The government’s planned takeover of Fannie Mae and Freddie Mac, expected to be announced as early as this weekend, came together hurriedly after advisers poring over the companies’ books for the Treasury Department concluded that Freddie’s accounting methods had overstated its capital cushion, according to regulatory officials briefed on the matter.
That it came hurriedly together is true, but there’s little doubt that Paulson could be surprised by the audits results. It stretches fantasy to believe that he was unaware of the difficulties when he asked for the bailout power, that’s why he, he asked for it to begin with. So, they gave him the power, then he used it and now the shareholders are defrauded, and the taxpayer is stuck with it.
In an historic move that virtually wipes out the stockholders of Fannie Mae, the government has taken over the reins and purse strings of both mortgage giants. The American taxpayer is now on the hook for losses yet to be seen, in what many media outlets are calling “the chickens have come home to roost.”
The reaction on the street is that Fanny and Fred are finally beginning to be treated like the trash that she and he are, as S&P comes out and cuts them to junk.
Standard & Poor’s on Sunday cut the ratings on Fannie Mae and Freddie Mac preferred stock to junk status after dividends were eliminated in a takeover bu the U.S. government.
Regardless of the ensuing fallout, the public can be sure of two things. One is that the bailout has nothing to do with helping people keep their homes in two
The only question is how badly this will blow up. Government bailouts are never confidence inspiring regardless of whatever short term reaction we may see on Monday.
The financial media are all over this one misrepresenting and is an action to instill investor confidence and American markets, while low balling every estimate and under estimating every consequence. Here is how Gretchen Mortensen of the New York Times and her co-stooge Charles Duhigg do it.
The government’s planned takeover of Fannie Mae and Freddie Mac, expected to be announced as early as this weekend, came together hurriedly after advisers poring over the companies’ books for the Treasury Department concluded that Freddie’s accounting methods had overstated its capital cushion, according to regulatory officials briefed on the matter.
The proposal to place both mortgage giants, which own or back $5.3 trillion in mortgages, into a government-run conservatorship also grew out of deep concern among foreign investors that the companies’ debt might not be repaid. Falling home prices, which are expected to lead to more defaults among the mortgages held or guaranteed by Fannie and Freddie, contributed to the urgency, regulators said.
The details of the deal have not fully emerged, but it appears that investors who own the companies’ common stock will be virtually wiped out; preferred shareholders, who have priority over other shareholders, may also wind up with little. Holders of debt, including many foreign central banks, are expected to receive government backing. Top executives at both companies will be pushed out, according to those briefed on the plan.
While it is not yet possible to calculate the cost of the government’s intervention, it could rise into tens of billions of dollars and will probably be among the most expensive rescues ever financed by taxpayers. The takeover comes on the heels of a rescue of the investment bank Bear Stearns, which was sold to JPMorgan in a deal backed by taxpayer dollars. Already, the housing crisis has cost investors hundreds of billions of dollars.
Both presidential nominees expressed support for the government’s plans to take over the companies. The chief economic adviser to Senator John McCain, Republican of Arizona, who has long been critical of the mortgage giants, said on Saturday that Mr. McCain considered it an unfortunate but necessary step.
Senator Barack Obama, Democrat of Illinois, said as he campaigned in Indiana on Saturday that not acting could place the housing market in further distress. “These entities are so big and they are so tied into the housing market that it is probably true that we have to take steps to make sure they don’t just collapse,” Mr. Obama told an audience in Terre Haute, Ind. But he added that the government needed to take steps to guard against Fannie Mae and Freddie Mac ultimately profiting from the government assistance.
The big question now is whether the federal government’s move to take over Fannie and Freddie will restore investor confidence in the nation’s credit markets, help stabilize the stock market and keep loans flowing to creditworthy borrowers.
Fannie and Freddie, by buying mortgages, provide banks and other financial institutions with fresh money to make new loans, a vital lubricant for the housing and credit markets.
As a result of the government’s intervention, the cost of borrowing for Fannie Mae and Freddie Mac should decline, because the government will be standing behind their debts. Equally important, because the government is backing the companies, their buying and selling of loans will continue.
But the plan to bail out the firms will probably do little to stop home prices from falling further. And foreclosures are almost certain to rise.
Just a week ago, Treasury officials were still considering a wide variety of options for Fannie Mae and Freddie Mac, ranging from doing nothing to taking over the companies completely, according to people with knowledge of those discussions.
The Treasury secretary, Henry M. Paulson Jr., who won authority from Congress last month to use taxpayer funds to bolster the companies, always maintained that he hoped never to use that power. But, as the companies’ stocks continued to languish, some within the Treasury Department began urging Mr. Paulson to intervene quickly.
Then, last week, advisers from Morgan Stanley hired by the Treasury Department to scrutinize the companies came to a troubling conclusion: Freddie Mac’s capital position was worse than initially imagined, according to people briefed on those findings. The company had made decisions that, while not necessarily in violation of accounting rules, had the effect of overstating the firm’s capital resources and financial stability.
