A One-Year Retrospective

In three days, Howard on Mortgage Finance will have been live for one year. I thought, therefore, that this would be a good time to look back on the first year’s inventory of posts with a piece that summarizes them, by category, and also provides links to each for reference purposes.

In my second post, Some Context, and the Coming Bailout Charade (February 15, 2016), I stated that the goal of the site was “to improve the quality of information available about the relative merits of various approaches to reforming the U.S. mortgage finance system,” noting “(t)here is a large amount of misinformation currently being circulated on the subject, which in many cases my background and experience put me in a position to correct.”

I’ve worked toward this goal in my first year of the blog. The majority of my posts fell into two broad categories—establishing the facts about Fannie, Freddie and the mortgage finance system, and (based on those facts) analyzing alternative proposals for mortgage reform. I also did six posts on a more specialized topic—the credit risk transfer securities issued by Fannie and Freddie, which, as I discovered during the course of the year, leave almost all of that risk with the companies.

I briefly discuss (and provide links to) each of these posts below, by category:

Establishing the facts (5)

My main reason for creating the blog was that so much of what was being written and said about Fannie and Freddie, and the causes of and potential remedies for the 2008 financial crisis, was demonstrably untrue. The true story, I knew, was “hidden in plain sight,” and could be backed up with verifiable facts. But someone had to showcase those facts, and also weave them together into a narrative that was both understandable and credible. Five of my posts were primarily aimed at doing that.

Thoughts on Delaware Amicus Curiae Brief was my first blog post, put up on the same day I submitted that brief to the U.S. District Court for the District of Delaware (February 2, 2016). The post had some commentary on aspects of the brief, but its greatest value as a reference was its link to the amicus itself (found here).

Although submitted for one specific case in Delaware, the Delaware amicus was written as a rebuttal to arguments made by counsel for Treasury and the Federal Housing Finance Agency (FHFA) in a host of lawsuits filed against the government for its post-conservatorship treatment of Fannie and Freddie. Treasury and FHFA’s counsel had brazenly put forth a provably fictional account of what the government had done to and with the companies and why, claiming that poor credit decisions by them required their rescue and a subsequent $187 billion bailout by Treasury, and later triggered the need for Treasury to sweep all of their future profits to prevent a “death spiral” of borrowing to pay the cost of that bailout. The Delaware amicus uses a multitude of footnoted source documents to tell a very different story: Treasury made a calculated and planned decision to take Fannie and Freddie over, against their will and without statutory authority, for its own policy purposes and to its own exclusive benefit.

The Takeover and the Terms (February 23, 2016) compares the mammoth non-cash losses recorded by Fannie and Freddie from 2008 to 2011—which forced them to take $187 billion in non-repayable senior preferred stock from Treasury—with the subsequent spike in their earnings between the fourth quarter of 2012 and the first quarter of 2014. During those 18 months Fannie and Freddie earned $158 billion, all of which went to Treasury because of the net worth sweep. That amount was one and a half times the companies’ cumulative earnings in their respective 70 and 38 years of existence, proving irrefutably that their 2008-2011 losses were not real.

Treasury and the Financial Establishment (April 14, 2016) is a hybrid piece that begins with a review of actions taken by the Federal Reserve and Treasury to try to substitute “private sources of capital” for Fannie and Freddie guarantees prior to the crisis, and ends with a discussion of the irony of “Treasury and the Financial Establishment” taking no responsibility whatsoever for the spectacular failure that resulted from their earlier efforts at reform, while continuing to pursue the same reform objectives today.

Getting From Here to There (May 2, 2016) goes back to the mortgage finance system of the 1970s to summarize the history of the battle between opponents and supporters of Fannie and Freddie for control of what at its peak (prior to the crisis) was an $11 trillion residential mortgage market. It then discusses more recent developments in both the post-conservatorship management of Fannie and Freddie and the court cases filed against the government challenging that management, linking them with the history of what I call the “mortgage wars” before speculating on how all of these interrelated events might ultimately play out.

Economics Trumping Politics (January 4, 2017) contrasts the two alternative approaches to mortgage reform—legislative and administrative. It reviews the history of the misinformation campaign conceived of and engineered by supporters of large banks and investment firms, which falsely blames Fannie and Freddie for the crisis and has as a goal legislation replacing them with a mechanism more favorable to themselves. The post asserts that with the change in administrations it now is more likely that reform will be accomplished administratively, with the consequence that “responsibility for accomplishing mortgage reform shifts from a large number of misinformed members of Congress with political incentives to get it wrong to a small number of informed finance professionals with economic incentives to get it right.”

Analyzing reform alternatives (7)

It is an axiom in Washington that “you can’t make good policy with bad facts.” Seven of my posts were attempts to apply “good facts” to the analysis of alternative ideas or proposals for mortgage reform.

Fixing What Works (March 31, 2016) was written in response to a request from the Urban Institute to contribute to its “Housing Finance Reform Incubator” project. The recommendation I gave in this piece was to build the secondary market finance system of the future around the entity-based model we know worked well in the past—with Fannie and Freddie at its center—but to make reforms to it in three key areas: putting “utility-like” limits on the returns Fannie and Freddie could earn; limiting their mortgage portfolios to a percentage of their outstanding credit guarantees and to purposes ancillary to the guaranty business, and having FHFA impose an updated, stress-based capital standard on the companies that requires them to hold sufficient capital, by product type and risk category, to survive a worst-case stress scenario defined by the government. I since have amplified on some of these recommendations, but not changed any of them.

Solving the Wrong Problem (June 8, 2016) is my analysis of the other nine essays on single-family mortgage reform submitted for the “Reform Incubator” series. The majority of the essayists said, either explicitly or implicitly, that the goal of mortgage reform was to solve some type of incentive problem they claimed existed at Fannie and Freddie. I thought that was the wrong problem (the companies’ incentive structure was good enough for them to have had the best loan performance of any pre-crisis source of mortgage credit). Instead, the real problem—to which reformers have paid scant or no attention—is how to set capital standards that simultaneously protect the taxpayer and allow credit guarantors to price their mortgage guarantees affordably for as wide a range of borrowers as possible.

Capital Considerations (June 23, 2016) followed “Solving the Wrong Problem” in sequence, and was my attempt to address the capital issue I claimed others had not treated adequately. This post was not as strong as it could have been, however; its numerical analysis of Fannie’s post-crisis credit losses was both too complex for the general reader and too simplified to have been technically accurate. Still, its main conclusion is valid: Fannie’s post-crisis loss experience makes clear that it as well as Freddie could withstand a future 25 percent nationwide decline in home prices with far less capital than their critics and opponents insist they hold.

The FHFA Letters Decoded (July 11, 2016) was written after FHFA Director Mel Watt received three policy-oriented letters from trade groups and members of Congress in less than a month. My interpretation of this flurry of correspondence was that, because of developments in the lawsuits contesting the net worth sweep, policymakers were becoming concerned that FHFA might soon escape from its subservience to Treasury, and were seeking to influence any decisions FHFA might make independently. I also noted some obvious inconsistencies in the trade groups’ letters to FHFA, and called on the leaders of these groups to be more responsible and disciplined when formulating public positions on reform issues.

FHFA Fails the Stress Test (August 19, 2016) was a response to misleading reports in the media of the results of the 2016 Dodd-Frank stress tests conducted on Fannie and Freddie by FHFA. The companies’ combined projected credit losses in this test were less than their projected revenues, meaning they “passed” it comfortably. But FHFA also added over $100 billion in non-cash expenses that were outside the scope of the Dodd-Frank test, to produce a headline loss figure of $126 billion (in support of Treasury’s contention that the companies were a “failed business model” that had to be replaced). The media universally reported on the inflated $126 billion loss, while this post addressed the results of the test more objectively and accurately.

A Solution in Search of a Problem (September 9, 2016) stemmed from an Urban Institute article claiming that loans acquired by Fannie and Freddie from 2011 through the first half of 2015 were “squeaky clean” and “hardly defaulting at all.” That prompted me to ask, “if that’s the case, what is the mortgage market problem for which getting rid of Fannie and Freddie is the solution?” The rest of the post discusses the bizarre state of today’s mortgage reform debate, where advocates for a financial mechanism that benefits them (but not borrowers) try desperately to find (or more often invent) a problem they can claim their proposal solves.

A Welcome Reset (December 12, 2016) circles back to my first post on this subject, Fixing What Works, which proposes an administrative solution to reform based on Fannie and Freddie. The statement by Treasury Secretary-designate Mnuchin that he wants to get the companies “out of government control… reasonably fast” significantly increased the odds that reform will be done through an administrative rather than a legislative process, involving negotiations with plaintiffs to settle the lawsuits against Treasury and FHFA. In this post I offer my advice to the participants in these negotiations: in determining what the post-settlement mortgage finance system should look like, “pick the best model, get the capital right, and be realistic about the role of government.” The post goes on to expand on each of these points.

Critiquing credit risk transfers (6)

Finally, six of my posts this past year addressed credit risk transfer transactions, principally Fannie’s Connecticut Avenue Securities (CAS) issuances, but also others.

Risk Sharing, or Not (March 9, 2016) was the first piece I wrote on the securitized risk-sharing programs Treasury and FHFA were requiring of Fannie (and Freddie). I made two criticisms of Fannie’s CAS in this post: Fannie was buying far more loss coverage than it needed, given the exceptionally high credit quality of the loans it was acquiring, and it was greatly overpaying for the insurance it bought. I noted that Fannie and Freddie had a natural advantage in taking mortgage credit risk because they could diversify it in ways that capital markets investors could not, therefore it rarely would be economic for the companies to buy insurance from those investors. The only reason Fannie and Freddie were regularly issuing risk-sharing securities, I said, was because Treasury and FHFA had made them mandatory.

A Risk-sharing Postscript (March 25, 2016) was just that, written in response to a proposal (“A More Promising Road to GSE Reform”) to replace Fannie and Freddie with a government corporation that would rely on programmatic securitized risk sharing, instead of equity capital, to support the credit risk it took. I noted the great irony of this proposal coming out so soon after our last experiment with credit risk securitization—the collateralized debt obligation, or CDO—had ended in disaster, and reiterated some of the criticisms I’d made in my previous piece on securitized risk sharing, the real “failed business model.”

Far Less Than Meets the Eye (August 8, 2016) resulted from my having read some prospectuses for Fannie CAS transactions to find out more about how risk-sharing securities worked. Much to my surprise, I learned from Fannie’s own disclosures that its CAS risk-sharing tranches are deliberately engineered to avoid taking credit losses. This post is more technical than most, but it’s worth plowing through to understand how these securities are structured and why they’re so inefficient. It astounds me that Treasury (and FHFA) would force Fannie to issue “risk-transfer” securities that require hundreds of millions of dollars in interest payments and leave virtually all of the credit risk with the company, but that’s what they’ve done.

Response to FHFA on Credit Risk Transfers (September 9, 2016) reproduces a submission I made in response to a “Single-Family Credit Risk Transfer Request for Input” issued by FHFA in June. In it, I advised FHFA that it needed to update Fannie and Freddie’s risk-based capital standards before it could accurately assess the effectiveness of any risk-sharing transactions the companies might contemplate, and that it should adopt a “borrower benefit” standard for these transactions—i.e., will they make the borrower better off, relative to the companies retaining the credit risk themselves? I also told FHFA it should not make risk sharing mandatory, that Fannie’s CAS (and similar securities issued by Freddie) were “clearly, and grossly, uneconomic,” and that “FHFA must ask itself how it failed to detect that fact.”

Getting Real About Reform (October 25, 2016) is another hybrid piece, mainly about risk sharing but also about mortgage reform. It was prompted by a second reform proposal—this one by the Milken Institute, following the “Promising Road” from the Urban Institute—that relies on securitized risk sharing as a substitute for equity capital. In this post I label both proposals “theoretical fantasies.” Advocates for these ideas pretend that a dollar in face value of a risk-sharing security is equal to a dollar of upfront equity capital, when in fact it is worth less than one-tenth as much. When you substitute capital reality for capital fantasy, both the Milken Institute and the Urban Institute proposals implode, as did CDOs about a decade ago.

Investors Unite Risk Sharing Call (November 16, 2016) is a written version of the remarks I delivered on this call (and includes a short postscript). In preparing for the call I drew on my previous three posts on risk sharing, and attempted to package the material in a way that would be more accessible to an audience less familiar with the subject. I covered risk sharing using forms of private mortgage insurance as well as securitized risk transfers, but spent more time on the latter. I concluded by calling Fannie and Freddie’s risk sharing securities “exercises in deception,” and by asking the audience to tell Treasury and FHFA to “stop trying to fool us, and instead turn their attention to devising reforms for the system that might actually work.”

*          *          *

Overall, I’m satisfied with the posts I’ve put up on the site during its first year. I’ve said much of what I wanted to say about Fannie, Freddie and the mortgage finance system, past and future. To avoid being repetitive, future posts may be more event-driven, possibly shorter, and perhaps even less frequent (if I don’t have something new or different to impart). But I’ll have the same goal for the site in the coming year as I had for its first one, and will seek to add as much value to the reform dialog as I can.

