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Sunday, September 07, 2008

US Treasury Bailout of GSEs

A Treasury-led bailout of the GSEs (government sponsored enterprises Fannie Mae and Freddie Mac) was announced after the markets closed on Friday by the Wall Street Journal.

The Treasury announced the terms of the GSE bailout. Read the full text of Paulson's statement at the following link:

With this agreement, Treasury receives senior preferred equity shares and warrants that protect taxpayers. Additionally, under the terms of the agreement, common and preferred shareholders bear losses ahead of the new government senior preferred shares.
Key: The Treasury position will be "senior" to the current preferred and common stockholder positions. We'll have to wait and see what this means after the markets open tomorrow. Hopefully, this means they are "buying low" and can sell in the future at a nice profit for taxpayers.

This may put a fork in the bear market in BOTH equities and housing as it should allow people to get reasonably priced mortgages and home equity loans again.

The shareholders may be wiped out or at least severely diluted since the government will be first in line. Already, the GSE shares trade more like options than stocks. (Stocks that trade under $5 are very risky. I consider them "options that don't expire" since you can buy cheap stocks in companies you like for a potential recovery and hold for years if needed.)

Charts of Fannie Mae and Freddie Mac

Feel free to discuss this and your thoughts in the comments section below:


  1. More info

    Paulson Engineers U.S. Takeover of Fannie, Freddie (Update1)
    By Dawn Kopecki and John Brinsley

    Sept. 7 (Bloomberg) -- The U.S. government will take control of Fannie Mae and Freddie Mac after the biggest surge in mortgage defaults in at least three decades threatened to bring down the companies making up almost half the U.S. home-loan market.

    ``It is necessary to take action,'' Treasury Secretary Henry Paulson, who engineered the takeover along with Federal Housing Finance Agency Director James Lockhart, said in a statement today. ``Our economy and our markets will not recover until the bulk of this housing correction is behind us. Fannie Mae and Freddie Mac are critical to turning the corner on housing.''

  2. I am surprised that you are so optimistic about this developement. e.g.that it could result in taxpayer profit, that it will help housing, and that it was a good idea at all to begin with.

    It is easy to take the opposite opinion, that this is another case of privatize the profits, socialize the losses. I mean, these were supposedly public companies, owned by shareholders, who had no vote in the matter and find themselves at the end of the line. Wouldn't it be odd to find one morning that LRCX and VRGY announced a backroom deal issuing an enormous number of preferred shares in order to recoup losses on a failed next generation of equipment?

    Not only do I suspect you would find it odd, it would be illegal. And yet here we are.

  3. LRCX and VRGY are public companies. FRE and FNM were/are not the same because they came with an implied government guarantee. It bothered me that insiders were paid a huge salary for administering what I thought was mostly a government program that made a profit. It always seemed odd to me that Wall Street got in on the act by making this a public company where the profits could go to shareholders. It is much easier to be irresponsible taking risk when done with taxpayers monies rather than investor capital. I never bought either because I took the Warren Buffett approach of not buying something I didn’t understand.

    Buffett owned 8.5% of Freddie in 1999 but got out when Freddie drifted into doing business (acting like a hedge fund) that was more to satisfy Wall Street types looking for earnings growth than for people like Buffett who want real value.

    I think this is something to be ASHAMED of and the people responsible (Congress has oversight on GSEs) are running for president. Congress seemed to be a party to the fraud. President Bush bragged about low-income and minorities were buying houses a few years ago. Didn’t anyone ask why were these suddenly good loans to make? If everyone was so sure President Bush was an idiot, then this should have been a big, red flag. These critics are also to blame for not stepping in.

    I also think there was no choice to bail out the GSEs. Sort of like neighbors buying up a blighted property at a loss to prevent it from becoming a drug den that brings down the value of the whole neighborhood.

    If you own a condo in a NY high rise and your neighbor falls asleep smoking. This causes his condo to catch on fire. Would you run in and risk getting burned to help put out the fire or would you let it burn down and hope the fire department gets there before the fire guts the whole building?

    Putting out the fire, at personal risk, could save you from losing your condo and the contents inside. After you put out the fire, you can pass new laws to make smoking in condos illegal to prevent or at least discourage this type of irresponsible behavior.

    Warren Buffett, it turns out, agrees with me. Saying it was the right thing to do, Warren Buffett said on CNBC a few minutes ago “if they hadn’t acted, there were going to be greater losses down the road.

    Fannie (FNM) closed Friday at $7.04. Currently the Bid/Ask is $1.60/$1/74
    Freddie (FRE) closed Friday at $5.10. Currently the Bid/Ask is $1.50/$1/70

  4. Former Treasury secretary John Snow and Senator Charles Schumer (D-NY) Joint Economic Committee Chairman

    Former Treasury secretary John Snow said this was preventable. He said he called on congress about 5 years ago to put in a strong regulator. He said “socialization of losses and privatization of gains” is a situation that NEVER works. He said the GSEs became very large hedge funds Snow said this result was inevitable but he is encouraged by what is coming out of the two campaigns for president that “business as usual” is not acceptable.

    John Snow, talking to Senator Charles Schumer (D-NY) Joint Economic Committee Chairman, sounded vindicated that he was right. If possible, I think Schumer should be impeached from office and run out on a rail since the buck stops at his desk for this and he was warned of this by Snow long ago.

    Snow also said this bailout was necessary but hopes for a permanent solution out of congress for a real solution for the future to fix what was wrong with the GSEs so this does not happen again.

    Does anyone remember why John Snow left the position of secretary of the Treasury? I believe he had disagreements with President Bush. I wonder if it was over this or other issues…..


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