Indeed, one person briefed on the company’s finances said Freddie Mac had made accounting decisions that pushed losses into the future and postponed a capital shortfall until the fourth quarter of this year, which would not need to be disclosed until early 2009. Fannie Mae has used similar methods, but to a lesser degree, according to other people who have been briefed.
Representatives of both companies did not return calls or declined to comment.
On Friday, executives from Fannie Mae and Freddie Mac were ordered to appear in the offices of their regulator, James B. Lockhart, in separate meetings, and were told that the Treasury Department was exercising its authority to place the companies in conservatorship, which would allow for uninterrupted operation of the firms but would put them under the control of Mr. Lockhart.
The details of those plans continued to be worked out on Saturday, when the Federal Reserve chairman, Ben S. Bernanke, Mr. Paulson, Mr. Lockhart and key company executives met in Washington.
While Freddie Mac’s accounting woes make it easier for regulators to force the company into conservatorship, there was more resistance from Fannie Mae, according to people familiar with the discussions. However, given Fannie Mae’s declining financial condition, and the fact that even a slightly pessimistic statement from Mr. Paulson about the company’s finances would be likely to send its stock price into a tailspin, the company has few options but to concede to the government’s demands.
Both companies have the option of challenging the conservatorship and asking for a judicial review. Such a move, however, would probably be disastrous for their stock prices.
Accusations of improper accounting are not new for either company. Earlier this decade, both companies paid large fines and ousted their top executives after accounting scandals.
Freddie Mac’s current chief executive and chairman, Richard F. Syron, joined the company in 2003 after the former managers revealed they had manipulated earnings by almost $5 billion. The following year Fannie Mae’s chief executive, Daniel H. Mudd, was promoted to the top spot after that company was accused of accounting errors totaling $6.3 billion. People familiar with Treasury’s plan say that both men, as well as other top executives, will be forced to leave the companies.
The accounting issues that brought so much urgency to the bailout appear to center on Freddie Mac’s capital cushion, the assets that regulators require it to keep on hand to cover losses.
The methods used to bolster that cushion have caused serious concerns among the companies’ regulator, outside auditors from Morgan Stanley brought in by the Treasury Department and some investors. For example, while Freddie Mac’s portfolio contains many securities backed by so-called subprime and alt-A loans, which are one step up from the riskier mortgages, the company has not written down those loans’ values to reflect current market prices.
Executives have argued that because they intend to hold the loans to maturity, they need not write down their value. But other banks and financial institutions have written down the value of those securities, even if they continue holding them, under “mark-to-market” accounting rules. Freddie Mac holds roughly double the securities that Fannie Mae does.
Freddie Mac and Fannie Mae have also inflated their financial positions by relying on deferred-tax assets — credits that the companies have built up over the years that can be used to offset future profits. Fannie maintains that its worth is increased by $36 billion through such credits, and Freddie argues that it has a $28 billion benefit.
But such credits have no value until the companies generate a profit — something they have failed to do over the last four quarters, and something that is increasingly unlikely within the next year. Moreover, even when the companies’ profits soared, such credits were often unusable because the companies also had large numbers of affordable housing tax credits, which themselves offset profits.
One analyst estimates the companies, in the future, would have to collect roughly double the profits of the past five years for the credits to become usable. Most financial institutions are not allowed to count such credits as assets in the manner used by Fannie and Freddie.
Regulators and auditors may question the companies’ use of deferred-tax credits because they cannot be sold to anyone else and they would disappear in a receivership. And, if those credits were not counted as assets, both companies would probably fall below the capital threshold they are required to hold.
Finally, regulators are said to be scrutinizing whether the companies were trying to manage their earnings by maneuvering the timing of reserves set aside to offset losses from defaulted loans. Each quarter, both companies have gradually increased their loss reserves — Fannie’s reserves today stand at $8.9 billion, and Freddie’s at $5.8 billion. However, regulators and auditors felt strongly that both companies should have identified larger potential losses immediately, and set aside much more from the beginning.Other companies, like private mortgage insurers, have identified much larger losses and have set aside much larger amounts of capital. Fannie and Freddie, however, have delayed the recognition of such losses, dribbling out bad news with each quarterly announcement, suggesting a strategy to manage the recognition of losses.
Finally, regulators are concerned that the companies have mischaracterized their financial health by relaxing their policies on when to recognize a loss on a defaulted loan, according to people familiar with the review. For years, both companies have effectively done that when a loan is 90 days past due. But, in recent months, both companies said they would extend that to two years.
As a result, tens of thousands of loans that previously would have been marked down have maintained their value. The companies have injected their own capital into pools of securities, arguing that new business policies are helping greater numbers of borrowers.
“We have just had to nationalize the two largest financial institutions in the world because of policy makers’ inaction,” said Josh Rosner, an analyst at Graham Fisher, an independent research firm in New York, and a longtime critic of the government-sponsored enterprises. “Since 2003, when these companies’ accounting came under question, policy makers have done nothing. Even though they had every reason to know that the housing market’s problems would not be contained to subprime and would bring down the houses of Fannie and Freddie.”
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