351 thoughts on “A One-Year Retrospective

  1. Tim, Fannie Mae’s Q4 earnings were astounding. How much of these earnings represent long term advances in profitability versus a one-time event? Do you think these earnings will help change the story a bit? Thanks!

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    1. Fannie’s fourth quarter earnings were boosted by the significant positive effect that increases in market interest rates had on the market value of the company’s floating-to-fixed rate interest rate swaps. Normally, Fannie will post a loss in “Fair Value Gains or Losses” because of the amortization of the cost of those swaps; in the fourth quarter, however, it had nearly $4 billion in gains in that category.

      For the full year 2016—in which Fannie had after-tax net income of $12.3 billion–it did have a loss in the fair value line item, but it also had a $2.2 billion benefit for credit losses that over time will shift back to become a cost (i.e., a provision for credit losses). When that happens, Fannie’s normalized annual income should shift back to within the $10 to $11 billion after-tax range I’ve been using for my longer-term earnings estimates.

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  2. hey tim

    another question for you about the regulatory capital impact of a possible recap. i’m not asking you for your opinion of the recap, as to merit or viability, but just whether if i am right that there would be no diminution of regulatory capital from the following:

    1. say fnma has about $10B of senior pref left outstanding on a pro forma basis, giving effect to a retroactive invalidation of the NWS. treasury would like to realize value on its warrants but not impair fnma’s ability to issue more common common stock.

    2.treasury exchanges its 80% warrant position for, say, $30B of senior pref stock. this $30B senior pref would have conventional institutional terms. and the existing $10B senior pref would have its terms changed to these terms. the dividend rate would be market, substantially below 10%.

    3. treasury would be able to sell its $40B senior pref in the market as market conditions permit, letting treasury reap immediate value from its former warrant position.. the $19B junior pref would be encouraged to convert into common, but this is not necessary.

    4. very roughly, you would have fnma as a $130B market value company ($11B net income per annum X 12PE), with approximately $60B of outstanding preferred senior to 1.1B shares of common stock (if no junior pref exchanges).

    5. assuming that fnma hasn’t reduced its regulatory capital from its current approx. $1B level, fnma would have to retain/raise some $60B of new capital, but it would have some $7B annual free cash flow per annum after dividend payments to retain or support the raise of new common stock.

    rolg

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    1. Exchanging the warrants for senior preferred would increase the efficiency of common stock capital raises (since it would avoid the dilution that would come from partial or total exercise of the warrants) but it would do so at the expense of Fannie and Freddie’s retained earnings available to common shareholders (from which both junior and senior preferred stock dividends are deducted.) Also, the continued existence of senior preferred stock as a class could make both preferred and common stock in the companies more difficult to sell. Still, this idea may well get serious consideration.

      As I’ve said repeatedly, however, I do not pretend to know what the best way is for the Mnuchin Treasury and plaintiffs in the lawsuits to deal with all of the competing priorities they will have to balance in getting Fannie and Freddie’s lawsuits settled, putting in place an acceptable set of reforms, then getting them recapitalized. They’re the experts, and I’m willing to trust that they have the knowledge and experience to come up with the best approach for all concerned.

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        1. Judge Wheeler has essentially determined ILLEGAL. Still on appeal. The plaintiff counselor Boise did an excellent job. Boise firm’s DC office is working on Perry appeal.

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  3. Tim – Since the FNMA mortgage portfolio business did fine in the 2008, why did the Gov make them get out of that business in favor of mostly-insurance which has triggered the 2008 bailout?

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    1. As you point out, in 2008 Fannie’s and Freddie’s mortgage portfolios were a significant source of profit for the companies, helping them to absorb (and, on an operating basis, offset) the losses from their credit guaranty businesses.

      The placement of limits on the sizes of Fannie’s and Freddie’s mortgage portfolios when Treasury and FHFA agreed to the Senior Preferred Stock Agreements in September 2008 was Treasury Secretary Hank Paulson’s taking advantage of a wide-open opportunity to accomplish an objective Treasury officials had sought to achieve since at least the Reagan years: limiting the amount of agency debt Fannie and Freddie could issue for the purpose of buying and holding mortgages. A secondary benefit Paulson got from portfolio limits was that typically net interest income from the portfolios accounted for about two-thirds of Fannie and Freddie’s net income. Shrinking their portfolios would consequently cut into their profits, making it harder for them to earn enough to offset the book accounting losses Treasury and FHFA intended to smother them with post-conservatorship. Once Treasury put Fannie and Freddie into conservatorship, its goal always was to prevent them from ever coming out; limiting revenues from their portfolios was a means to that end.

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      1. As FnF were shrinking their portfolio, the Federal Reserve was buying up the MBS. The Fed pays a fixed dividend to their member banks and the rest of the income to the Fed goes to the UST. You can think of this relationship as the member banks are preferred shareholders of the Fed and the UST is the single common shareholder of the Fed. When FnF were forced to reduce their MBS portfolio and the Fed added MBS to their balance sheets with money they created out of thin air, the UST started receiving all of the funds that FnF used to receive without having to actually use money to purchase the assets.

        I tried to make the argument to Epstein that this was a taking, but he said no this argument shouldn’t be made for a variety of reasons that he detailed but I failed to comprehend.

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        1. The shrinkage of Fannie and Freddie’s portfolios is closely linked—in both timing and magnitude—with the Fed’s purchases of Fannie MBS and Freddie PCs for its own portfolio. And the Fed is making even more money from its mortgage portfolio than Fannie and Freddie did from theirs. The companies hedged both the duration and the option risk of their mortgage holdings, and the cost of that hedging left them with a net interest margin of around 100 basis points; the Fed doesn’t hedge its mortgage holdings at all, and as a consequence has a net interest margin of around 300 basis points.

          So I’m certainly sympathetic to the argument that the Treasury and the Fed, together, “took” a profitable business away from Fannie and Freddie and gave it to the government. But—even though I’m not a lawyer—I have to agree with Mr. Epstein that this would be a very difficult argument to make legally. Treasury is given broad discretion to take emergency measures during a crisis, and it has argued that Fannie and Freddie were troubled companies and that, in its judgment, putting them into conservatorship was the right call at the time. And the Fed has said that it began purchasing mortgage-backed securities not because of their profitability, but as part of a program of “quantitative easing” designed to push U.S. long-term interest rates down. In a court of law, the Treasury and the Fed would get the benefit of the doubt on both arguments.

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          1. Yes, but I don’t think the Fed looks at it that way.

            In 2015, the Fed turned over almost $98 billion in profits to Treasury (the 2016 figures aren’t out yet). All of those profits came from interest on the $4.5 trillion of Treasury and agency (Fannie, Freddie and Ginnie Mae) securities it holds, and funds by crediting the reserve accounts commercial banks hold at the Fed. This “short-funding” approach exposes the Fed’s profit stream to the effects of higher interest rates, in two ways: first, the interest it pays on bank reserves could rise while the interest it receives on its fixed-rate mortgages stays the same, reducing the interest margin on those securities (which already has happened), and second, as mortgage rates rise the price the Fed would get it for selling its fixed-rate MBS falls, meaning it could get less than it originally paid for them. The Fed does not hedge either risk.

            The Fed already has seen an erosion in its income from the first type of risk. At the time the Fed began buying the $1.7 trillion in agency MBS it now holds, it paid interest of 25 basis points on bank reserves. That rate stayed the same until December 2015, when it rose to 50 basis points, and it rose again to 75 basis points in December of 2016. That first 25 basis point reserve rate increase will show up in reduced Fed earnings for 2016 (soon to be published), while the 25 basis point increase of two months ago will lower the Fed’s earnings this year. Further rises in the rate on bank reserves will have similar effects on future years’ earnings.

            The Fed is still making money on its MBS (and other government and agency security) holdings; it’s just making less. And selling some of its MBS holdings would reduce the Fed’s earnings even further– first as it receives less for the MBS that it paid for them, and second as it also loses the spread income on them.

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  4. Tim,

    How does this gov dividend get authorized? From what I can tell, the prez has the power to unilaterally remove/select the head of the fhfa. The fhfa can remove members of the FnF board, and the members of the FnF board authorize the dividend to the treasury, that goes into the general spending account, for the prez. So if anyone didn’t want to make the payment, they would just be removed from their position, and replaced with someone that will.

    Is that correct?

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    1. My understanding is that FHFA is the one that authorizes it or, to the contrary, could allow Fannie and Freddie to not make it. As to the rest of your question, my personal view is that Mel Watt is not the obstacle to allowing the companies to build a capital buffer; it’s Treasury. I believe that if the Mnuchin Treasury wishes to allow Fannie and Freddie either to build a capital buffer against accounting volatility or to begin rebuilding capital in general, Watt would go along willingly, if not enthusiastically.

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  5. Tim, Have a safe flight and enjoy the West Coast.

    Competition “between” Fannie and Freddie.

    How important is that? Is it solely due to how each came into being long ago?

    What are the benefits to those they serve and among each other in being separate entities?

    Could you see value in Fannie and Freddie becoming a single entity?

    Is the CSS/CSP irrelevant now or another issue in settlement negotiations or litigation?

    Best wishes to you and yours always. Thank you sincerely for everything you have shared so unselfishly with all of us. You are in my prayers everyday.

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    1. I have always thought that competition between Fannie and Freddie was a good thing for both companies. Lenders (and therefore consumers) benefit from it.

      Fannie and Freddie compete with one other for market share. The best way to get it is to compete on innovation or customer service. If you’re successful, you can increase your revenue (and profit) by getting more business volume without giving up on margin. When I was at Fannie, both we and Freddie tried to do that, and it was good for lenders.

      There also is, of course, temptation to compete on price or underwriting (which benefits lenders as well). We and Freddie did that too, but I found there was a natural limit to how far either of us would go. At Fannie we in effect had a “market share” budget–essentially a dollar amount we were willing to cut fees or underprice underwriting variances for selected customers (ones we thought gave us higher quality overall business, or some other benefit worth having) in order to get share; the challenge was to spend that budget to best advantage. Both we and Freddie realized that if we got into a price or an underwriting war, at the end of it we would be looking across the river at each other (Fannie is in D.C., Freddie in northern Virginia) with the same total amount of business but less revenue and/or riskier books for which we weren’t being properly compensated. We always were able to manage to keep ourselves from doing anything goofy.

      Based on my experience, then, I think two is the right number of credit guarantors (which favors reforming, recapitalizing and releasing Fannie and Freddie). I would not merge them into a single entity. With two you get better service, innovation and pricing but minimize the danger of destructive competition. And the more guarantors you have, the greater (I believe) is the potential that one of more of them think they CAN use price or easier underwriting to get a meaningful amount of market share, and the system becomes less stable or more risky as a consequence.

      The Common Securitization Platform (CSP) has never been irrelevant, and it is not now. Treasury and FHFA made Fannie and Freddie begin developing it because they saw the CSP as a way to use the companies’ revenues to fund a securitization utility that could be used by entities (or mechanisms) that ultimately would replace Fannie and Freddie, as was Treasury’s objective. But Freddie also was in favor of it, because it addressed a competitive weakness Freddie had vis-a-vis Fannie virtually since Freddie came into existence in 1970. Freddie’s mortgage-backed securities have a different (and shorter) payment delay to investors than Fannie’s, but investors never have paid full price for that. To compensate, Freddie has had to quote lenders a lower guaranty fee to get business Fannie can get at a higher fee. Fannie is effectively being forced by FHFA to pay for a system that benefits its principal competitor. Dealing with that actually will be a complication in a settlement negotiation, as well as in figuring out how to configure the companies going forward (if that’s the course the Mnuchin Treasury chooses to pursue).

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  6. Tim

    I was wondering if you could share your opinion about whether or not there would be a Perry ruling if indeed there were any settlement talks taking place?

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    1. I doubt that any of the plaintiffs would tell me if or when settlement talks begin, but I’m saving them from having to decide that by not asking them.

      From what plaintiffs counsel have said publicly in the past, however, their intention is to proceed “full course and speed” on the various legal cases–making the utmost efforts to prevail in them–until such time as there IS a settlement, should one occur. And I don’t believe the judges in the Perry Capital appeal are holding back on issuing a ruling because of the possibility of settlement talks.

      [I shortly will be leaving for the airport for a flight to the west coast. Because of high winds and rain in San Francisco, flights are being delayed and I very likely won’t get in until quite late tonight. I’ll try to respond to comments that are made over the balance of the day as early as I can tomorrow.]

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  7. Hey Tim,

    If Fannie is forced (allowed) to go back and restate earnings since the beginning of conservatorship, how would that effect it’s capital position? It seems to me, the best way to make the current situation right, is by undoing all the wrong. Do you think this is a possibility?

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    1. The impact on Fannie’s capital position of an earnings restatement would depend on what was restated, and when. But I think a restatement is a long shot, for no other reason that I don’t see what the “forcing mechanism” would be to cause it (among other things a restatement would require the concurrence of FHFA and Treasury, and I don’t see what incentives they would have– even now that Mnuchin is Secretary– to go that route). It’s possible, though, that I’m missing something here.

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      1. Thanks for your reply and all the time and energy you have put into getting the truth out. As many have already expressed, you have been a great encouragement. Keep up the good fight!

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  8. Tim – what do you think is the appropriate level of such “credit risk transfer transactions” for FNMA. Is it around the current 23%?

