Fannie and Freddie Preferred Stock - Update

Bruce Krasting's picture

On July 14th I wrote
about the trading activity in FNM/FRE preferred shares. It was clear
then that there was a buyer. The buy side interest has continued:

fnm and fre have series A-Z preferred’s outstanding. All of these
individual shares have appreciated 200-300% in the past 40 trading
days. The common stock has not budged.

There are a number of possible explanations for this unusual price action.

-A broad base of ‘punters’ saw the signs that I saw and said, “What the heck.
I would give this a very low probability.

-A large Prop desk is behind this
buying is going on across 40 separate share issues. This is a well
organized effort by a large player. This is a good guess, but those
‘desks’ are very close the desks that run the big Agency business that
goes on every day. That is a stinky conflict.

-The Agencies are behind the buying.
can’t be. They are NYSE listed and subject to disclosure. In addition
they are owned by the Treasury. As such the must live to a higher
standard of disclosure. A ‘sneaky Pete’ buy back just doesn’t fit in
with that picture.

-This a completely random event of no significance.

market cap of these securities has appreciated by $1.5 billion over the
past five weeks. Big money. Someone appears to be wired. If the
Agencies and FHFA have a plan for the pref they should share it with
the public.

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Anonymous's picture

From Seeking Alpha

From Bloomberg:

Fannie Mae and Freddie Mac, the largest U.S. mortgage-finance companies, won’t be able to repay all of the $84.9 billion in federal aid they have received since being seized by the government last year, their regulator said. “Some assets and senior preferreds will have to be left behind as they come out of conservatorship, and that means some of those losses will never be repaid,” Federal Housing Finance Agency Director James Lockhart said at a speech in Washington today. “Their book is so large, it’s hard for me to see that they will be able to repay all of that.”

That this comes as a surprise is astonishing. They are being used as a tool to help support the housing market - as evidenced by the +110 LTV loans they will write - and have become policy corporations.

What is interesting to this humble participant is the statement on leaving behind some preferreds.? A while back, it was made known that Treasury and HUD were exploring their options with regard to the GSEs:

Treasury and the Department of Housing and Urban Development, together with other government agencies, will engage in a wide-ranging process and seek public input to explore options regarding the future of the GSEs, and will report to the Congress and the American public at the time of the President’s 2011 budget.

There are a number of options for the reform of the GSEs, including: (i) returning them to their previous status as GSEs with the paired interests of maximizing returns for private shareholders and pursuing public policy home ownership goals; (ii) gradual wind-down of their operations and liquidation of their assets; (iii) incorporating the GSEs’ functions into a federal agency; (iv) a public utility model where the government regulates the GSEs’ profit margin, sets guarantee fees, and provides explicit backing for GSE commitments; (v) a conversion to providing insurance for covered bonds; (vi) and the dissolution of Fannie Mae and Freddie Mac into many smaller companies.

People picked up on this and ran with it, thinking preferred dividends might be reinstated (at some point).? FNM S is up 200% since 6/25 when this came out and FRE Z is up 102%.

Is this the cold water that disillusioned participants need? Perhaps, FNM S is down 9.7% since it hit the tape. Look out below. Hope is not a strategy.

Disclosure: Long FRE Z and FNM S (begrudgingly).

Hondo's picture

Based on this story on CR wouldn't it only seem logical that if the government (taxpayer) has to eat some of the senior preferred that the regular preferred is toast??? 


This from CR:

From the WSJ: GSEs Unlikely to Repay U.S. in Full

... "My view is that some assets in the senior preferred will have to be left behind as they come out of conservatorship," Federal Housing Finance Agency Director James B. Lockhart said Thursday in response to a question at a panel discussion in Washington. "That will mean that some of the losses will never be repaid."

The Treasury has agreed to pump $200 billion into each company in order to keep them solvent. In exchange, the government receives senior preferred stock that pays a 10% dividend. So far, it has injected $85 billion in total into the companies, but Lockhart said that figure was likely to rise in the coming months.

Fannie and Freddie together own or guarantee $5.4 trillion in mortgages. ...

Mr. Lockhart said Fannie and Freddie would likely see their reserves continue to decline next year, but could return to strong profits in two to three years.

I'm shocked!

Anonymous's picture

I echo the comment about US real estate for what I see in London, UK. The amount of buyer interest is surpassing the 2007 peak (!). Quite how the majority expect to finance a purchase is beyond me, but we'll see. Pretty thin market, short on offers that are not (2007 price-20%). I struggle to see what the driver would be for a renewed upleg...

Rusty_Shackleford's picture

More proof of green shoots.


Wait a minute,...  It's Kudzu!!!!!!

