Agency Shit Storm

Bruce Krasting's picture


I've been waiting four years for a lawsuit against the government and its handling of Fannie Mae and Freddie Mac. Perry Capital, a hedge fund who has invested in Agency Pref stock, filed the suit on Saturday. A heavyweight law firm, Gibson, Dunn & Crutcher (GDC), is handling the case. I think this is going to cause a shit-storm in D.C.



The deep thinkers in Washington set this up to happen way back in 2008. Then Treasury Secretary, Hank Paulson, made the fateful decision to put Fannie and Freddie (F/F) into a Conservatorship. The Agencies should have been put into a Receivership; they were broken entities back then. If they had been declared bankrupt in 2008, there would be no Perry lawsuit today.


Paulson had two strong incentives to go down the Concervatorship road:


1) If F/F had declared bankruptcy, then all of the $7 Trillion of Agency debt would have have gone on the Federal balance sheet. Treasury Marketable Debt outstanding at the time was $5,8Tn. It would have gone up 120% overnight.

Hank P made a form-over-substance decision. It would have been (another) shock to the system to see the Federal debt double. The wheels were coming off the cart when the choice was made. So Hank elected to 'hide' the debt and kept F/F functionally alive.


2) No one (especially Hank Paulson) thought there was even a remote chance that F/F would ever be able to dig themselves out of the hole. The estimated losses were in the $400Bn range. That assumed outcome meant that there was 100% certainty that the government would never get paid back its bailout of F/F. So it didn't matter that the F/F shareholders were not legally put out of their misery (as they should have been).


As it has turned out, everyone (including me) was wrong on the actual size of the bailout for FF, and we were way off on how long it would take to pay back the taxpayers in full (with a big return). If allowed to continue to operate as they now are, F/F are capable of returning 100% of the bailout money PLUS a 10% return PLUS a significant equity interest in F/F in under three years. That would be a big win for the taxpayers.

So Hank made a critical choice based on a bad assumption. His decision was driven by the 'optics' of shifting the debt onto the balance sheet. The Treasury Secretary made a mistake. When governments pass laws and take actions, there are always negative side effects. When mistakes are made, lawsuits happen and lawyers, and guys with capital make money.


The Perry lawsuit has merit. GDC would not have filed such a high profile suit unless it thought the law was on its side. The Feds set this up to happen, and it happened. By no means is the solvency of F/F a 'bad thing' - the taxpayers will make billions.


I expect that the Perry lawsuit goes no place fast; the Feds can delay the process for years. But the existence of the lawsuit will make it much harder for D.C. to take action that results in a shareholder wipe out. The Bob Corker (R-Tn) plan to unwind the Agencies and blow-off the existing stakeholders is now a dead end. (Link)


There is a delicious irony to this story. Go back to the beginning and ask why Paulson could have missed this coming? The answer is that he never, in his wildest imagination, believed that the Fed would keep interest rates at zero for five years and buy Trillion of MBS. Were it not for the unending monetary gas that the Fed has plowed into the system, F/F would be in much different shape today. They would not be able to pay back the taxpayers in full, and the publicly traded equity would be worth zip. (Zero Hedge discussion)


I hope this case does come to a trial. The star witness for GDC will be Ben Bernanke:


GDC - Was one of your goals with ZIRP and QE 1-4 to support the mortgage industry participants?

Bernanke - Yes.


GDC - Was your purchase of $1.2 trillion of Agency MBS a subsidy for the entire mortgage industry?

Bernanke - Yes.


GDC - Are you surprised that F/F have made huge profits as a result of your monetary policies the past five years?

Bernanke - No. It is exactly the outcome that we hoped would happen. The rise of F/F from the ashes is a measure of our success.


GDC- Did you repeatedly communicate your intentions of supporting the mortgage market, and its participants, to the public and in testimony to the House and Senate?

Bernanke- Yes.


GDC - Your Honor, we rest our case. This witness has proven beyond any doubt that the favorable outcome for F/F was the desired, and well communicated policy of one branch of the Government. You can't now penalize investors who listened, and paid heed to the Chairman of the Federal Reserve.


Like I said, there will be a storm over this one.


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Its_the_economy_stupid's picture

The FED is not "actually" a branch of the government, it is a private entity.