    From today’s Q4 PR:

    Fannie Mae continues to lay off risk to private capital in the mortgage market and reduce taxpayer risk through its credit risk transfer transactions. As of December 31, 2016, approximately 23 percent of the loans in the company’s single-family conventional guaranty book of business, measured by unpaid principal balance, were covered by a credit risk transfer transaction.

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    1. Fannie is talking about its Connecticut Avenue Securities (CAS) risk-transfer program, which the company is being required to do by FHFA and Treasury. I have written about CAS extensively, calling them both “exercises in deception” and a “complete waste of money.” Based on the performance sensitivities Fannie discloses in its CAS prospectuses, the “appropriate level” for these transactions is zero, which the company has overshot (at the direction of Treasury and its conservator) by “approximately 23 percent.”

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        1. I was being facetious when I said “zero”. That’s what Fannie should have done. Obviously they’ve issued the $23 billion and it would be uneconomic for Fannie to buy them back. It will just have to pay the interest on them until they amortize to zero–which all of the mezzanine tranches will; none will remain outstanding to maturity (which, depending on the tranche, is between 10 and 12 1/2 years).

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  9. Tim – any thoughts on the removal of “dividend obligation”?

    2015: WASHINGTON, DC — Fannie Mae (FNMA/OTC) reported annual net income of $11.0 billion and annual comprehensive income of $10.6 billion in 2015. For the fourth quarter of 2015, Fannie Mae reported net income of $2.5 billion and comprehensive income of $2.3 billion. The company reported a positive net worth of $4.1 billion as of December 31, 2015, resulting in a dividend obligation to Treasury of $2.9 billion, which the company expects to pay in March 2016.

    2016: WASHINGTON, DC — Fannie Mae (FNMA/OTC) reported annual net income of $12.3 billion and annual comprehensive income of $11.7 billion in 2016. For the fourth quarter of 2016, Fannie Mae reported net income of $5.0 billion and comprehensive income of $4.9 billion. The company reported a positive net worth of $6.1 billion as of December 31, 2016. As a result, the company expects to pay Treasury a $5.5 billion dividend in March 2017.

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    1. This is a fairly subtle change in wording, more so than Freddie’s addition of the word “scheduled” to its description of the dividend payment to be made this March. But then Fannie already was using the word “expected” to describe its first quarter payment, and that word still is appropriate even if it now is more possible that the payment will not be made.

      The bigger change in Fannie’s press release is in the table titled “Treasury Draws and Dividend Payments: 2008-2016” on page 8. In previous years Fannie simply titled this table “Treasury Draws and Dividend Payments,” and included the payment it expected to make in the first quarter of the following year, both in the bar graph and in a box within that graph (which, in the 2015 10K, showed “Total Dividend Payments Through 1Q 2016, with a footnote explaining that it expected to pay the first quarter amount based on its fourth quarter 2015 earnings). In the 2016 10K that came out this morning, this same table shows just the payments made through the end of 2016. The expected payment for the first quarter of 2017 is discussed verbally in the paragraph following the table, but, in contrast to the presentation in previous years, appears nowhere in the table itself. Like the change in the wording in Freddie’s press release yesterday, this presentational change by Fannie was deliberate.

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      1. Tim,
        Net draw from treasury is $141.8B ($143.8B less $2B)

        (because due to the initial $1.0 billion liquidation preference of the senior preferred stock for which the companies did not receive cash proceeds).

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        1. Anon: I saw your earlier submission on this topic, which I did not accept because it contained too many points I would have needed to correct. I don’t know what you mean by “net draw from Treasury,” but trust me on this one: the correct breakout of the $187 drawn from Treasury by Fannie and Freddie (excluding the $1.0 billion each they were given when the PSPA was imposed on them) is $151 billion for non-cash losses, and $36 billion for dividends paid through the end of 2011 (when the balance of outstanding senior preferred stock stopped growing).

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      2. tim

        thanks for that reference to the fnma 10K dividend and draws graphic.

        i would only point out that, as a matter of delaware corporate law, there can be no such thing as a dividend “obligation” unless and until the board has specifically authorized the dividend for distribution. (in conservatorship, this would be approved by fhfa rather than just board).

        so perhaps in prior Qs, the fnma board (fhfa) had specifically authorized the dividend distribution each quarter at the time the Q earnings had been released, so that earnings release usage of the phrase dividend obligation in those cases was proper, but the fnma board (fhfa) has not done so (yet) for this quarter.

        hard to say for sure

        rolg

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      3. Tim you’ve stated that while you don’t know what the content of the documents will be, that they will be pretty telling. Where do you rate the most recent set of documents released 2-9? Do these tell us everything we need to know and we’re just hoping the rest supports it, or is there something else you’d be on the lookout for?

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        1. I haven’t looked at the February 9 documents yet (although I understand there’s nothing really new in any of them).

          Having said that, I think the documents will have significance in two broad respects. In their totality the documents contain great weight of evidence confirming what Treasury’s true objectives were in putting Fannie and Freddie into conservatorship, and for the way it and FHFA have been managing them since conservatorship. It has nothing to do with “rescuing” them and then having to sweep their profits to prevent them from a “death spiral” of borrowing to pay their senior preferred stock dividends, and everything to do with carrying out a long-held policy objective of gaining control of them with the ultimate objective of winding them down and replacing them with a system more to its (and the Financial Establishment’s) liking.

          The first avenue of effect for the documents will be when (and I think it’s really when, not if) the Perry case is remanded to the lower court with instructions to develop a full administrative record of the government’s actions affecting Fannie and Freddie. That record will be highly unfavorable for the government. But the second and more immediate avenue of effect is on possible settlement negotiations. Plaintiffs counsel have had three-plus years to review the documents that have been produced, and have a good sense of what’s likely to be in those that have yet to be produced (there’s a reason they’ve been withheld). Plaintiffs already are in a very good position to make a highly convincing case to Secretary Mnuchin that attempting to sustain the Obama Treasury’s version of events since 2008 will be a losing strategy. For that reason, I think the Obama Treasury’s “false narrative” of these events will be one of the first things to be dropped during the negotiating process, even without production of further documents. This act of the drama, in my view, effectively is over.

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    1. It’s possible, but not easy. You would need to do it on an issue-by-issue basis, and the trick in doing that (in addition to it being time-consuming) is that there are two “moving parts”: LIBOR and prepayments. Both Fannie’s principal risk-bearing tranches, the M-1 and the M-2, float with LIBOR, so to estimate the interest payments you’d have to use actual LIBOR plus the pricing spread. That’s doable, but the harder piece is estimating prepayments on the tranches. The M-1 tranche can pay down very rapidly, so some portion of the principal (and perhaps a lot of it) on the earlier M-1 issues almost certainly is gone, thereby reducing the interest payments. It’s possible that Fannie (or someone) publishes data on the outstanding size of its existing M-1 and M-2 tranches, but if so I haven’t seen it.

      It would, of course, be very easy for Fannie (and Freddie) to disclose the total interest payments on its CAS (and STACR) securities, but I can understand why they don’t: it would undoubtedly lead to the question: “And what dollar amount of credit loss transfers do you expect to get after having made all these interest payments?” (To which the answer would be: “Well, actually, next to none.”)

      Liked by 1 person

  10. Hey Tim – there is a report that “FAS 133″ will be reinstated” for the companies. I know it was a big deal when it was determined that Fannie had to restate their books because it was determined they could not utilize the hedge accounting, but I also think I remember (from your book) that it dI’d not materially affect the bottom line.

    Would love to hear your thought’s on this. TIA!

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    1. I’m just now reading the press release on Freddie’s fourth quarter and full year earnings for 2016 (I’ve been out all morning) and have not yet started plowing through its 10K.

      Freddie has been saying for several quarters that it was looking for ways to reduce the volatility in its GAAP net income caused by FAS 133. In this latest press release, it says it has done two things to that end: entering into “certain transactions” during 2016 that caused some assets to be recognized at fair value (thus offsetting some of the swings in the fair value of its swap book), and also, in the first quarter of 2017, beginning to use hedge accounting for “certain single-family mortgage loans”—although the effect of this hedge accounting won’t show up until the report on next quarter’s earnings.

      I’m much less familiar with Freddie’s financials (and accounting) than I am with Fannie’s, but I’ll see what I can find in the company’s 10K that might shed light on what specific changes Freddie made to its hedge accounting, and also see if there is any way to estimate how much of its quarterly GAAP earnings volatility it might have been able to reduce through this change (and the “certain transactions” it did last year). I’ll also be interested to see, when Fannie puts out its earnings tomorrow, whether it’s done anything comparable to try to reduce the volatility of its own GAAP earnings.

      Liked by 2 people

  11. fmcc statements in earnings releases re NWS

    3Q 2016 earnings release: “Company Will Have Returned Over $100 Billion to Taxpayers, Including $2.3 Billion in December 2016”

    4Q 2016 earnings release: “Fifth Straight Year of Positive Earnings; Nearly $106 Billion Returned to Taxpayers, Including Scheduled March 2017 Payment”

    material difference? (what does “scheduled” do for you?)

    rolg

    Liked by 3 people

    1. I think the addition of the word “scheduled” to the language referencing the March sweep payment is highly significant; it means that the possibility of not making that payment has at least been broached with FHFA (which approves the language in all of Fannie’s and Freddie’s press releases).

      Liked by 6 people

      1. tim

        i know you have participated in writing fnma earnings releases, and i have as well with other public companies. you mark up last quarter’s release as a template, using the new information. the whole notion of putting in the word “scheduled” is not something that is done without good reason. now, what that reason is, i dont know. and, as you say, whatever that reason was, that fhfa thought it was good enough reason to leave it in is something that inspires curiosity.

        rolg

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        1. I’m sure it’s different at Fannie (and Freddie) now, but when I was CFO we had a message we wanted to convey with each earnings release we put out. My controllers office did a draft of the numerical paragraphs, but I wrote the message paragraphs myself, including the chairmen’s quotes (with their approval, obviously, be it Maxwell, Johnson or Raines). We had a reason for every word that appeared in the release.

          I have no doubt that someone deliberately chose to add the modifier “scheduled” to describe the March sweep payment. I don’t know why, but it’s an important sign of movement on a front that has been static for several years. We should be on the lookout for more such signs.

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          1. As always Tim and ROLG thanks for your experience and insight. This to me could certainly be an “under the radar”, “Trojan horse”, moment. You don’t include the word “scheduled” in a release like this out of nowhere for the first time for nothing.

            Liked by 1 person

      1. I would guess it would be one of two things: either a decision in the appeal of Judge Lamberth’s ruling in the Perry Capital case, or some public action or statement that gives observers a clue as to what is going on behind the scenes in Mnuchin’s efforts to “get [Fannie and Freddie] out of the government… reasonably fast.”

        I don’t see anything to be gained by Treasury’s staying the lawsuits, and do not expect that to occur. I do believe, however, that there is some chance Mnuchin will authorize FHFA to withhold the net worth sweep payments to Treasury related to the companies’ fourth quarter 2016 net income (to be released in the next few days), which otherwise would be paid in March. We’ll have to wait to see on that.

        If Mnuchin does initiate talks with plaintiffs–as I strongly suspect he will–I doubt that either side will say anything about them while they are going on. But that’s not to say we won’t hear speculation about them (including “fake facts” alleged to be true). And I also expect to see advocates for one particular course of reform for Fannie and Freddie or another make frequent and high-profile arguments for their point of view, in the hopes of building pressure on Mnuchin to see things their way. Such efforts are likely to be a waste of time–Mnuchin’s knowledge of the issues he’s dealing with makes him much less vulnerable to political arguments than a typical administration appointee–but that won’t stop people from trying.

        Liked by 7 people

          1. anonymous/tim

            right now, the PHH case in dc circuit is pending an appeal by cfpb to have case heard en banc. a very interesting question is whether DOJ will “override” this appeal now that sessions has been confirmed. cfpb is an independent agency and has power to represent itself in court, but query whether the executive branch has power to countermand any actions cfpb takes in court. (i think so but i have been wrong before).

            so, depending on this outcome, the executive branch will have the power to remove watt if it wishes to, by analogy to the cfpb. i suspect that right now the executive branch is deciding whether it wants to make this move, and perhaps watt’s reaction to any “suggestions” that treasury might be making to watt about matters going forward will be influential in this regard.

            rolg

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  12. Tim – I know your policy regarding commenting on settlement, recap scenario’s, etc. and I understand your reasoning. A few main broader questions that maybe you could shed some light on. The first is given that the major litigants are primarily prf’d shareholders, who is it that will represent the common shareholder when it comes to working out a settlement? Certainly Ackman has a major stake, but will he have a compelling voice at the table given that he is not actively involved in litigation on behalf of common?

    Also, in your opinion, do you believe there is a high probability that the prfds are converted in a favorable fashion as a way to simplify the capital structure, maintain higher retained earnings and have the ability to issue new prfd (say 10% of company) at today’s favorable rates?

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    1. These broader questions–in particular the interactions or dynamics between various plaintiffs in the lawsuits– fall within the category of issues I do not intend to comment on. (And the possibility of conversion of Fannie’s and Freddie’s preferred into common is a narrow question I’ve said repeatedly I’ll not comment on….)

