Fannie Mae (OTCQB:FNMA) and Freddie Mac (OTCQB:FMCC) have been forced by agreements negotiated on their behalf between the government and itself to hand over $100B+ to the government since conservatorship began. On top of that, the government now maintains $187B of liquidation preference in their senior preferred shares as well as 79.9% warrant coverage. If that isn't one sided enough to determine that the following statement in court was a lie, the rest of this article is dedicated to demonstrating that these deals were designed around taking so much out of Fannie Mae and Freddie Mac that there would by design be nothing left for GSE equity shareholders who own their publicly traded securities:
Investment Opportunity In Brief: The government has these deals currently structured so that they take everything. There are lawsuits pending in multiple courts all seeking to reverse certain actions the government took with respect to how it handled the conservatorship of Fannie Mae and Freddie Mac. Combined the GSEs make $15B/annum and analyst estimates start at $20 if the net worth sweep is voided. The economic substance of the deals the government arranged for the GSEs is a nationalization where the government takes hundreds of billions of dollars out of the GSEs and then blames the GSEs for being broke.
Delaware Lawsuit Plaintiff Calls Government Actions A Stick-Up
Plaintiff Gary E. Hindes aptly describes this as a stick-up. With regards to intent, Gary suggests that the emails that the government has refused to produce until recently reveal more than enough:
This lawsuit went through the dry cleaners and voluntarily decided to dismiss Counts III through X which were subject to FHFA's and Treasury's motions to dismiss. What remains here is the argument that a preferred stock cannot be common stock, that is to say a preferred stock cannot take 100% of the earnings of the GSEs which is precisely how the government set theirs up.
Perry Capital Appeal
Both the Perry Capital Appeal and the Delaware lawsuits would have the same effect of voiding the net worth sweep if plaintiffs emerge victorious. The Perry Capital Appeal is first up and is expected to rule this month. Rulings come out on Tuesdays and Fridays around 11am. The premise behind the Perry Capital argument is that it is not an act of a conservator to have an agreement that forces the enterprises its conserving into insolvency when the statutory framework promotes solvency. The government's argument here is that the GSEs were in a death spiral hemorrhaging cash. Technically that's sort of true because it was the government's own involvement that was forcing them to hand it all over. To be an employee at the GSEs was to follow orders or to be replaced by someone who would, so it's understandable how the government didn't get pushback inside of the GSEs.
Accounting Fraud Lawsuits
The nature of the SPSPA and the warrants have been designed around government off balance sheet accounting:
Basically the premise behind the accounting fraud lawsuits is that the PSPA is tied to audited financials and that the accountants who signed off on the fraud are liable. The government has attempted to substitute as plaintiff. The accounting fraud was where the magic of conservatorship happened. In simple terms, the government took GSE assets by writing them off in conjunction with the net worth sweep.
Summary & Conclusion
The government took all the money and in court they claim that if they didn't take all the money the shareholders would be better off. Lawsuits have been filed and the Perry Capital Appeal ruling is expected this month. The government's attempt to cover up documents has been failing as evidenced by documents continuing to come out on a now somewhat regular basis all supporting plaintiff arguments. Whether or not accounting fraud happened or not is undermined by the actual cash flow which proves it did. With respect to whether or not the government can substitute itself or if plaintiffs can get past the motion to dismiss or what may happen if Perry Capital gets reversed, it's all up in the air.
The fact remains that PwC showed FHFA how to implement capital draws.
I have 4,050 shares of FMCCH; 9,340 shares of FMCCP; 4,442 shares of FMCCT; 500 shares of FMCKO; 6,585 shares of FMCKP; 25,092 shares of FNMA; 27,085 shares of FNMFN; and five shares of FNMFO.
Disclosure: I am/we are long FMCCH,FMCCP,FMCCT,FMCKO,FMCKP,FNMA,FNMFN,FNMFO.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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