The US Government Take Over of Fannie Mae and Freddie Mac: Winners and Losers

Over the weekend, our government seized two of the largest financial institutions in the world, Fannie Mae and Freddie Mac. They fired the boards of directors and the CEOs and they diluted the shareholders by 80%. Who are the winners and losers of this historical takeover?

First the losers:

↓Common stock holders of Fannie (down 89% from Friday to $1.18) or Freddie (down 85% from Friday to $1.08). As Warren Buffet said this morning on CNBC, The common shareholders are going to get nothing until the Treasury gets paid back, and even then, as I understand it, the Treasury is getting a warrant at a nominal sum for 79.9 percent of the resulting common, so assuming there is anything left for the common four or five years down the road, the Treasury will get 80 percent of it, so they're getting paid very well for stepping in. And like I say, the question of whether the common gets anything is problematical. The common is an option at this point.”

↓Preferred stock holders of Fannie or Freddie

↓Holders of long term U.S. treasuries: Given the additional risk the US is putting on its books its only natural that its bonds would be down graded.

↓Shareholders or executive level employees of one of the 17 banks that had a concentration in common or preferred shares of Fannie Mae or Freddie Mac that surpassed 10% of their Tier 1 Capital. For example, Sovereign bank’s (down 10% on the news) securities losses could wipe out an entire year of earnings.

↓Owners of Dodge and Cox Funds which as of June owned nearly 119 million shares of FNMA.

↓Owners of Bill Miller’s flagship Legg Mason Value Trust which placed huge bets on Freddie Mac and Fannie Mae. The fund is already down 31% year to date.

Now the winners:

↑Home owners and potential home owners in need of a mortgage: Mortgage rates should improve. According to a Tom Millon, a mortgage backed securities guru, owner of Capital Markets Cooperative and good friend, “Mortgage yields have every reason to come down. The spread between mortgage and Treasury yields has been a thorn in the mortgage industry’s side. The spread has spent the past few weeks again at historic highs – exceeding a whopping 2.75%. All of a sudden there are two key reasons to believe that mortgage rates will drop relative to Treasury yields. First, mortgage yields have contained at least 0.50% of credit premium due to fears that the agencies might fail. That fear has been eliminated. Standard & Poor’s said Sunday that the government’s AAA/A-1+ sovereign credit rating would not be affected by the takeover. Second, in an unprecedented move, the government is enacting a program to buy mortgage-backed securities. Aptly named the GSE Mortgage Backed Securities Purchase Program, the program will allow purchases (nobody has said how much the government will buy) starting later this month.”

↑Home owners: The falling real estate market should begin to stabilize. According to the most recent Case-Shiller Home Price Index, the value of homes in the largest 20 US metropolitan areas have fallen an average of 18.8% in the last 24 months. With an improvement in mortgage rates and some stability in the credit markets, real estate stabilization should follow.

↑Mortgage backed securities holders will receive a wind fall. Now that the government guaranty is no longer implied but actually guarantied, the securities should increase significantly in value.

↑Banks that hold Fannie/Freddie issued mortgage backed bonds will have an increase in value.

↑US Equities should rally, at least in the short term. This is because one of the biggest market uncertainties has now become certain. The market hates unknowns and generally sells off in the face of uncertainty. Now that the government has stepped in, the market can value these securities properly. Most of the financial sector will be winners propelling the market upward.

↑Tax payers. Yes, tax payers. The government did not bail out the shareholders of Fannie and Freddie. They wiped them out. It may take 5 years for the companies to get healthy again and I believe this government will be able to sell them back to the market at a healthy profit. This is far better than the hit the government would have taken should Fannie and Freddie been allowed to fail.

↑Daniel Mudd and Richard Syron, ex-CEOs of Fannie and Freddie will be walking away with exit packages of around $14 million each.

I am sure I missed a few winners and losers so please send your feedback in or leave a comment below!