DebtorShredder's picture

Here's your answer:

“Some assets and senior preferreds will have to be left behind as they come out of conservatorship, and that means some of those losses will never be repaid,” Federal Housing Finance Agency Director James Lockhart said at a speech in Washington today. “Their book is so large, it’s hard for me to see that they will be able to repay all of that.”

Bruce Krasting's picture

anon 18905 The volume is thin. I think this stuff trades by appointment. I have observed that the up days come with higher volume. The following chart is indicative. On July 15 there was a decent amount for sale so they paid up for it. Low volume = weak bids.

Anonymous's picture

real estate in my neck of the woods (let's call it prime fairfield county) is going gang busters. The bankers are dancing and sucking in immediately every decent property that comes on the market (as long as it comes on 25% below 2007-8).

newera22's picture

A lot of stocks appreciated 200%. Goldman Sachs stock is up over 200% from the lows (like 500% on an annualized basis). I believe this is a non-story and just an attempt to hack real estate.

newera22's picture

To me, if you want to talk about moral hazard. The biggest problem of moral hazard right now is BLUE CHIP STOCKS. People are buying stocks because they "know" PPT/Timmy/GS got their back in this 1999-style ramp fest. FRE Preferred is still off 95%. It is absurd, in my humble opinion, for Tyler and Co to spend so much time on real estate. Blue chip stocks are WAY overvalued and have far more moral hazard. I own FRE-pr and short stocks.

newera22's picture

I own Freddie Preferred with cost very very low cost basis. In my humble opinion they are the best call option on U.S. real estate out there. I don't understand why so many, like Tyler, have knee jerk bearish posture toward real estate. I believe stocks are way overvalued. Real estate actually could be a good value.

Run the math on these Freddie preferred. Even if you assign, say even just a 10% chance they will start paying interest again sometime in the next 5 years they are still undervalued. I tend to think the odds are higher that real estate will stabilize enough that Freddie will do alright.

Finally, I happen to like the CONCEPT of public-private partnerships. I think it is a VERY difficult line to toe right now. However, on principle, I am actually for public-private Freddie as a model for more businesses-- including PPP transportation projects. I don't agree with moral hazard aspects. However, as anyone can see the notion of moral hazard on FRE and FNM screwed a lot of people. From here, I see value in the preffered.

Anonymous's picture

They are going up because the players know they will get paid. They will get paid because the government will not allow the GSE's to fail, much less see prefs not pay. What was the yield a month ago? Probably fat relative to treasuries. This is another sign of the bubble reflating, is my guess. Have a Happy Bubble Day!!

robbonds's picture

ive been watching this too

every day i see the same buyer come across looking for sellers in all FNMA/FHR prfds

i think its worth a shot - nice call option with much more upside than the common

Anonymous's picture

Every low quality issue has had huge rallies CNO ETFC as examples.
CIT plunged on panic and rallied 125% in hours on news it got
financing that never did materialize.

Its small investors trying to trade back into the losses they suffered by panic in nov 08.

Most of them are short and frequent flyers on this board, LOL.

Anonymous's picture

Hedge Fund(s)

Anonymous's picture

Bruce, you're the one who pointed out the absurd payouts to the Freddie subordinated debt holders, mentioning that treating those positions as money good could give rise to a lawsuit by preferred holders asking for better value than they currently had, given their relative position on the capital structure to subordinated debt. I actually passed your suggestion along to a friend who is a litigator for a major firm that routinely takes on the major financial institutions. He said it looked intriguing and brought it to their finance guys, and I haven't heard an update since; but isn't a rise in preferreds exactly what one would expect given the subordinated payout? If I wasn't so hellbent on losing all my money going short CRE, I would have purchased preferreds the instant after reading your note. What is clearly surprising is the rise in these shares that predated the announcement concerning the subordinate debt; that is, it's surprising if you think whoever was initially talked to at Goldman about running the sub debt purchase plan actually obeyed the "Chinese Wall" and kept that info from his trading desk. Since trusting GS doesn't seem to be too in vogue at the moment, why isn't this just another illustration of inside dealing?

Anonymous's picture

Gee, CNBC must of had this story slotted right after the Ultimate Fighting news report.

Anonymous's picture

can you provide any insight into the relative volume of trading that accompanied the move?

Anonymous's picture

Exchanges should show the corporate names of every material buyer and seller with the dates so that it would be self-policing (no dark pools). It sounds as if insider knowledge must have been used, but we may have to wait a few weeks to find out what is going on.

Anonymous's picture

someone prepping for the next wave, or huge fake-out?

Anonymous's picture

It's the Penny Mac guys buying access to their old crap that they put off on Fannie and Freddie.

texpat's picture

Just another giant turd in the financial toilet bowl.

Raymond Shaw's picture

I am amazed no one is commenting on this post.  Bruce, great job at the analysis!