have been used by the government to back stop the mortgage markets: their portfolio limits were raised, their regulatory capital was reduced and the limits to what conforming mortgages (that the GSE can repackage/insure) are were raised from $420k to over $720k. So much for barking in public about “moral hazard” and then going ahead and using already distressed GSEs to bail out the mortgage market and make them even more insolvent. Now this “the emperor has no clothes” farce has been revealed to be what it always was: a high-flatulin “moral hazard” farcical rhetoric with zero substance and credibility.

To minimize the financial cost of this farce the administration should stop pretending that these are private institutions and go ahead and take them over and nationalize them since they are going to bail them out anyhow.

Socialism For The Rich

In a long as well as interesting read, Roubini goes on to explain his position:

The creditors/bondholders of Fannie and Freddie should not be made whole, i.e. bailed out, once the insolvency hole of these institutions emerges .... Will this optimal policy solution - an haircut for bondholders - be undertaken? Most likely not as the political economy of housing, mortgages and of “privatizing profits and socializing” losses may dominate the policy outcome.

...

Financial institutions love a system where they gamble recklessly, pocket the profits in good times and let the fisc (taxpayer) pay the bill when their reckless behavior triggers a financial crisis; this is socialism for the rich. That is why you already hear the whole Wall Street Greek chorus moaning for a bailout of the GSEs. But the financial costs of this financial crisis – the worst since the Great Depression – are mounting so fast that any bailout will become fiscally extremely expensive.

Roubini Conclusion

If we fiscalize all of these losses the U.S. may fast lose its AAA sovereign debt rating and eventually end up like an insolvent banana republic. It is thus time to put a stop to the coming “mother of all bailouts” starting with a firm stop to the fiscal rescue of Fannie and Freddie, institutions that have behaved for the last few years like the “mother of all leveraged hedge funds” with their reckless leverage and reckless financial activities."

Repeating my opening gambit, a position I have stated many times over the years: "GSEs are part of the problem and no part of the solution."

It is doubtful that Congress will see it that way. After all, Fannie Mae is one of the biggest campaign contributors around, stuffing the pockets of Congressmen everywhere.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Fannie and Freddie Waterfalls Are Too Big to Bail

It's been a wild ride for Fannie and Freddie recently. Yesterday, James Lockhart, director of the Office of Federal Housing Enterprise, said the GSEs are "well capitalized".

William Poole, former Fed governor disagrees. Poole Says "Fannie, Freddie Insolvent".

The market agrees with Poole as share prices have continued to plunge and Fannie Mae Pays Record Yield Spreads on Sale of Two-Year Notes vs. two-year treasuries.

Fannie Mae Waterfall



click on chart for sharper image

Freddie Mac Waterfall



click on chart for sharper image

Institutions Must Be Allowed To Fail

Today Paulson Says Financial Institutions Must Be Allowed To Fail.

I would like clarification from Paulson as to what "fail" means. What it should mean is Fannie and Freddie go bankrupt, the government gets out of the GSE sponsorship business, and home prices fall to their natural level.

What I suspect Paulson means is We're All Homeowners Now, Nationalization of Fannie, Freddie Unavoidable. In this scenario, the share price of Fannie and Freddie will drop to zero yet taxpayers will foot the bill to keep Fannie and Freddie in business.

Wachovia and Washington Mutual at Risk

Yesterday Wachovia Named New CEO and Warned Of Big Loss. Larry Smith, interim CEO said "the company plans to remain independent, despite rumors of a possible takeover". My thought is no one in their right mind would want to acquire Wachovia and besides, no one is big enough to take them under as JPMorgan did Bear Stearns.

Both Wachovia (WB) and Washington Mutual (WM) are loaded to the gills with Alt-A, liar loan garbage. Wachovia is barely a teenager at $13.13 while Washington Mutual is hanging on for dear life around $5.25 a share.

WMALT 2007-0C1

Chris Puplava has new charts available of the Washington Mutual Alt-A pool WMALT 2007-0C1.That pool has been the "poster child" for what is happening with Alt-A. Although it is just one pool, it is arguably indicative of the rotten nature of liar loans in general.

Pool Stats



click on chart for sharper image

REOs are Soaring



click on chart for sharper image

Tranche List



click on chart for sharper image

The tranche breakdown shows total deal size. Total size is 519.159M, "A" Tranches are 476.069M total, "M" Tranches are 30.112M total, "B" tranches 7.788M total and "C" tranche is 5.19M total

Cesspool Math

As of today, tranches A1 through A5 are all still rated AAA . Those 5 tranches constitute $476.069M out of an original pool size of 519.159M. In other words, 91.7% of this entire mess is still rated AAA even though REOs are now up to a whopping 10.48% and 60 day delinquencies are 32.69%. Moody's and the S&P should be embarrassed by this.

Too Big To Bail

The credit bubble has popped. Fannie Mae (FNM), Freddie Mac (FRE), Washington Mutual (WM), Wachovia (WB), and Lehman (LEH) are all at serious risk. Many smaller payers are at huge risk as well.

Meanwhile, the Fed continues to orchestrate "takeunders" like the shotgun marriages between JPMorgan (JPM) and Bear Stearns (BSC), and Bank of America (BAC) and Countrywide (CFC). The Fed's idea seems to be for the strong to take over the weak. The reality is the strong become weak through these efforts.

Paulson's statement "Institutions Must Be Allowed To Fail" is in reality an implicit admission the Fed is powerless to stop a credit implosion whether the Fed wants to do something about it or not. We have finally reached the point at which the mess is too big to bail. All that remains at this point is the final numbers on how much taxpayers have to cough up when Congress foolishly tries to make water run uphill.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List