In this rescue, some are bailed -- and some are nailed

Is it a bailout, or isn’t it?

With the Treasury committing up to $200 billion of taxpayers’ money for direct investment in Fannie Mae and Freddie Mac -- and billions more for loans to the companies and purchases of their mortgage-backed bonds -- surely somebody is getting bailed out in this rescue package.

But the immediate beneficiaries aren’t the companies’ common shareholders, nor the investors in Fannie and Freddie preferred shares. They could very well lose everything.

Think more along the lines of the Chinese central bank, Persian Gulf sovereign wealth funds, state government investment funds and other investors that own either the company’s corporate bonds or their trillions of dollars in mortgage-backed bonds, or both.

And, of course, the employees of Fannie and Freddie are in a sense being bailed out, presuming they will keep their jobs (although the two CEOs are being bounced).

When the common shares of the companies open for trading on Monday, "By rights, the stocks should go to zero," says Christopher Whalen, a partner at Hawthorne-based research firm Institutional Risk Analytics.

Under the rescue plan announced by the Treasury on Sunday, the common shares might eventually have some value. But it could take years to know for sure. With that kind of uncertainty the stocks will be suitable now only for the rankest of rank speculators. (Actually, that has been true for weeks. Yet Fannie shares closed at $7.04 on Friday; Freddie closed at $5.10. Look out below on Monday.)

Likewise, the companies’ preferred shares -- which paid hefty dividends and were viewed more as bonds than stocks -- could well end up worthless, depending on how much taxpayer money Fannie and Freddie require to stay solvent. The dividend payments will cease.

Standard & Poor’s and Moody’s Investors Service on Sunday slashed their credit ratings on the companies’ $36 billion in preferred stock to the level of "highest speculation, lowest quality."

That’s a bailout? The Treasury’s willingness to sacrifice the preferred-stock investors actually could mean more trouble for the financial system because the shares were favorite investments of some regional banks and insurance companies. Whoops.

So the common and preferred shareholders are going down.

But the investors who own the debt of Fannie and Freddie have been saved. They’ll continue to earn interest on their bonds and will have their principal repaid in full. There’s your bailout.

As David Kotok, head of investment firm Cumberland Advisors in Vineland, N.J., put it in a note to clients this weekend:

Billions [in Fannie and Freddie debt] are held by state and local governments in the U.S. Similar large holdings are found among the central banks and foreign institutions of the world. They purchased and held this paper based on the fact that the U.S. would honor the guarantee of the federal [agencies], even though the guarantee was not explicit. These buyers had history on their side. The U.S. has not permitted any agency to default. In the end and after all the political wrangling, it is not about to start now. Does keeping the debt holder whole amount to some form of moral hazard issue? The answer is yes. Is it necessary? The answer also is yes.

Here’s one way to think about the debt holders’ bailout: Their willingness to buy the bonds of Fannie and Freddie helped to give us the housing boom. In effect, they put money into the hands of home buyers, builders, mortgage bankers and everyone who ate at the housing trough.

They were giving America what it wanted, and they believed that they had a U.S. government guarantee for doing so.

Photos: Outside the headquarters of Fannie Mae in Washington (by Manuel Balce Ceneta / Associated Press) and Freddie Mac in McLean Va. (by Paul J. Richards / AFP Getty Images).

Comments

[acitizen]

I supported FRE common at the $3.50 level two weeks ago with a good intension to see them popped up and to get finance which FRE did last week. What are the corporate, SEC and human rights do I have being a citizen in a democratic country, if my FRE shares were forced to sell to the government for zero or $0.01/share? Why did they not need share holders' approval under US corporate laws?

[Thomas M]

This time we stole to much. That's right Americans stole to much and now, we want the government to "attempt" to bail out the entire American economy! General Motors, Ford, and Dodge now want a "loan".This too will not work. Our nation, the land that I love is in serious trouble. For to long the present Washington administration, President Bush and cabinets of unethicals ran our nation into the ground. Now I very concerned for the future of my children in this nation. What have we left, tv networks that are filled with "reality shows" and gossip trash "news" networks. There is now only one way out, a national repentance is needed and a call to integrity of every American as we decide to work together as equal American. We must all share equally in the pain and rebuilding of our Nation and share in the rewards to come equally. Anything short of this will not work.

[Emmanuel S.D. Lopez]

The bailout of Freddie Mac and Fannie Mae by the Federal Government is a US$ 200-Billion gamble that is sure to be lost. Despite the staggering amount, it is too small and too late to battle the rising tide of home foreclosures. The exposure of financial institutions in real estate mortgage is estimated at US$ 5-Trillion and given the ratio of unsustainable loan portfolios generated in the past years, the Federal government is simply trying to delay the inevitable. Moreover, it is compromising fiscal responsibility by financing the inappropriate lending policies and borrowings of the past years. Effectively, it is the taxpayers who are assuming the burden of greed and bad investment decision of real estate speculators. By exposing the broader economy to this financial anomaly, the Federal government is risking the health of the broader economy.