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  13. Tim , Journalists keep saying over and over that taxpayers injected 187 B in the GSEs . Other guys have explained that only 132B were ever injected and the balance were just circular payments of the 10% interest and then should be considered profit.Do you have a position on the issue ?
    Did you publish a white paper with your analysis of CAS ? I mean other than posted on this blog

    Liked by 1 person

    1. On the first point, I have never understood (or seen an explanation for) how the $132 billion figure for net capital injected into Fannie and Freddie post-conservatorship was derived. What I believe to be the correct breakout for the $187 billion in total draws from Treasury by the companies is $151 to cover book accounting losses between 2008 and 2011, and $36 billion to cover the dividends they paid on their senior preferred stock during that time. The $36 billion is disclosed by Fannie and Freddie in their annual reports, and subtracting that number from the $187 billion in total draws gives the $151 billion number that represents the 2008-2011 book losses that resulted in draws.

      No, I have not done a “white paper” that gives my CAS analysis, although the post “Far Less Than Meets the Eye” effectively could serve as a white paper. (One reason I did the current retrospective post was to give readers and analysts a quick reference to topics I’ve covered in the blog over the last year, including on CAS.)

      Liked by 1 person

  14. Tim, I echo the Yeoman’s work sentiment, expressed by stakeholders following your Blog. Given Wilbur Ross’s close working relationship with Mnuchin now, and I trust going forward, do you have any sense that Ross may be a consumer of your work? I have watched Ross for some time and have great confidence in his ability to do the right thing.

    Liked by 2 people

    1. The earnings estimate I’ve made for Fannie is on a normalized basis–derived from the expected outstanding volumes and margins of its single-family guaranty, multifamily guaranty and portfolio investment business, less operating expenses and excluding extraordinary items and accounting volatility–and has them making between $10 and $11 billion after-tax per year. (Note that if tax reform passes, those amounts would increase by the resulting annual reduction in federal tax liabilities.)

      Liked by 1 person

      1. Tim, that is a lot of money: $10-$11 billion per year with just 1.1 billion shares outstanding. Thank you. Do you think they can recap using the retained earnings? If not, why not? The reason I ask is there is some discussion that this may be the best route.

        Liked by 1 person

        1. No, I don’t it’s realistic to think that Fannie can be recapitalized with retained earnings alone.

          Start with the capital requirements. Even with my proposed minimum capital requirement for the single-family guaranty business of 2.0 percent (assuming Fannie’s mix of business is such that its to-be-determined risk-based capital requirement stays below that level), and 2.5 percent for both the multifamily guaranty and portfolio businesses, Fannie would need about $70 billion in capital today (rising with business growth). With $10 to $11 billion in after-tax earnings per year, it would take seven years for Fannie to become fully capitalized through retained earnings alone. I don’t believe financial regulators will give Fannie or Freddie that long to meet their new capital requirements. (And tax reform, if it happens, will add to the capital challenge, because the companies will have to write down their deferred tax assets immediately to reflect the new corporate tax rate, while recouping this loss through lower accrued tax liabilities much more slowly).

          Moreover, if Fannie’s capital requirements turn out to be higher—say 3 percent across the board—the challenge is steeper. A three percent capital requirement on all the company’s business would require about $100 billion in capital, or 9 to 10 years worth of returned earnings. And even that pacing assumes that dividends on Fannie’s outstanding junior preferred stock are not reinstated during that time; if they are, it would the cost the company about $1.25 billion per year, after tax, given the large amount ($19.1 billion) of junior preferred stock it has outstanding.

          So, no, I don’t see how the Mnuchin Treasury can bring Fannie (or Freddie) out of conservatorship and put it on the path to returning to private ownership and operating on the scale it had been doing previously without significant amounts of new capital. And to get Fannie out of conservatorship the government also will have to settle the lawsuits, which means dealing with the owners of Fannie’s existing junior preferred (meaning the preferred won’t sit on the balance sheet for ten years without paying dividends). And then there are the warrants Treasury holds for 79.9 percent of the outstanding common shares of Fannie and Freddie, which further complicate matters.

          Reforming, recapitalizing and releasing Fannie and Freddie pose significant financial challenges, as I’ve discussed previously. But corporate restructuring is an area of expertise both for Mnuchin and the plaintiffs with whom he will be negotiating settlement of the lawsuits. They are acutely aware of all of the complexities and challenges of the recap process—as well the need to meet multiple objectives for various stakeholders—and I’m comfortable letting them work out how best to do all of that. They don’t need my help. (I did see that you had some follow-up questions about recapitalization scenarios and conversion ratios of junior preferred to common stock. My policy is not to speculate on these topics—or to give my opinion of the reasonableness of specific recap scenarios—for a variety of reasons.)

          Liked by 2 people

          1. Thank you. I will repeat what others have said, you are most knowledgeable and balanced and fair in all of this. You say the issue is very complex. Would this plan be simple? (a) Credit all of the money taken from GSE’s plus interest that Fannie would be owed on this sum (b) Debit Senior preferred and 10% interest (quarterly basis) (c) Sell warrants at 1 billion back to Fannie (or at a palatable price) (d) Fannie sells those warrants on its own at a higher price to make up for more money needed to recap? This makes all lawsuits go away, is fair and faster path to recap?

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          2. Robin: See my last sentence above– I don’t comment on the merits (or lack of merit) of any specific recap idea. I deliberately want to avoid giving recap advice to the negotiators, and if I answer enough hypothetical recap questions what would emerge would essentially be my advice. So, “no comment.”

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          3. Can Mnuchin stop NWS before earnings release so that they can start on the path to recap? Does he have that power as treasury secretary or does he need Watt ? Doesn’t this needs to be done before earnings announcement if they want the profit from Q4 2016 earnings to not go to treasury’s coffer?

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          4. I’m not sure what the mechanics are for allowing Fannie and Freddie not to make their next net worth sweep payment. Watt certainly has to be the one to authorize (or permit) the companies not to make it, but whether he could do that without some formal concurrence of Treasury I’m not certain (I know that some commentators have opined that Watt can make this decision on his own; I just don’t know). And, no, Watt/Mnuchin do not have to make this decision before fourth quarter 2016 earnings are announced, just before the scheduled date for the sweep payment related to these earnings in March.

            Liked by 1 person

          5. Hello tim, for your answer, are you assuming that all the money that F & F have paid in excess is lost? In the third quarter of 2016 there was an excess of $ 38.3b that I understand can be used to recapitalize the company. With minimum capital requirement for the single-family guaranty business of 2.5 percent ($ 70 billion – $ 38.3 billion) we only need $ 31.7b

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          6. What you are defining as money paid “in excess” to Treasury includes dividends on outstanding senior preferred stock. While many of us believe these dividends are unearned and were unwarranted, there is not an obvious way for the companies to get them back. The most likely outcome of a finding in favor of the plaintiffs in the net worth sweep lawsuits is for post-sweep payments made by each company in excess of the 10 percent annualized dividend be re-characterized as paydowns in outstanding senior preferred stock. Doing that still would leave Fannie and Freddie with small amounts of senior preferred stock outstanding as of the end of last year. There is no “38.3 billion that…can be used to recapitalize [Fannie].” They essentially have to start from zero, and–depending on when the recap begins– more likely a modest negative number.

            Liked by 1 person

          7. Tim,

            Could Fannie and Freddie offer to exchange existing junior preferreds (which are non-cumulative) for a lesser principle amount of newly issued preferreds (which are cumulative) which have a lower interest rate? Would such an exchange make sense from the GSE’s perspective?

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        2. Understood that you want to stay away from recap advice. I guess you have addressed various elements already. The most significant to me is that warrants are deal killer, no meaningful recap can be done if they exercise warrants in its entirety and the fact (that you are the only one noticed) that the agreement asks for 80% share at any point of time thus not enabling Fannie to raise equity by issuing more shares, and therefore warrants needs to be addressed in one swoop and not a gradual recap thing. Did I get that right? It does seem too complicated. I wish it was as simple as I wrote above, sometimes simplest solution are staring at us that are fair and balanced and not political.

          Liked by 1 person

          1. i would note that in the past, when fnma announced earnings (as tim intimates, about a month in advance of the actual distribution date), fnma would state that it would make a dividend distribution of a specified amount to treasury. so this week when fnma announces 4Q 2016 earnings, it would be interesting to see if fnma is silent on the matter (or even states affirmatively that there will be no dividend).

            Liked by 1 person

    1. I read the article, and really couldn’t make sense of it. Bullard’s comments refer to the “successors to the GSEs [being] private sector companies,” which implies he is in the camp that thinks that in mortgage reform Fannie and Freddie either should or will be “wound down and replaced” with fully private entities. But if that happens, the Fed still would own over a trillion dollars of mortgage-backed securities of the existing Fannie and Freddie. Bullard’s statement that “We [the Fed] might not want to be holding MBS on the grounds that…we’d be helping private-sector companies” only applies to the securities of whatever new (“private sector”) entities replace Fannie and Freddie. So why would the Fed want, or need, to sell its Fannie and Freddie MBS and PCs, which would complicate the transition to the new system Bullard seems to advocate? It appears as if Bullard may not have thought his statement through.

      Liked by 2 people

      1. I agree and looked – the Fed has 1.7 Trillion on it’s balance sheet of guaranteed MBS – not all GSE related but presumably a lot of it. If the implicit guarantee goes away – then the value of those bonds on the Fed’s BS currently will fall off a cliff – seems like Bullard is playing a dangerous game there.

        Liked by 1 person

  15. Tim – can you comment on the following

    Industry officials expect that Wall Street executive Craig Phillips – a member of the Trump administration’s “landing team” at the Treasury Department – could play a key role in reforming Fannie Mae and Freddie Mac.
    Phillips, managing director of financial markets/client solutions at BlackRock, is well known in MBS circles for his early days at First Boston and then at Morgan Stanley. He joined BlackRock in 2008, at the height of the financial crisis.
    He is expected to land a position at Treasury and work closely with Treasury Secretary nominee Steven Mnuchin, a former Goldman Sachs executive. Mnuchin is waiting on final confirmation from the full Senate.
    One former Fannie executive called it “promising” having Phillips at Treasury, saying both he and Mnuchin ran trading desks “and know MBS.” BlackRock was founded by another MBS veteran, Larry Fink, who continues to lead the Wall Street giant. ”

    thanks,

    Moose

    Liked by 1 person

    1. I don’t know Phillips, so really can’t comment on whether having him at Treasury would be a help or a hindrance in getting to what I believe is the right answer on mortgage reform. But experience and market knowledge favor the outcome I’d like to see, and he seems to have those.

      So many of the reform proposals that have been put forth by the special interests in the last several years don’t work because they’ve been put together backwards: they’ve started with the results these interests want to see (a more prominent role in the process, or more ability to control the flow of revenues that run through it), then tried to put together a mechanism that delivers them. But because the people making these proposals don’t have detailed experience with what it takes to make a mortgage credit guaranty system work successfully–and are having to force the outcomes they want– they invariably end up proposing mechanisms that have serious if not fatal flaws. Experienced and knowledgable people at Treasury will be able to detect these flaws–which will go a long way to guiding them to an outcome that works better for everyone.

      Liked by 2 people

      1. Great thank you again for everything.

        Lots of news today – you MAY know the subject of my next question:

        The White House is considering a top official at Fannie Mae to head the Consumer Financial Protection Bureau, according to two people familiar with the discussion.

        Brian Brooks currently serves as the mortgage financing giant’s general counsel and has close ties to Treasury Secretary nominee Steven Mnuchin. Brooks represented several of the investors in Mnuchin’s purchase of failed subprime mortgage lender IndyMac for $1.6 billion in 2009. The bank was renamed OneWest, and Brooks joined the company as vice chairman.

        He left the bank for Fannie Mae in 2014, shortly before OneWest was acquired by CIT Group.

        Thoughts on this move?

        http://www.cnbc.com/2017/02/09/cfpb-white-house-is-looking-at-fannie-mae-exec-as-boss.html

        Thank you yet again.

        Liked by 1 person

        1. I don’t know Brian Brooks either (and have to admit I didn’t even know he was Fannie Mae’s general counsel), and had no idea he had a connection to Mnuchin. But I also have to say that if I were an opponent of an administrative approach to mortgage reform built around Fannie and Freddie, I’d be getting at least a little bit nervous at this point.

          Liked by 2 people

    1. I was at Fannie when the Snow Treasury (and it wasn’t really Snow, it was his senior staff, with support from the Bush Justice Department) interpreted the language in Fannie and Freddie’s charters as giving them the legal ability to limit the companies’ debt issuances (our counsel disagreed with that interpretation). Back then, though, Fannie’s portfolio was close to $900 billion in size. Now it’s less than a third that amount ($272 billion as of the end of last year).

      In his article, Calabria says, “John Snow resigned before [the debt limitation] plan was implemented. Alas, his replacement, Hank Paulson, shelved Snow’s effort.” I’d have a different interpretation. Rather than following a legally questionable and very tricky path of administratively limiting Fannie and Freddie’s debt issues (which are a function not just of purchases but also of prepayments in the portfolio, which can be volatile and unpredictable), Paulson took a much more direct route to the same end: he took the companies over in 2008 (against their will) and simply mandated that they shrink their portfolios by 10 percent per year, since upped to 15 percent per year.