GMadScientist's picture

Just more piggies lining up at the goober trough; be assured that only taxpayers will be harmed.

pfairley's picture

Thanks Bruce. Using shitstorm in a written sentence is very helpful for my English as a 2nd language friends. I have not seen this since the subtitles of The Matrix part 3

mcgoverntm's picture

Re: "(Pauson) never, in his wildest imagination, believed that the Fed would keep interest rates at zero for five years and buy Trillion of MBS."

How does the WSJ know this?  Were Paulson, Rubin, et al not smart enough to look ahead, see the problem, and make sure that Bernanke was instructed on what was to be done with interest rates and MBS?  As a good Keynesian, Bernanke would have been happy to do it even without being told that the move was to fix the F/F problem.

geekgrrl's picture

At this point, I'm surprised they don't just make it illegal to sue the federal government. On the other hand, this is a relatively stealthy method of stealing taxpayer's dollars; yet another method of the elite to siphon off more and more of the productive capacity of the nation.

Thanks for the heads-up on this case, Bruce.

SmittyinLA's picture

The housing spec buyers are all going to "call" fed's bet next and dump while prices are high and propping up the market artifically. 

Collapse, repeat, and of course the NAR's "never a better time to buy than NOW"

Seasmoke's picture

Barney Frank agrees with Bruce Krasting.

Watson's picture

Question: Do either FNM or FRE mark assets to market in the balance sheet, or otherwise show those values in the accounts?

GMadScientist's picture

Only those assets which don't have that scorched earth smell about them.


otto skorzeny's picture

one more question like that-sir- will earn you a dirt nap.

DeadFred's picture

Holder: "Guys it's time to take a look at those records you've stored up on those Gibson Dunn lawyers."

Clapper: "Keith, start the wheels moving"

Alexander: "Way ahead of you. Here's what we have on them..."

Widowmaker's picture

This is more of the same adding deck chairs on the titanic.

The boat should have sunk and the entire world knows it but in the world of corruption and government in bed together only the rich win.

Anyone below the 1% benefit??  FUCK NO BY DESIGN!

waterhorse's picture

"The wheels were coming off the cart when the choice was made."

More like the wheels were coming off the CONTROL FRAUD locomotive when the choice was made.

malek's picture

Bruce, do you really believe that accounting sand castle, that by being able to set the "mark to market" prices for the foreclosed houses so high that on paper the texpayer will suffer no losses, this also somewhat assures those properties can all really be sold at those marks (or better)? Only after everything is realized price will the outcome be known.

(This reminds me of the UBS bailout by the Swiss gov't, they also declared more than year ago that the taxpayer will make a gain on that toxic papers etc. - LOL, that's a bold bet they will find bigger fools for that amount of toxic sludge!)


marathonman's picture

"well communicated policy of one branch of the Government."  The Federal Reserve is not a branch of the government.  It is privately owned by the cartel members of the TBTF banks. 

Barrack Chavez's picture

Oh come on.   Bruce Krasting starts out with wrong assumptions, and then starts whining that preferred FNMA shareholders (of which he is one) are entitled to bailouts.

First, Hank Paulson lied about the balance sheet absorption.   Legally, FNMA and FHLMC were entitled to a $3 billion credit line (each) from the US Treasury and that is it.   A total $6 billion exposure -- all the rest of the exposure was fabricated.   None of the GSE's debt would end up on the Treasury balance sheet -- that is just bullshit.   GNMA bonds carry the full faith and credit of the US Treasuy, but the other GSEs do not, and never did.

Second, whatever political ramifications of home-squatters getting screwed ... the politicians could bail out homeowners directly.   Doing so (even if bad policy) would have helped the broader economy instead of a select few Hank Paulson friends.

Third, if Mr Krasting knew anything about agency debt (he doesn't appear to) -- it was Timmy "the rat" Geithner that decided (on Christmas Eve) to absorb all the losses of FNMA / FHLMC.  Paulson looted the US Treasury in other ways -- but not this.

The reason for doing the bailouts the way Paulson did was to bailout his crony friends.  That is the only reason for ALL government bailouts.    Complying with bankruptcy law means bank CEOs and UAW labor leaders are forced to face facts:  they are idiots.    Bailouts allow political cronies to avoid losing face.


