Piper Defends GSEs After Major Kick in Fannie from Mr. Market

 |  Includes: FMCC, FNMA
by: Notable Calls

Piper Jaffray is out with comments defending Fannie (FNM) and Freddie (FRE) this morning noting Government Sponsored Enterprise [GSE] shares have gotten pummeled this week, with FNM shares  off 30% and FRE  off 45%.

Interestingly, there has not been one significant piece of macroeconomic or company-specific news on either company to drive the decline, in Piper's view. They believe FNM will likely not need new capital unless credit losses rise to over 40 bps, which would be about triple current levels.

The drop began on a bullish competitor's speculative note on capital and proposed FASB accounting changes (dispelled by the regulator). FNM/FRE's regulator, OFHEO, put out a press release last night saying "they are adequately capitalized with capital well in excess of OFHEO-directed requirements, have large liquidity portfolios, access to the debt market and over $1.5 trillion of unpledged assets." Piper doubts anyone will listen as fear is so high. They remain cautious with Neutral ratings on the GSEs due to concerns about credit.

The firm notes that to upgrade, they need to get some confidence in the peak in credit losses, which they have not been able to do yet. Still, they have been surprised by the decline in FNM and FRE, as there has not been one significant piece of fundamental data to drive the decline.

The bigger decline for FRE is due to the fact that they have not raised capital (FNM recently completed a $7.4 billion financing), which they believe could make FRE capital ratios close to regulatory minimums by year end '08 unless they slow the growth of the portfolio

Piper is lowering its price target from $30 to $15, which is based on 6x their 2010 estimate of $2.50 in EPS. This multiple is well below historical levels (12x is the 10-yr median P/E multiple) due to the lack of visibility on peak credit losses.

They are lowering their price target on FRE from $28 to $9, which is based on 4x 2010 EPS estimates of $2.20.

Notablecalls: We have NYT reporting the U.S. government is considering taking over mortgage finance companies Fannie Mae and Freddie Mac if their funding problems worsen, in a plan that could leave shareholders nothing, citing people briefed on the matter.

These are pretty harsh statements that will likely send the shares down some more this morning. Yet, as Piper Jaffray notes, things are not as ugly as the media indicates.