      Fannie and Freddie are on path to reach their mandated portfolio size maximums of $250 billion this year. Perhaps Calabria thinks the portfolios should shrink even further. But if so, why switch from a proven method (forcing them to shrink, by fiat) to a clumsier and legally more dubious one? Beats me.

      Calabria was one of the people who submitted an essay to the Urban Institute’s “Housing Finance Reform Incubator” series. In his essay, he argued that the secondary market did more harm than good (although to reach that conclusion he had to conflate the process and disastrous results of private-label securitization with Fannie and Freddie’s much more successful business process and track record), and that as a consequence we would be better off relying entirely on depository institutions for mortgage credit. Some (but not all) of the big banks think that would be a great idea, but I don’t think Mr. Mnuchin does, and I doubt Calabria’s views will have much influence on him.

      Liked by 2 people

      1. RE: Calabria’s blog post/the Snow plan: I find the blog confusing. Is he talking about the portfolio business only? Or is he talking about Fannie and Freddie’s MBS themselves? And what debt is he referencing, preferred stock? He makes statements such as: “The excess reserves in the commercial banking system alone could fund the entire mortgage market for at least a year or more.” Sorry if these are stupid questions…Thanks!

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        1. Without going back to reread Calabria’s piece (which I’d rather not do), since he started with a reference to the Snow Treasury proposal I would have to think he’s talking just about Fannie and Freddie’s debt–the general obligations of the companies–and not their MBS.

          The notion that Treasury could limit Fannie and Freddie’s debt issuances came from an aggressive interpretation of a provision in Fannie’s charter that says, “the corporation is authorized to set aside any mortgages held by it….and, upon approval of the Secretary of the Treasury, to issue and sell securities based on the mortgages so set aside.” For decades, that provision was interpreted as giving Treasury what both it and we (when I was at Fannie) referred to as “traffic cop” authority–making sure that our planned issuances of debt didn’t interfere with theirs. The Bush Treasury decided to interpret that provision differently, as the right to LIMIT our debt issuances. But, as Calabria noted, it never acted on that interpretation. And based on that history (which Calabria may or may not know), it would be very surprising if anyone thought Treasury had the statutory authority to limit Fannie or Freddie’s guarantees and issuance of mortgage-backed securities, which are not covered by the charter provision I cited.

          The last issue you raise, about banks’ excess reserves being enough to “fund the entire mortgage market for at least a year,” is true but not really relevant. Because of the Federal Reserve’s “quantitative easing” programs–in which it purchased huge quantities of securities in the open market (paying for them by crediting bank reserve accounts) to keep interest rates down–banks now have nearly $2 trillion in excess reserves. Calabria’s point seems to be that banks could use these reserves to buy more than a year’s worth of new fixed-rate mortgage originations. But why would they? Their short-term consumer deposits do not match up well with the 30-year final maturities of these loans, and if interest rates rise from here–which they more than likely will– a bank that funds current coupon mortgages with short-term deposits would see their interest spread erode over time, and at some point turn negative. Funding fixed-rate mortgages with short-term deposits was what caused the first thrift crisis, in the late 1970s. Perhaps Calabria is getting nostalgic for those “good old days,” and thinks we ought to give that “lend long-fund short” approach another go. No, thank you.

          Liked by 2 people

          1. Tim,

            I’m confused by your latest post. After the Fed, banks are the largest buyer of MBS (nearly $2 trillion). These MBS are also fixed-rate securities with 30-year maturities. And the banks fund them with short-term deposits. Aren’t we looking at the same disaster if rates go up?

            Any system that requires banks to take the interest rate risk of fixed-rate mortgages is an accident waiting to happen.

            Yet, based on your post, the $2 trillion in thirty-year fixed-rate Fannie/Freddie securities is not a problem?

            What am I missing.

            Thanks

            Like

          2. Let’s start with the actual numbers for residential mortgage holdings by the banking system (with data from the FDIC as of September 30, 2016, the latest available).

            As of that date, the total assets of U.S. commercial banks were $15.64 trillion. Of those, $3.67 trillion, or 23.5 percent, financed single-family residential mortgages. But it’s also instructive to break that total number down by type– whole loans (i.e., unsecuritized mortgages) and mortgage-backed securities– and by term–long-term fixed rate and short-term or adjustable rate.

            Banks held $2.16 trillion of their $3.67 trillion of mortgage-related assets as whole loans. Of those, $467.9 billion were either second mortgages or home equity lines of credit (which are short-term or adjustable-rate assets), while $640.9 trillion were adjustable-rate mortgages. Fixed-rate loans (most 30-year but some 15-year) made up the remaining $1,051.0 billion of banks’ whole mortgage assets.

            But banks also held $1.51 trillion of residential MBS on their balance sheets as of September 30, 2016. Nearly three quarters of those, $1,114.2 billion, were long-term fixed-rate MBS ($832.6 billion Fannie and Freddie, and $281.6 billion Ginnie), with the remaining $395.3 billion being shorter-term Fannie or Freddie CMOs or REMICs.

            So–bank to the bigger picture. Of the total $15.64 trillion in U.S. commercial bank assets as of September 30, 2017, $3.67 trillion were related to residential mortgages. Long-term fixed-rate obligations made up $2,165.2 billion of that total, and shorter-term or adjustable-rate mortgages accounted for the remaining $1,504.1 billion.

            Let’s give banks a pass on the $1.5 trillion in shorter-term or adjustable mortgages and MBS, assuming they’re reasonably well matched with banks’ funding sources, and focus on the nearly $2.2 trillion in long-term fixed-rate mortgage assets. Is that a systemic worry, given that almost all of these assets are funded short, and not hedged?

            I would say at this point probably not, because it’s still less than 15 percent of total bank assets. But for some individual banks, with larger fixed-rate mortgage concentrations, it could be. And given the $2.2 trillion in these loans already on bank balance sheets, adding substantially greater amounts of long-term fixed-rate mortgages and MBS to those balance sheets–as almost certainly would happen if secondary mortgage market credit guarantors were burdened with excessive and unnecessarily high capital requirements–definitely WOULD become a systemic problem.

            Like

      2. Tim,
        Calabria seems to be proponent of pre-depression era traditional originate-and-hold banking model funded by equity capital. Even financial establishment will not support his ideas.

        What are the Calabria’s ideas that may be useful anyway in the financial system?

        Like

      3. Hi Tim,

        If Fannie was to operate outside of Conservatorship, would it need short term support by the government, in terms of loss sharing or loans of some type, before being appropriately capitalized? Putting on your CFO hat, what options are available, if any are needed at all?

        Thanks so much for sharing your knowledge on this blog.

        Like

        1. No. Fannie and Freddie WILL need to quickly build a capital buffer to guard against volatility in their quarterly GAAP net income (indeed, I think that assuming Steve Mnuchin is confirmed, he should direct FHFA to allow them to start building that buffer now), but I don’t think they need to worry about not having enough capital to cover the next several years’ worth of credit losses. Given the pristine (many would say too pristine, from the standpoint of affordable housing) quality of the loans the companies have been acquiring in recent years, their net revenues will be more than enough to absorb any current-period credit losses they may have for quite some time; they won”t need to dip in to their capital to do that.

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          1. Treasury should allow Fannie and Freddie to build a buffer against accounting volatility as soon as possible (ideally by cancelling the companies’ net worth sweep payments scheduled to be made in March). Once a decision has been made to do so, getting them recapitalized to where they fully meet their new and higher post-conservatorship capital requirements would likely take a few years (although I would hope no more than three).

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          2. Tim,
            You have brought to fore so many very valid points only few can even think of.
            FnF have pristine quality of the loans hence expect minimal credit losses. FnF have guaranteed future net positive revenues/cashflows. So FnF can operate with minimal capital and build their capital gradually if FnF are defacto denationalized.

            However opponents are not going give up so easily. Opponents are working very hard to create public opinion that it is almost impossible to restore FnF as private companies. These opponents had used all the monkey tricks to make sure that FnF will never recover from the highly toxic therapy they had administered. But FnF model is so resilient that toxic therapy made them even stronger.

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          3. I agree with you on building the buffer as a priority. I think that could be the quickest change we see in weeks to come.

            Like

  16. Tim, I apologize if this question has already been asked, but I came across an article on yahoo news today that mentioned that Chuck Cooper is in line to be nominated for solicitor general. That would mean the lead lawyer for the plaintiffs in Fairholme v US would become the lead lawyer for the defendants correct? Assuming he’s confirmed, I’d say this is a rather positive development!

    Thanks in advance for your thoughts!

    Like

    1. Not quite. If confirmed as Attorney General, Senator Jeff Sessions would become “lead lawyer” for the defendants. Chuck Cooper, if nominated and confirmed as Solicitor General, would represent the United States before the Supreme Court in cases involving it. Unless settled beforehand, the suits against Treasury and FHFA would eventually end up with the Supreme Court, but if Cooper is Solicitor General he would recuse himself from any case in which he has a prior history. The net worth sweep litigation certainly qualifies in that regard, so Cooper would have no involvement with it.

      Like

      1. Tim,
        It would be refreshing and nice to have people like Jeff and Chuck who support rule of law and who understand the confounding complexities that have been created by the proxy conservatorship.

        People like Jeff and Chuck are good for FnF shareholders, the only ones who are fighting for fair treatment and justice through rule of law while the other side is using only catch phrases and hiding behind secrecy.

        Like

  17. Tim – I noticed you deleted my post, which is fine. Just curious if what I proposed could work in your opinion. I understand of course that it’s hypothetical.

    Like

    1. You ran into one of my internal rules, which is that I don’t comment on specific hypothetical proposals for recapitalizing Fannie and Freddie. I have not offered, and do not intend to offer, advice to the plaintiffs on how they should settle their suits and recapitalize the companies. Commenting on specific proposals publicly on this blog comes too close to offering advice, and I’m staying away from it. (I’m happy to advise–and have done so–on what Fannie and Freddie should look like and how they should operate post-conservatorship, but the “how do we get there” I’ll leave to those who have the restructuring expertise and the most skin in the game.)

      Like

    1. If there is tax reform that lowers the corporate tax rate going forward, the value of both Fannie’s and Freddie’s deferred tax assets (DTAs) will need to be written down (by an amount I expect both companies to disclose when they put out their 2016 10Ks shortly), because, in retrospect, they will have paid some of their taxes in cash to the IRS at “too high” a rate, before they were eligible to be booked on their financial statements.

      This is an issue negotiators will need to anticipate in any recapitalization plan they draw up. There will be an initial capital deficit created when the write-down of the DTAs occurs (again, assuming tax reform passes that lowers the corporate tax rate, which is not a certainty), but then their retained earnings will be higher going forward, because for a given level of pre-tax earnings more will be retained due to the lower corporate tax rate. These higher retained earnings, eventually, will more than pay for the DTA write-downs taken up front. In the short run, though, it’s a timing issue, which will need to be addressed and accounted for in any recap plan.

      Liked by 1 person

  18. Good Morning, Mr Howard.
    I want to know your opinion about loan loss reserves of Fannie Mae and Freddie Mac.

    Example with Freddie Mac

    Reserve as % of Total Mortgage Portfolio Q4 2006 37 Million
    http://www.freddiemac.com/investors/er/pdf/supplement_031109.pdf
    pg # 6

    Delinquencies Dec 2006 0.53%
    http://www.freddiemac.com/investors/volsum/pdf/0107mvs.pdf

    However

    Loan Loss Reserves (Period End Balances) Q4 2013 24.7 billion
    http://www.freddiemac.com/investors/er/pdf/supplement_4q13.pdf
    pg # 10

    Delinquencies Dec 2013 2.39 %
    http://www.freddiemac.com/investors/volsum/pdf/1214mvs.pdf

    There is a higher capital requirement (~ 22 billion more)

    do you think the capital requirement needs to be relocated ? updated ?

    Thanks in advance.

    Regards

    Kurt Godel

    Like

    1. Kurt: You have wandered into the surreal world of regulatory capital. Economically, capital is supposed provide protection against losses. Loan loss reserves are funded with net income, and are on the balance sheet to absorb credit losses. Therefore, loan loss reserves should count toward Fannie and Freddie’s capital requirements. Except they don’t. The company’s regulatory capital requirements are defined separately from, and independent of, the size of their loss reserve. I’ve always thought that was bizarre, but that’s how regulatory capital is defined in the companies’ charters. (And it is, by the way, how Treasury and FHFA were able to create book losses at the companies between 2008 and 2011: they funded huge increases in their loss reserves with loss provisions that ran through the income statement–and resulted in book losses which reduced capital–but the consequent increase in loss reserves wasn’t considered to be capital, so Fannie and Freddie had to take draws of senior preferred stock to offset, on a dollar-for-dollar basis, the higher loss reserves.)

      Liked by 1 person

      1. tim

        i didnt realize that the 2008 creation of noncash reserves by creating noneconomic losses had the effect of reducing capital. no money went out the door. thanks for all of the 411.

        rolg

        Like

      2. Dear Tim, do loan loss reserves count as capital for normal banks? As you said, capital is there to provide protection against potential future losses. And loan loss reserves do exactly that. How difficult would it be to simply change the definition of capital requirements to include the loan loss reserves? An act of Congress or a pen in the hand of the Secretary of Treasury?