Tyler -- consider taking this Krasting guy off your reading list.   He really has lost it -- this is the third non-sensical and erroneous post he made in a row

new game's picture

logic is starting to sugest bk is the blance we need to see the "other point of view".

Disclosure:tb off and zero msm

thanks bk for understanding what is wrong...

Eireann go Brach's picture

With a name like Barrack, you are obviously a skinny black man with an oversized ego, who does some community organizing, and is just an all round fucking shitbag!

Bruce Krasting's picture

I go way back on this story. This is what I said FOUR FUCKING years ago:


This is a different situation than the old GM common. Old GM shares are
worthless. The courts say so. The status of FRE/FNM common is not as
clear. Technically the shares still represent a claim on the companies.
The claim is valid and worthless at the same time. As with any
bankruptcy this matter must be addressed at some point. If for no other
reason than to eliminate the voluminous public disclosure requirements
of the NYSE, the common stock’s status should be resolved. It should be



Got that? I said it should have been resolved 4 years ago. I said the door should be closed. But that didn't happen.Don't blame me for this outcome.


And on Hank P, did you read his book? He was the mastermind of this.



rocker's picture

Agree with of much of what you say Bruce. Except for one detail. Your giving Hank too much credit.

Me thinks, Neel Kashkari was the Mastermind.  Guess what. He came from Goldman.

Went to Treasury at Hank's request. And is now a Pimco advisor Boy Toy.  Hmmmm.

the grateful unemployed's picture

all bankruptcy law (including those who were bankrupt according to their mortgage contract) was set aside at the 2008 preemptive crisis. i warned my friends at the time (incorrectly as it turns out) that when the banks holding mortgage paper get into trouble they will sell your loan to another (stronger) bank who can renegotiate the terms, or simpy call the loan. this is the law, or was the law, just as bondholders receive liquidated assets ahead of any other security. (unless you're in Argentina, in ARG the bondholders lost half, while stock holders were made whole)

liquidate the MBS paper, let home prices drop to a level commensurate with demand, and let the stock sink or swim on the basis of any new business it can create. to hell with this limbo economics. the claim is valid and worthless at the same time.. come on..

sgorem's picture

+1 "Limbo economics." kinda makes a matching set with VooDoo economics and Trickle Down Economics. guess the end result is always the same, apocalypse.

Yancey Ward's picture

I think your criticism misses the mark.  It really does matter, legally anyway, how the bailout was performed.  Paulson had the opportunity to legally wipe out all the equity stakeholders in 2008 leaving the Treasury with sole ownership of the GSEs, but he chose not to do that, instead accepting just an 80% stake.  Just because you own 80% of something doesn't give you the legal right to steal the other 20%.

LawsofPhysics's picture

How about letting the motherfuckers die, no bailouts, period.  go fuck yourself.

Almost Solvent's picture

Go fuck your mother. (fixed it)

sgorem's picture

"taxpayer will make money" I beieve we've just read the Greatest oxymoron of all time!

nmewn's picture

Its a miracle!

Print All.

Jumbotron's picture

Add to this the exoneration of John Corzine.

It's official.....He's Free.



MayIMommaDogFace2theBananaPatch's picture

I thought the dream of Corzine going to jail seemed a little too rosy for these crazy times.  Gave me a scrap morsel of hope for about a week or two.

ATM's picture

But he was thoroughly investigated and found to have broken no laws.


Of course that law about stealing other peoples money they didn't look at. But for everything else he's clear! 

Non Passaran's picture

That is GREAT!  

I can't wait to invest in his next gig!


Number 156's picture

How do you sue the federal government and win?

nmewn's picture

The same way the government does off the judge.

