Tag: Fannie Mae

Fannie and Freddie Revisited

 

The US Supreme Court heard the oral argument this month in Collins v. Mnuchin, a high-stakes case worth roughly $29 billion. The case was argued on terms that ordinary people would rightfully find utterly unintelligible. At stake was the legitimacy of the key features of the federal bailout of Fannie Mae and Freddie Mac, the two government-sponsored enterprises (GSEs) that dominate the residential home mortgage market.

The bailout began in the frenzied days after the 2008 banking crisis. Initially, the federal government agreed to contribute more than $188 billion to the two companies in exchange for senior preferred stock that carried with it a 10 percent dividend, or $18.8 billion per year. That deal was not negotiated by the trustees of Fannie and Freddie, as they had been ousted from their positions by a conservator, Edward DeMarco, the acting director of the Federal Housing Finance Agency (FHFA), which was given power to oversee the residential mortgage market. DeMarco had an obvious conflict of interest in making this deal because he was negotiating against the Department of Treasury, where he had been a senior official between 1993 and 2003.

The 2008 deal remained stable until August 2012, when DeMarco and Treasury renegotiated the transaction, such that the 10 percent dividend was eliminated in favor of a Net Worth Sweep (NWS) in the Third Amendment to the original deal. That NWS took all the dividends in perpetuity from both Fannie and Freddie and paid them into the federal treasury, leaving the companies with no cash, no liquidation preferences, and no voting rights, so that their only asset was a lawsuit against both FHFA and Treasury Secretary Steven Mnuchin as a stand-in for the United States government.

In this AEI Events Podcast, Jay Powell of the Board of Governors of the Federal Reserve System joins AEI’s Stephen D. Oliner to discuss the critical need to reform the housing finance system. During his remarks, Governor Powell emphasizes the potential systemic risk from a housing finance system that continues to be dominated by two large institutions, Fannie Mae and Freddie Mac, both of which remain in conservatorship today.

He also identifies a set of principles that should guide reform efforts, without favoring one specific plan over others. Governor Powell concludes by highlighting the need to move forward with the best feasible plan that would draw bipartisan support instead of holding out for the perfect solution.

The Fannie and Freddie Fiasco

 

fannie-mae-freddie-macOn April 15, the United States Circuit Court of Appeals for the District of Columbia will hear a high stakes appeal from the hedge funds Perry Capital and Fairholme Capital related to the bailout of Fannie Mae and Freddie Mac. At issue in the case is the legality of an amendment made by the government in August 2012 to the original 2008 bailout. That Third Amendment, as it’s called, has caused a major violation of shareholder rights. (Full disclosure: I have worked as an advisor for a number institutional investors involved in this case and have also written a comprehensive account of all aspects of this complex litigation.)

To recap the history, both Fannie and Freddie—which are government sponsored entities, or GSEs—were under extreme stress in the fall of 2008, and in order to shore up their finances, they entered into a Senior Preferred Stock Purchase Agreement (SPSPA) with the United States Treasury. Under the SPSPA, Treasury agreed to contribute up to a combined $200 billion in cash to both companies in exchange for a senior-preferred stock that carried a 10 percent dividend. Eventually, Treasury lent about $188 billion per year, which carried a hefty $18.8 billion annual dividend payout. Under the SPSPA, both Fannie and Freddie were given the unlimited option to defer payment of the interest, which was then added to principal as an “in-kind” obligation, at a 12 percent interest rate. Unlike many private corporate bailout plans, this deferment did not call for any loss of control by Fannie and Freddie. Treasury thus held a new senior-preferred stock. The old private-preferred shareholders now held junior-preferred stock.

The negotiation over SPSPA took place in a tense financial environment. In the summer of 2008, with crisis in the air, Congress passed the Housing and Economic Recovery Act (HERA), which implemented two new statutory programs.

Loosening Home Lending Standards — What Could Go Wrong?

 

051414housing-600x396After a near-depression and worst-ever financial crisis that cost the US economy as much as $14 trillion, one might think Washington would be careful to avoid repeating the same policy mistakes. One might think, for instance, Washington would think twice and then thrice before loosening mortgage lending standards to boost home ownership, particularly among low-income borrowers. Because, you know, loosened mortgage standards seem to have played some role in helping set the stage for the catastrophic mortgage meltdown.

Recall three conclusions from the National Commission on the Causes of the Financial and Economic Crisis in the United States:

1.) From the majority report: “We conclude collapsing mortgage-lending standards and the mortgage securitization pipeline lit and spread the flame of contagion and crisis.”

Congress Can’t Wash Away the Executive Branch’s Sins

 

The stakes could not be any larger in the multi-billion dollar financial dispute pitting a large group of institutional investors in Fannie Mae and Freddie Mac against the United States government. Thus far, the debate has largely taken place in the courts, and I have commented extensively on the fundamental weakness of the government’s effort to sign away the rights of these investors through a deal entered into by the Federal Housing Finance Authority and the Treasury Department. 

That debate has how spilled over in to the political arena. Right now, the main mission of the Senate Banking Committee’s Johnson-Crapo housing finance bill is to develop a new framework for future residential home mortgages. Unfortunately, the bill also tries to ditch the many lawsuits brought by private shareholders of Fannie and Freddie Mac against the government for existing claims. While the authors of the bill continue to claim that the proposed legislation leaves the issues relating to investors’ rights to the courts, Section 604 of the bill declares that the August 17, 2012, Third Amendment to the original Senior Preferred Stock Purchase Agreement (SPSPA) “shall not be amended, restated, or otherwise changed to reduce the rate or amount of dividends” and thus perpetuates the government’s right to take all the profits from the two companies.