        Liked by 1 person

        1. Large banks are subject to Basel III capital regulations, which– as befits these banks’ broad asset powers and complex operations–are quite detailed (and in many cases somewhat arbitrary). The most significant component of required large bank capital is called “Tier I” capital, and does not include loss reserves. But banks also have a much smaller supplemental capital requirement (typically around 10 percent of total capital), called “Tier II”, that includes “qualifying” amounts of both long-term debt and general loss reserves.

          To include loss reserves in Fannie and Freddie’s regulatory capital structure would require a change in their charters, which in turn would require an act of Congress.

          Liked by 1 person

  19. The scenario where Jr. Pref’s are converted to Common shares is interesting. Any insights into how the following questions would likely be answered would be appreciated.
    1. How do you value the Jr. Preferred shares? (I assume shareholders would settle for nothing less than Par Value or higher)
    2. What price would you use for the Commons to determine the share conversion ratio? (my hope is that the conversion ratio for the Preferreds would be based upon the price of the Commons on a pre-announced and pre-set date in the future well AFTER the plan has been published and digested by the markets. This would allow for the Common shares to have the Recapitalization plan priced into the shares.

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    1. This is not my area of expertise, but I assume holders of junior preferred would be given the option to convert their shares, rather than there being a forced conversion. It would be up to the companies (or more likely, those who are negotiating a settlement of the outstanding lawsuits relating to them) to design terms of conversion that make it attractive for the majority of junior preferred holders.

      The problem the junior preferred holders have now is that their dividends are noncumulative (meaning if they are not paid they don’t accrue, they’re simply foregone), and they don’t know whether, or when, those dividends will be turned back on (nor even if their investment will be repaid at par, should the companies go through receivership). There will be some terms of conversion to common stock, therefore, that a majority of junior preferred shareholders will find attractive to remove the uncertainties that now exist about the value of their preferred shares. Negotiators will have to find those terms (which I wouldn’t try to guess at) if their intent is to have most of the preferred convert.

      Liked by 1 person

  20. tim

    just very simplistically, if fnma has $10B of net income and deserves a 15PE (as i think it does, given its moat characteristics), then that $150B equity value must be netted against $19B of junior preferred (let’s ignore the senior preferred on assumption that NWS is rolled back and is fully paid off by recharacterizing dividends), leaving $131B equity value…divided by 5B common fully diluted leaves you $26 per share. my only point is that the $19B junior pref is a hard number and cant be ignored…and if it is converted at less than $26 per share into common, then it is both hard and dilutive.

    Like

    1. ROLG

      If you convert the Jr Pfd then that $19b becomes common equity and delivers the balance sheet. You don’t subtract from total equity but it is dilutive since you are adding more common shares. I think you are confusing total market value with total capital on the balance sheet.

      Like

    2. ROLG–The concept of “equity value” as you define it here (net income times P/E) is one I’ve not heard before, but it’s not valid for equity valuation. Investors frequently speak of market capitalization (or “market cap”)—which is shares of equity outstanding times the stock price—and of course there is core capital, which is the balance sheet measure (essentially assets less liabilities). Fannie and Freddie’s capital requirements will be defined in terms of regulatory capital—core capital less “accumulated other comprehensive income” (also a balance sheet item)—and it is this measure that will determine how much capital they have to raise, post-release from conservatorship.

      Once they raise that equity, in whatever amount is required, each company will have a new (and higher) number of shares of equity outstanding. THAT number of shares, together with each company’s earnings, will determine their earnings per share (EPS). Investors implicitly attach a multiple of EPS—called the price-earnings ratio—to arrive at the price at which they value a stock. As important as P/E is to determining a company’s stock price, nobody has a workable theory for what determines it. Typically, however, the P/E’s of financial companies are significantly less than the average P/E of the S&P 500, and Fannie and Freddie (because of their political risk) generally have had P/E’s less than the average large bank.

      But note that nowhere in these “building blocks” for a company’s stock price does the dollar amount of their junior preferred stock play any direct role. (It plays an indirect role, by substituting for common equity and therefore reducing the number of shares of stock that otherwise would be outstanding.) If preferred is converted into common, the terms of that conversion—how many shares of common for a dollar in face value of preferred—also will affect shares outstanding, and therefore the stock price. But whether preferred IS converted to common, and if so the terms of that conversion, is one of the many, many unknown aspects of the recapitalization process, all of which taken together make it very hard (and in my view fruitless) to speculate on how this will all play out.

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  21. Tim,

    1) Do you think settlement eliminates warrants or changes wording to “shares outstanding at time of issue”?

    2) what do you think “normalized” credit loss is for Fannie (in basis points)?

    3) As a short cut to risk adjusted capital requirements does it make sense to simply take a multiple of the normalized losses?

    Thanks.

    Like

    1. For (1), I don’t want to try to speculate about how the negotiators might handle the warrants in a settlement.

      For (2), based on their risk characteristics, I would estimate that the normalized credit loss rate for the loans Fannie and Freddie have put on since 2009 will be less than 4 basis point per year, and for most acquisition years not exceed 50 basis points (as a percentage of their original cohort size) over their lifetimes.

      For (3), no–normalized credit losses are not the basis for a risk-based capital requirement (although they influence it). Risk-based capital requirements are based on a defined “worst-case” loss scenario for groups of loans by product type and risk category. Those worst-case loss amounts typically will be a large multiple of the normalized lifetime loss rate.

      Like

      1. on the warrant question.

        1. why would mnuchin cut back on warrants in any settlement with plaintiffs if plaintiffs are not seeking to invalidate warrants?

        2. the answer to 1 above is if mnuchin thinks it is in the treasury’s interest to do so.

        mnuchin is a finance guy. he knows that an 80% position with no exercise price makes it very difficult to raise capital, and if so, then it is difficult for treasury’s warrants to gain value. this is one of those strange cases where a 40% warrant position may prove more valuable than an 80% warrant position (or 80% with a substantial exercise price more valuable than without an exercise price).

        so, mnuchin could retroactively revoke NWS on his own motion, and ignore plaintiffs thereafter, since their claim has been satisfied. but the next step of making the GSEs safe for public consumption would still need to be done.

        rolg

        Liked by 1 person

      1. May I ask if you yourself own preferreds or commons? I understand if my post doesn’t make the cut as this is hard. Curious though.

        Like

        1. I own both common and preferred shares of Fannie Mae (but no shares of Freddie). As I discussed in the second post I did on this site (Some Context, and the Coming Bailout Charade), I had shares of Fannie common–acquired as compensation–when I left the company at the end of 2004. I sold about half of my and my family’s shares for cash during the first half of 2007, then stopped selling and rode the rest down to under a dollar post-conservatorship. In August of 2009, to diversify my Fannie exposure, I sold half of my common shares and used the proceeds to buy preferred (the Series N, which was the last one I issued as CFO). I have made no transactions in Fannie shares since that time.

          I am in the opposite position of most of the investors reading this blog, who, as far as I can tell, made investments in Fannie shares post-2008 at very low prices and are hoping to see sizable appreciation on their investment. I have an embarrassingly high basis in my Fannie Mae common, and if everything turns out swimmingly might get some of that back. The 2009 swap into preferred, on the other hand, is looking to have been a pretty good decision.

          Liked by 1 person

          1. Commons to $75.00 and you may make some money with a paltry return on your cost basis (it’s been 8 years and counting) .

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  22. “an exercise price of one one-thousandth of one cent ”

    0.001 pps For 79.9% of profitable and credit worthy companies!

    How is that not self dealing [or fraud] by the government for stocks that were trading at a 52 week low August 2008 for –

    “By Catherine Clifford, CNNMoney.com staff writer
    Last Updated: July 7, 2008: 6:36 PM EDT”

    “Shares of Fannie Mae (FNM, Fortune 500) fell more than 16% to $15.74. The stock set a new 52-week low of $14.65 earlier during the day. Freddie Mac (FRE, Fortune 500) plunged nearly 18% to $11.91. It also hit a new 52-week low of $10.28 a share before recovering slightly at the end of the trading session.”

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  23. “”The realtors aren’t screaming, the mortgage bankers aren’t screaming, no one has a problem,” said Christopher Whalen, the head of research at Kroll Bond Rating Agency.”

    Comments:
    This statement shows complete lack of understanding of FnF conservatorship. There are multitude of stakeholders like investors, taxpayers, home buyers, lawmakers, FHFA conservator .. that are screaming about status quo.

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  24. Tim – perhaps you’ve commented on this before and I missed it. What is your view of Ackman’s proposal and given Mnuchin’s comments, do you see this as a viable option with high probability? Much of his plan makes a lot of sense, but the recap period is so long that it doesn’t seem to match with Mnuchin comments. Also, how reasonable do you think it is that gov extends a line of credit without any implicit/explicit guarantee, reinstates divs to drive up pps allowing for a faster recap?

    Like

    1. If there are settlement talks (as I believe there will be), I am confident that plaintiffs will not propose that Fannie and Freddie be recapitalized solely through retained earnings, largely for the reason you note: it would take too long to reach full capitalization. There will need to be capital raises (and probably conversion–whether optional or mandatory–of the junior preferred to common). There also will need to be some changes to the current rights of Treasury as holder of warrants for 79.9 percent of the common stock of the companies, if for no other reason than as they now stand Treasury would get warrants (equal to its remaining unexercised percentage of outstanding shares) on any NEW shares of equity issued by Fannie and Freddie, which is a deal-killer.

      Beyond that, I’m sticking with my posture of not speculating on paths to get to a resolution where Fannie and Freddie end up “reformed, released and recapitalized” in a manner that leaves them in a position to successfully carry out the mission for which they originally were chartered, on terms that are accessible and affordable to a broad range of potential homebuyers. There are many ways to get there, and the people who will be negotiating this are well equipped to find the best one. They don’t need my advice, nor do I wish to try to handicap what they might do.

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      1. Hi Tim, can you please explain or rephrase this , because of my poor English I don’t get the meaning:

        “There also will need to be some changes to the current rights of Treasury as holder of warrants for 79.9 percent of the common stock of the companies, if for no other reason than as they now stand Treasury would get warrants (equal to its remaining unexercised percentage of outstanding shares) on any NEW shares of equity issued by Fannie and Freddie, which is a deal-killer.”

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        1. I wrote that response too quickly (and it’s also a very complicated issue).

          In September 2008, Treasury granted itself 79.9 percent of the outstanding shares of the common stock of both Fannie and Freddie as a component of its purported “rescue” of them. Treasury’s action, however, was not a rescue; it was a takeover of two companies it historically had opposed, done for ideological and policy reasons. When Treasury granted itself these warrants, it had no intention of ever exercising them; its purpose was to reduce the stock prices of both Fannie and Freddie by a factor of five (since Treasury instantly gave itself the right to four-fifths of the companies’ earnings in perpetuity), in order to contribute to the sense that they were in financial free-fall (which they were not). Treasury’s intention at the time it took the companies over was ultimately to liquidate them, and to allow the warrants to expire worthless.

          But Treasury, and its allies, never could come up with an alternative to Fannie and Freddie that worked as well as they did, and that Congress was willing to take a gamble on and legislate. So here we are, nine years later: the warrants still are outstanding, and Treasury Secretary-designate Mnuchin is talking about reforming Fannie and Freddie and bringing them out of conservatorship. And the warrants have become a complication.

          The term sheet for the warrants says they may be exercised “in whole or in part, at any time during the exercise period [which runs through September 7, 2028]”…and that the warrants entitle Treasury to 79.9 percent of the outstanding shares of Fannie and Freddie not as of the date the warrants were granted (September 7, 2008), but “on the date of EXERCISE,” which could be any time up to September 2028.

          When Treasury granted itself the warrants back in 2008, it never contemplated that the companies might issue new shares of equity to recapitalize (because it intended to kill them). But now that they might, that 2008 warrant language definitely is a problem. Unless Treasury exercises all of its warrants immediately–which would cause massive dilution and create a nearly insurmountable hurdle to reforming them and bringing them out of conservatorship–whatever percentage of its warrants for Fannie and Freddie’s “outstanding common shares” remains unexercised when they do their equity issues to recapitalize will, by the language of the 2008 Senior Preferred Stock Agreement, have to be turned into NEW shares for Treasury, for which it will pay an exercise price of one one-thousandth of one cent (meaning Fannie and Freddie will get negligible proceeds from this equity).

          THAT is what I called the “deal-killer.” As long as the 2008 language governing the exercise of the warrants remains in force, the companies will not be able to recapitalize. That language never was intended to apply to companies that were going to recapitalize and come out of conservatorship. Now that this prospect is on the table, the language relating to the warrant exercises–along with other aspects of them–clearly has to be in play for alteration, amendment or cancellation.

          I hope that makes this more understandable (as I said, it IS a complicated issue).