Bob Sacamano's picture

As someone who is long FNM pfd, the question is how much is there to go around?  Enough to pay back the government with a 10% return and some percentage to preferred shareholders?   Given I bought a couple of years ago and sold half at big profit in the past month or so, I am happy to be playing with house money at this point.

mind_imminst's picture

I smell bullshit on this theme that the "taxpayer will make money", that it is all awesome, blah, blah. If the FED were not printing money to buy the sack of shit MBS paper, Fannie and Freddie would still need hundreds of billions of taxpayer money. How is this a good thing for anyone? Whether printing money to bailout bankrupt governments or zombie quasi-government agencies.....I am still getting screwed. I don't get money from the FED and I have yet to see my "taxpayer" profit sharing check from Fannie/Freddie

Joebloinvestor's picture

This never would have been possible with money based on something of value instead of smoke and mirrors and ink.

ebworthen's picture

There will be no justice until Hank Paulson is strung from a tree and the FED ended.

$45 Billion per month in MBS's is not to benefit the citizens of the U.S.

The U.S. taxpayer is SCREWED, period.

Crtrvlt's picture

"The answer is that he never, in his wildest imagination, believed that the Fed would keep interest rates at zero for five years and buy Trillion of MBS."


sure he didn't 

NotApplicable's picture

I believe that this is the last Krasting article I'll ever bother to read.

That anyone believes this pathetic excuse, yet expects to be taken seriously...


Imminent Crucible's picture

I'm afraid Bruce jumped the shark with this one. It is almost inconceivable to me that he doesn't see what's wrong his thesis:  Hank Paulson knew exactly what he was doing. All of the TBTF banks, including and especially Goldman Sachs, were loaded to the gills with bad mortgage paper built out of loans to idiots and screw-ups.  Goldman alone held $96 Billion in what FASB called "Level 3 assets" (no market, no mark, no value). They needed someplace to dump that crap, pronto, before it turned into total compost. Presto! The rules for "agency-conforming" loans were changed so that Fannie and Freddie became the dumpsters.

Fannie and Freddie are not turning a profit. They are Marking to Unicorn even as the Fed subsidizes their losses and buys their toxic waste. The taxpayer is not going to come out ahead on this---how could he? The Fed is diluting the value of his life savings and his paycheck by over $1 trillion each year, JUST in bond subsidies for MBS and Treasury debt that no one else will make a market for.

I give up on Bruce. He still believes in unicorns and central bankers.

fonzannoon's picture

I think Bruce knows very well that Paulson knew exactly what he was doing.

Bruce knows the deal, and that is why he is writing less and less. He has to make a choice. Don't write at all, or tell it like it is. 

No more make pretending this is a mystery novel  and we are all trying to figure out whodunnit.

No more bullshit. Say it, or say nothing.

eclectic syncretist's picture

Exactly, if Krasting knew how to think and write correctly or truthfully, he would have written something like this

or pointed out these facts

otto skorzeny's picture

kind of like kyle bass- they know the jig is up but they keep quiet for fear of "brake failures" on their cars.

the grateful unemployed's picture

why do you think F/F's bad paper would be on the Treasury, several prominent Senators said that was not the case (he put off a SS today for one tomorrow, typical politician) F/F's continued zombie existence is based on the Feds misguided policies. (so Paulson backed Bernanke in a corner, just as he did when they broke the law by violating BOA shareholder rights) all of which had been set up, big dog little dog, during the second term of W Bush, when Bernanke was made a stooge of Treasury, he had to travel repeat talking points, and go to cabinet meetings. goobbye independent Fed. Paulson and Bush are guilty of criminal actions, Bernanke is an accesory. and F/F's stock price isn't exactly blushing success. the taxpayers got their money back, which they never should have committed in the first place. this isnt a shit storm, its a fart in a whore house, the real shit storm is still out there.

LawsofPhysics's picture

Meh,  the real shitstorm will come when the supply lines break in earnest, EBT cards don't work and/or all those baby boomers go to the bank to find it closed indefinitely and their pensions are worthless.  That which cannot be sustained, won't be.   Hedge accordingly.

eddiebe's picture

 If it looks like things don't turn out to your liking, no problemo: You just change the law.

Longing for the old America's picture

Yup. They should have used BK to end FNM and FRE at the start. Same with GM and Chrysler. Going around the rule of law leads to problems later.

Tax loss carryforwards would not been allowed in BK and those stupid 'tax assets' wouldn't be clouding the picture either.



Dingleberry's picture

I thought that the fed was only supposed to take AAA rated assets on its balance sheet. Clearly, this shit was not, and still is not, anywhere near that.