[Carola Von Hoffmannstahl-Solomonoff]

"They (foreign debt holders) were giving America what it wanted and they believed that they had a U.S. government guarantee for doing so." And home-buyers believed the housing bubble would never pop and taxpayers hoped that implicit support of GSE excess would never become explicit. But in their case, wishing didn't make it so...

[Ron]

This a brazen political move to give the GOP cover and plausible deniability as McCain and his cadre seek to con the nation into continuing the exact same policies which created the problem in the first place! They are attempting to inoculate themselves, so when "the big one" happens, and the US economy totally tanks, they can claim "we did everything we could to avoid this...."

Yea.

[DenisL]

Where is the outrage w/ the Fed/Treasury take over of Freddie and Fannie?
Am I missing something? Why is this not blatant baloney?
How can they expect taxpayers NOT to lose money?
Why do we believe them?
What is the plan to make Fannie/Freddie profitable?
What are they hoping for? A war to distract us?!?!
The November election to be over?
What is their next trick? Hyper inflation to make housing prices stop falling and rise 40%?
This seems crazy reckless to me.
Can the US really afford the $1.5-2.5 trillion price tag? [The IOUSA movie three weeks ago, clearly says NO!!!] No taxpayer losses. WOW! I have heard of the big lie but this is unbelievable!!
They seem hopeful that we will blame FANNIE AND FREDDIE and NOT the Federal Reserve/Greenspan or US government deficit spending.

The irony is that I bet the stock market is way up on MONDAY!

From a Bloomberg story on Freddie, Fannie and Paulson, as in CYA:
http://www.bloomberg.com/apps/news?pid=20601103&sid=ajcw4yxxPGJ8&refer=news

"The Treasury noted that Fannie and Freddie securities are held by central banks and ``investors around the world.''

Lockhart added that interest and principal payments will CONTINUE to be made on the companies' subordinated debt.

The Treasury will hire independent asset managers to purchase and run the portfolio of mortgage-backed securities it will buy. The program goes beyond just helping Fannie and Freddie, as it aims ``to BROADEN ACCESS to mortgage funding for current and prospective homeowners,'' according to the Treasury. (YET they will cut back on future lending by the Fannies!!)

``There is NO REASON to EXPECT TAXPAYER LOSSES????? from this program, and it could produce gains,'' the department said.

Lockhart said today's action was prompted by a judgment that the companies ``cannot continue to operate safely and soundly and fulfill their critical public mission without significant action????? (What action except to pour in taxpayer money?) to address our concerns.''

Paulson's decision, taken after consulting with Federal Reserve Chairman Ben S. Bernanke, followed a review that found Washington-based Fannie and McLean, Virginia-based Freddie used accounting methods that inflated their capital, according to people with knowledge of the decision."

[Xcalibar]

So typical of this administration. Isn't it time for congress to do their jobs and stop the abuse of our taxes. There are so many things wrong with the current administration that we ought to put a freeze on their executive powers until the next president takes over. We sure can't afford even 4 more months of the same stupidity. Every Federal Department has experienced major embarassing situations because of the incompetitant leadership placed in charge by the current administration. Lack of Management skills, lack of necessary knowledge compounded by no understanding of fiscal responsibility, a sure formula for failure. The next failure will be a big one, the FDIC.

[Lisa W]

One world order. They are bailing out the Central Banks--their shareholders run NATO, WTO, and all the "local" Councils on Foreign Relations- with my great grandchildren's incomes.

It's not an inept govt. It's a govt that serves a different master. Not the American people, but the world's billionaires.

Read about the central banks' histories, listen to Noam Chompsky, Ron Paul, Perot, Nader. They are Americans who care and are brave enough to speak out.

[acitizen]

Can any one please help to comment, if they have the legal right to force FNM, FRE to zero or $0.01/share and acquire 79.9% of them under the US and international corporate laws without any proxy approval? What are the true reasons that the two ex-CEOs did not even attempt to comment and to protect the share holders?

[James Monachino]

Throwing the Freddie Mac & Fannie Mae Shareholders under the Bus.

So we see the template for the liquidation of America. It is a frightening thought to shareholders that this could be the model going forward of additional high profile institutions - - and there will be others. Unfortunately, in a decaying deflationary scenario everyone gets hurt even the survivors.

No problems have been solved, as stated, it is stop gap measure designed to keep the international heavy hitters in the fix income game. We saw Treasury Secretary Henry Paulson punt as best he could.

Why he choose Herbert Allison of Merrill Lynch and David Moffett, who was a US Bancorp vice chairman is a bit of a mystery to me but I wish them luck on a very tough job.

James Monachino