          Liked by 4 people

          1. tim

            nice close reading of warrants. had no idea that was there. not your typical anti-dilution provision, to say the least.

            i think delaware general corporate law upholds freedom of contract, but there is plenty of law regarding corporate waste. one wonders whether this provision could be attacked as an undue burden on issuer’s ability to finance. and if so, then there is the next step of invalidating the initial warrant issuance, for lack of severability.

            oops, i may have unleashed the warrant attack hounds.

            rolg

            Liked by 1 person

          2. Tim – I don’t quite get your point about the warrants language being the “deal killer”. All the Gov has to do is exercise the warrants first. And then do the fundraising, it seems, essentially diluting their new holding during the process. The language doesn’t force the Gov to wait till 2028 to exercise. What am I missing? (Of course it dilutes the current common shareholders, but does’t seem to preclude fundraising to recap?)

            Like

          3. I’ll give you my response just with respect to Fannie (makes the numbers easier to understand).

            Today you have a company with about $11 billion in annual earnings, 1.15 billion shares outstanding, and essentially no capital. Let’s say Fannie needed to raise $60 billion to meet its new capital standards (not a prediction, just an example). Let’s further say that it has three years to get fully capitalized. It can get halfway there (assuming no growth in its outstanding MBS) through retained earnings, but still will need to raise about $30 billion in new equity. Factoring in dilution, let’s now assume it’s able to issue 400 million new shares at an average price of $75 per share. So now you have a fully capitalized company with $11 billion in earnings, 1.55 billion in outstanding shares, and annual EPS of $7.10 per share. At a P/E of 10:1 that’s about a $70 stock (at a P/E of 12 it’s about an $85 stock).

            If Treasury exercises all of its warrants immediately, Fannie still has no capital, still has to raise $30 billion in the equity market, but now has 5.7 billion shares outstanding. Figuring the dilution that would result from Treasury selling its shares and the market anticipating the impact of mammoth capital raises is tricky, but at an average price of $15 per share Fannie would need to sell 2 billion shares of new stock to become fully capitalized. That’s a huge amount to raise in three years, and assuming you could do it, you’d end up with a company earning $11 billion per year, 7.7 million shares outstanding, an EPS of $1.43, and a stock price of about $14 at a 10 P/E ($17 at a 12 P/e).

            If I’m a plaintiff, an end state that has a $14 stock versus one with a $70 dollar stock is a huge deal. I would be inclined not to settle without significant alteration of the terms of the warrants, and if I couldn’t get the terms I wanted, I would offer to fund the Washington Federal lawsuit to its conclusion, to get the warrants eliminated entirely.

            That why, for me, the unaltered warrant terms are a “deal-killer.” Since Treasury did nothing to earn those warrants–it simply gave them to itself because it could–I would not accept a deal that left them unaltered (and cost me close to $55 per share on the value of the company I want to bring out of conservatorship). But we’ll see what the real plaintiffs do.

            Liked by 4 people

          4. ROLG,
            You have made a great point.
            You have unleashed the warrant attack hounds

            Freedom of contract:
            Freedom of contract is the freedom of private or public individuals and groups (of any legal entity) to form contracts without government restrictions. This is opposed to government restrictions such as minimum wage, competition law, or price fixing.

            What is the contract clause?
            The clause is found in Article I of the United States Constitution. Generally speaking, this clause was added to the Constitution in order to prohibit states from interfering with private contracts. The clause states that, ‘No State shall…pass any…Law impairing the Obligation of Contracts…’

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          5. tim

            “So now you have a fully capitalized company with $11 billion in earnings, 1.55 billion in outstanding shares, and annual EPS of $7.10 per share. At a P/E of 10:1 that’s about a $70 stock (at a P/E of 12 it’s about an $85 stock).

            if your valuation analysis, you are ignoring $19B of junior pref, plus some amount of senior pref that would need to be retired.

            rolg

            Liked by 1 person

          6. I AM ignoring the remaining senior preferred– although the longer it takes for a settlement to take effect the smaller the residual amount of senior preferred will be (since it shrinks each quarter by close to the amount of each company’s net income).

            I’m not ignoring the junior preferred, however; I’m assuming that it either has its dividend reinstated or is swapped, in whole or in part, for common (though I haven’t accounted for dividends on the outstanding junior preferred once they are reinstated, which will reduce Fannie’s retained earnings).

            As of the third quarter of 2016, Fannie had $19.1 billion of junior preferred on its balance sheet, but it also had an “accumulated deficit” of $126.3 billion. One way to think about the capital raise is that you need $19.1 billion in new equity to offset an equal amount of that accumulated deficit (reversal of the net worth sweep will offset the large majority of it) thereby allowing the junior preferred stock to again become a contributing part of the company’s capital structure. If Fannie chooses to pay off the junior preferred, however, then its equity raise would be increased by the $19.1 billion required to replace it.

            I started off this exercise with an example (not a prediction) of a $60 billion capital goal, just to get a relative sense of the difference it would make in required share issuance if Treasury exercised the warrants versus cancelled them. But perhaps this was too simplistic; I may do a more realistic, and detailed analysis in the next few days, and see if that sheds additional light on the issue.

            Liked by 1 person

      2. Tim – there has been a lot of speculation about whether or not the Junior Preferred’s will be converted to Common shares. On one hand this makes complete sense to me as it eliminates any conflict of interest that might exist between the Common and Preferred shareholders in the settlement. That said, I don’t understand how a conversion of these shares would help with the recapitalization. Can you explain this? Thank you.

        Liked by 1 person

          1. Do the juniors even need to be addressed? In some form of a recap scenario, something similar to what you’ve outlined above, where they bridge at least part of the gap through their RE…why not just let the pfds continue to do their time on the B/S? Obviously the divvys have been shut off and are non-cum, so I’m failing to see the need to have them either bought out or converted. Personally, I’d welcome a conversion, just not sure how the appetite gets there. I can also understand the likes of Berkowitz wanting to get paid for the risk he’s taken, but if these two indeed survive, the market will take care of the pps for him. On the other hand, if the dividends continue to be suspended indefinitely, they likely wouldn’t trade at par either. Am I missing something? Thanks in advance for your imput.

            Liked by 1 person

          2. Always appreciate that you take the time to respond. Thank you Tim. What I don’t understand is why would they need to pay off the Preferred shares at all? Why not just re-instate the Dividends? Which brings up a question I’ve often wondered about, what is the total annual Dividend obligation of the Preferred shares if they were re-instated?

            Liked by 1 person

          3. Let me try to (briefly) respond to both of these questions.

            I’m not expressing a point of view as to what will happen with the junior preferreds; assuming there is a settlement, that will be determined by the negotiators, who will look at everything together (including the plan for, and pace of, recapitalization). The issue with leaving the junior preferreds on the balance sheet is under what circumstances do their dividends get turned back on, and will that be satisfactory to the plaintiffs? That will be their call.

            As to the annual dividend obligation, for Fannie it’s about $1.25 billion per year, with some potential for variation because some of the preferreds are floaters. (I haven’t calculated Freddie’s annual junior preferred dividend payments, but $900 million would be a pretty good guess, based on the distribution of the issue volumes and their dividend percentages.)

            Liked by 1 person

        1. “If I’m a plaintiff, an end state that has a $14 stock versus one with a $70 dollar stock is a huge deal. I would be inclined not to settle without significant alteration of the terms of the warrants, and if I couldn’t get the terms I wanted, I would offer to fund the Washington Federal lawsuit to its conclusion, to get the warrants eliminated entirely.”

          Tim – that’s a great point. But which plaintiff are you referring to? The Preferred plaintiffs are only pursuing the Preferred and the only common plaintiff I know of is only suing for the stoppage of the NWS as far as I can tell? So then, as unfair as it is, who is going to stop the Gov from exercising the warrants and then fundraising from 5b shares/no warrants?

          Liked by 1 person

          1. I don’t want to comment on or attempt to characterize the positions of any specific plaintiff or plaintiffs. But as I’ve mentioned in earlier responses, the way to challenge the warrants is to carve the Washington Federal lawsuit out of any global settlement, and have one or more of the “deep pocket” net worth sweep plaintiffs agree to fund that suit through adjudication or settlement.

            Liked by 3 people

  25. Tim, are you able to clarify the form that the support payments from Treasury to the GSEs took? There is plenty of speculation in the online shareholder community and some if it is pretty wild- I’ve read that there were no actual transfers, and also that the transfers were in the form of crap mortgages (?!). Any light you could shed would be helpful. Thanks in advance; please keep up the good work!

    Liked by 1 person

    1. Yes; it’s not hard (but unfortunately, most of the “online shareholder community” who speculate about these things don’t know how to find the answers in the companies’ financial statements). The payments from Treasury were real–for Fannie, they show up in the statements of cash flows as “Proceeds from senior preferred stock purchase agreement with Treasury.” From 2008 through 2011 they’re all there; no wild speculation needed (or warranted). What did Fannie (and Freddie) do with these payments? They just used them to pay down debt. They never had any liquidity or cash flow problems throughout that period.

      Liked by 1 person

  26. Tim – As per your excellent book, it seems the GSEs have been through the risk-based capital exercise in 1990 with Volcker agreeing to “250 basis points of capital for on-balance sheet mortgages and 50 basis points for MBS guarantees.” Is it much different from what you envision sufficient capital needed today for what is now mostly MBS business?

    Liked by 1 person

    1. The capitalization exercise we went through with Paul Volcker in 1989 and 1990 had both a risk-based component (which took the longest amount of time to devise) and a minimum capital amount (added at the end, after we completed the risk-based portion–and which were the ratios you cite).

      I think the process the government and FHFA should go though to update Fannie and Freddie’s capital standard in 2017 should be very similar to what we did almost three decades earlier (and make no mistake, while it was Fannie’s project, Volcker was the one who determined what had to be done in order for him to sign off on it), although the result will be different.

      For mortgage credit risk, Volcker first had to get comfortable with a stress standard: some historical-based scenario that, were we to have sufficient capital to survive it, the risk of loss to the taxpayer would be, in his words, “remote.” After failing to find reliable default and loss severity data from the Great Depression, we ended up looking at severe loss experience in regions or states, over fairly short periods of time. Volcker finally settled on what we called the “Texas stress test”: for our credit risk, we would need to have a combination of initial capital, plus guaranty fees net of expenses over the life of the stress test, in which all of our mortgages–from all areas of the country and from all years– experienced credit losses equal to what we’d experienced on loans originated in 1981 and 1982 in Texas (which had been subjected to the collapse in the oil industry in the mid-1980s). As I’m recommending today, we set these risk-based standards by product type and risk category. Then, after we were done, and had been able to apply these standards (by product and risk category) to our current mix of business, Volcker insisted on adding a minimum of 50 basis points (trimmed to 45 basis points in the Senate before the final 1992 capital legislation was passed), so that no matter how little credit risk we took our credit-risk capital never could fall below 50 basis points.

      I believe this combined risk-based and minimum “Volcker standard” for mortgage credit risk still would be good today had we not had our disastrous experiment with product and process deregulation beginning around 2000. With the Fed declining to regulate subprime lending to any significant degree, and both the Fed and the Treasury advocating successfully for both legal and regulatory changes to make private-label securitization (PLS) more competitive with Fannie and Freddie securitization, PLS finally reached a position where it became the dominant means of financing mortgages in 2004. When that happened underwriting standards collapsed (nobody was regulating them, and all of the participants in the private-label “originate to sell” chain could make money on loans that never were repaid) and the resulting torrent of freely-available credit gave rise to an unprecedented housing boom and bust that was unimaginable at the time Volcker signed off of the Texas stress test.

      But–it happened, so now we have to update our standards to incorporate the reality of that collapse. This is what was mandated in HERA, and it’s what FHFA should have done a long time ago. They have to pick a new stress standard–a 25 percent nationwide decline in home prices is currently incorporated in the Dodd-Frank “severely adverse stress test” for banks, and I think it’s also the right stress for Fannie and Freddie–and also do an exercise comparable to what we did in 1989 and 1990, to calculate capital percentages by product and risk category required to survive that stress. I have suggested that in addition to these risk-based capital numbers, FHFA also set a minimum amount of credit risk capital for the companies, as Volcker did earlier. Instead of 50 basis points, however, it seems to me (based on my analysis of Fannie’s 2008-2011 post-crisis credit losses) that 200 basis points would be a more appropriate minimum.

      You also asked about a capital standard for interest rate risk. To keep this response at a (semi-) manageable length, I won’t say much about that other than that both the stress standard (a severe one-year interest rate “shock,” sustained for an additional four years) and the minimum capital ratio (250 basis points) we devised with Volcker in 1989-1990 still seem reasonable to me.

      Liked by 1 person

      1. Tim,
        What is your view on including dynamic market conditions like housing availability, prices and speculation etc in regulating the credit availability. If these parameters were to be included in regulations then it could have prevented 2008 crisis and FnF takeover/conservatorship.

        Like

    1. No, there is no legal limit on the percentage of preferred stock Fannie or Freddie could have. There do, however, seem to be practical limits.

      The vast majority of preferred stock outstanding is issued by financial institutions–mainly the larger banks. My recollection from when I was at Fannie was that a typical large bank had about 10 percent of their core capital in preferred stock. I checked Citi and JP Morgan Chase for the end of 2015 (their 2016 10Ks aren’t out yet), and both were very close to that percentage (Citi a little below, JPM Chase a little above) so that may still be a good rule of thumb.

      I also remember thinking, when I was Fannie’s CFO, that 15 percent was as high as we should go. In my last year there our preferred stock percentage got to 12 percent, and our intent was to try to hold it there. After I left, however, the preferred percentage skyrocketed, ultimately reaching 46 percent in the second quarter of 2008. This obviously didn’t turn out very well, and I suspect that experience with Fannie (and Freddie) preferred may make it a tougher sell to investors in the future.

      Liked by 1 person

  27. Tim,

    Today I read where…..Fannie Mae (OTC Bulletin Board: FNMA) today announced that its request to delist its Benchmark Notes(R) and Benchmark Bonds(R) from the Luxembourg Stock Exchange was granted on February 2, 2017. The Benchmark Notes and Benchmark Bonds (listed below by CUSIP) with be delisted from the official list of the Luxembourg Stock Exchange and withdrawn from trading on the Euro MTF market of the Luxembourg Stock Exchange effective March 31, 2017.

    I understand they are GSE debt, but why would Benchmark Notes and Benchmark Bonds be delisted? More importantly, is this good, bad or indifferent to the GSEs in general and/or FNMA shareholders?

    Thanks for any help with this – in layman’s terms.

    Liked by 1 person

    1. Benchmark Notes and Bonds aren’t being delisted in general, just (apparently) on the Luxembourg Stock Exchange. And I don’t know the reason why that occurred (yesterday). If I find out I’ll update this answer, but I’d say at this point that it’s most likely to be an event to which Fannie shareholders should be indifferent.

      Liked by 1 person

      1. Tim,

        Thanks for your quick reply. Your answer is sort of what I thought, but – with way the GSEs and their shareholders have been jerked around for so long – I thought it best to leave no stone, no matter the size, unturned.

        Liked by 1 person

      2. Tim,
        There was Anonymous message some time back related to similar delisting.
        Below is the post.

        Tim,

        Do you see any significance in Delisting CAS and STACR from EU exchanges quoting difficulty of complying with European Union regulations designed to prohibit insider trading.

        ——————————-

        Fannie Joins Freddie in Delisting Debt from Irish Stock Exchange

        http://www.nationalmortgagenews.com/news/secondary/fannie-joins-freddie-in-delisting-debt-from-irish-stock-exchange-1092383-1.html

        Like

    1. Yep. Gary Cohn confirmed what many of us thought to be the case. His comments were, “GSE reform is definitely on our agenda. Treasury Secretary designee Steven Mnuchin has spent a lot of time working of that. Once he gets approved and confirmed Steve will be taking that on as one of his early priorities. We definitely have some plans to work on that, and hopefully he gets approved as soon as possible.”

      The key phrases here are that Mnuchin already “has spent a lot of time working on that,” and that it continues to be “one of his early priorities.” This is consistent with what I’ve been saying in my last few posts.

      Liked by 2 people

  28. Tim,

    I enjoy reading your posts and have learned much from our discussions.

    I agree that you have substantively added to the debate. Thank you for that.

    Congrats on a great first year.

    Liked by 1 person

  29. Tim, I have wanted to ask this question for a long time.

    Since FnF make good money, many other financial companies naturally want a share of their business. Why can the Congress not allow the big banks to create entities like the GSEs to compete with FnF?

    Thank you.

    Liked by 1 person

    1. The story is a little more complicated than just “banks wanting a share of the ‘good money’ Fannie and Freddie make.”

      Let me focus now just on Fannie. Before I left there (in 2004) we did an exercise for our investors comparing the total revenues available to all participants in the mortgage finance industry (over $200 billion) with the revenues, before expenses, that came to Fannie Mae, which back then were around $8 billion. As big as we were, we received only 4 percent of available industry revenues. Why so little? Because we weren’t in the areas where the huge revenues were– origination and, to a lesser extent, servicing–and we also gave up a lot of our gross revenues through risk-sharing (principally front-end primary mortgage insurance and extensive hedging of our mortgage portfolio). With Fannie and Freddie phasing out their portfolio businesses– which were their big money makers in the early 2000s–even with much higher guaranty fees now than then, it’s a virtual certainty that Fannie earns less than 4 percent of available industry revenues today. The U.S. banking industry will pull in over $700 billion in net revenues this year; all of Fannie and Freddie’s single-family guaranty fees won’t reach $20 billion.

      The big banks’ fight to “rein in” Fannie and Freddie was never about the dollars they earned–they operate on a wholesale basis, with very thin margins compared with what banks earn–it was about the fact that their dominant position in the secondary market affected how much banks could charge in the primary market. And that’s still what the fight is about.

      With that as background, I do not support Congress allowing “the big banks to create entities like the GSEs to compete with FnF,” primarily for reasons having to do with these same relative revenue flows. I think it’s a good thing for the financial system to have independent, specialized companies like Fannie and Freddie, limited to the residential mortgage business and with their own capital at risk, acting as a governor of the credit risk that can enter the system. (We lost that, you might recall, when unregulated private-label securitization became the dominant form of mortgage finance in 2004, and took over the underwriting standard-setting role from Fannie and Freddie.) If banks were allowed to own affiliated credit guarantors, it would be very tempting for their loan production people (or, more likely, senior bank officials) to cajole their risk managers into relaxing underwriting standards a little, then a little more, then a little more, to keep the origination and servicing engines humming. And that would not be a good thing systemically.

      Liked by 4 people

        1. I think it’s premature to do a dedicated post on the MBA proposal at this point. As they said in their “GSE Reform Principles and Guardrails” paper put out today, this is just “an introduction to the MBA’s recommended approach to GSE reform;” they intend to release their “full paper later this year” (in April, apparently).

          In the MBA’s paper today, there were some things I found promising and some things I did not–and also one big omission. The MBA’s recommendations included two of the three key reforms I have in my own proposal, “Fixing What Works,” for Fannie and Freddie: regulated returns, and limits (related to the needs of the credit guaranty business) on the size and purpose of credit guarantors’ mortgage portfolios. But the MBA said nothing about how it would set credit guarantor capital requirements, and through this omission was silent about how their proposed capital scheme would affect credit guaranty pricing (and loan availability) across the spectrum of borrower types. That, to me, is the “ball game,” and without any details in these areas I can’t make a definite evaluation of their proposal.

          Among the specific things in the MBA’s proposal that give me pause me I would note:

          (a) Having an insurance fund (paid for by borrowers) that allows for an explicit government guaranty of the mortgage-backed securities (MBS) issued by the credit guarantors the MBA envisions chartering. If you have an adequate capital standard, you don’t need a separate insurance fund. (Also, you can’t have true “insurance” for only a handful of companies; if you think the capital of those companies might be inadequate, increase it.)

          (b) The MBA’s insistence that the government guaranty should attach to MBS, not to the companies that guaranty the MBS. If you do that, in the unlikely event that the guaranty is ever called upon, existing mortgages are covered, but there are no institutions left to guarantee new ones, and the system spirals downward. (It is unrealistic to think that if you have only a handful of guarantors, in a crisis two or three would fail and the other four or three would be fine; it is much more likely that they all will succeed or fail together.)

          (c) The suggestion that risk-sharing structures might play a prominent role in the capitalization scheme of the proposed credit guarantors. Prior to making its final recommendation, the MBA needs to take a serious look at Fannie and Freddie’s CAS and STACRs, which provide only a very small fraction of the risk-absorption capability of equity capital. If the MBA does endorse risk-sharing securities, it must be explicit about how to convert dollars of face value of such securities to dollars of upfront equity capital (a dollar of CAS or STACRs, today, is worth less than ten cents of equity capital).

          Liked by 3 people

          1. Tim,
            A good insight on the MBA proposal. As you have said they will come out with a complete proposal by April 2017.
            In the meentine I hope they read this blog and take note of points in their proposal that make you pause. If it is not too much is it possible if you can reach out to them and discuss your points?
            Again thanks for well thought comments.
            PS Do you have update on the response of Mr. Duncan the financial magazine editor?

            Liked by 1 person

          2. I know that people from the MBA do read the blog. I’ve also sent a private note to one of them, cautioning about placing any significant reliance on risk-sharing securities when the MBA comes out with its capitalization ideas, in light of the known deficiencies of Fannie’s CAS and Freddie’s STACRs.

            And, no, I have not yet heard back from Mr. Wood (Duncan Wood) from Risk magazine.

            Liked by 1 person

  30. Thanks Tim for your interest and expertise in educating us to the complexities and absurdities of Fannie’s business. Without you alerting us, most would not realize how the CAS risk sharing deals were a sham from their stated purpose. Happy Anniversary to your wonderful blog.

    Liked by 2 people

    1. I wonder who wrote the CAS prospectus , and who recommended to hire them, and who finally approved it.
      It should be interesting to follow that paper trail to find out who deliberated over the issue and if internal corporate procedure rules were observed.

      Liked by 1 person

      1. There’s nothing wrong with the CAS prospectuses; they disclose what they’re supposed to disclose. I suspect few investors actually read them, but those who do would understand that they are buying securities with extremely attractive yields and very little chance of principal erosion. My criticism is not of the prospectus, those who are responsible for it, or the investors who purchase CAS tranches– it’s of Treasury and FHFA, who knowingly are forcing Fannie and Freddie to issue “risk-transfer” securities that eat up a third of the guaranty fees (in interest payments) of the loans covered by them, and don’t transfer any meaningful amount of credit risk.

        Liked by 1 person

  31. I think you for the following reasons Mr. Howard:

    1. After reading your book “The Mortgage Wars” I know more about the big picture of this situation than most. Quite frankly, if a person has not read The Mortgage Wars by Mr. Howard you do not know as much of this situation as you think. The theft and fraud by our government started before 2008 as it relates to Fannie and Freddie my fellow investors.

    2. I am able to clearly differentiate the various media and “expert” publications of information for truth or misinformation. And I am surprised not a single publisher of misinformation took up my challenge to dispute your facts. Not a single one.

    3. Without your guidance and your unselfishly educating me Mr. Howard I am not 100% certain I would have stayed long in both Fannie and Freddie. You clarified my gut feelings and own personal experience with Fannie and Freddie into something better than it was.

    4. In the literally thousands of hours of due diligence I have invested in my interests in Fannie and Freddie I can find no equal to your expertise, honesty and unselfish giving of factual, verifiable facts and experience.

    5. I thank you for leaving your personal political interests private on your blog and other places where you attempt to educate anyone willing to listen and learn. Not having your educational information clouded by your personal politics increases your blog’s credibility.

    Liked by 4 people

  32. Mr. Howard,
    I truly appreciate your efforts and look forward to your well thought, insightful and informed analysis having an impact on the resolution of the travesty. The importance of these two entities (Fannie and Freddie) cannot be under estimated. The future of the 30 year mortgage and the dream of American home ownership is fragile. Let us come to a conclusion to benefit all: shareholders, taxpayers, and the future generations of home owners. We cannot forget that owning a home is much much more than that. It is the future success of the US economy and its people.

    Keep up the good work!!

    Liked by 1 person

  33. Tim,
    What you have been doing is great service to housing reform based on facts with FNF as the anchor.
    I hope members of Congress and other stakeholders will read this blog.
    Congratulations for a job well done!

    Liked by 1 person

  34. This sentence in the mandamus order on page 19 seems to validate what everyone was suspecting. That short selling in the gse’s was being conducted to suppress the stock prices.

    “According to the declaration, this document reflects discussions of ongoing policy efforts, including standards for short sales, the federal risk retention rule, and housing finance reform.”

    Liked by 1 person

  35. Tim,
    Thanks, You have been doing valuable public service through these articles.
    Current as well as future generations will thank you for preserving American dreams for them.

    As a matter of greater public service, please send the articles to all major publications and influential people to create awareness of things that are hurting cause of housing finance for American people and genuine investors.

    Liked by 1 person

    1. Anon–I would suggest that your idea is a good one for Tim’s readers and admirers, not the author himself.

      Except for DC residents, we all have two US Senators, a Congressman/woman, and media where we live. And there is no limitation on sending his work to all members of the Senate and House Banking Committees where most GSE issues get debated or are decided. Include an explanatory note for the public officials and their staff.

      Liked by 1 person

      1. Bill,
        I agree. Can we send the articles to publications also?
        Probably publications need permissions from the author and conformity to their standards.

        Like

  36. Thanks for this useful summary of your insights on GSE mortgage reform. You have really helped me to understand the complexities of these issues, while exposing deceptions of Treasury’s actions to illegally try to wind down Fannie Mae and Freddie Mac. I really hope your message can be made understandable and clear to the general public through the fog of complexities and deceptions. Does FM watch still exist? (Just a rhetorical question).

    Liked by 1 person

  37. Tim,

    Thank you for providing a place, for the past year, where concerned Americans can gather and become more informed about all things US housing finance related. Your willingness to share your experience and knowledge regarding the GSEs is invaluable to all that come here. It speaks volumes to who you are as a person, as well.

    Thanks again!

    Liked by 1 person

    1. Last Friday I sent the editor of Risk, Duncan Wood, an email giving him links to two of the pieces I wrote on CAS for the blog. I also attached one of the CAS prospectuses and told him which tables in it contained the information he needed to confirm how few losses the risk-sharing M2 and M1 tranches take, and why. I have not yet heard back from him, but I’m sure it will take him a while to look into this and form his own opinion about it.

      Liked by 1 person

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