Implications of the GSE Rescue - Credit Suisse

Includes: FMCC, FNMA
by: John Jansen

Someone sent me this piece from Credit Suisse:

Fannie Mae and Freddie Mac Move into Government Conservatorship

On Sunday, the Treasury Department took Fannie Mae and Freddie Mac into conservatorship – effectively having the government run the firms. The action was taken because the government (FHFA and Treasury) are concerned about the safety and soundness of the firms’ capitalization, market conditions, the firms’ financial performance, and the market not allowing them to fund at “normal” prices and reiterated the firms’ importance to the housing market. Below is our view of the market’s reaction, followed by a summary of the government’s actions.

• Agency MBS tightens by 30-40 bps to a nominal basis of around 90 bps (versus swaps), with Ginnie Mae/Fannie Mae swaps collapsing as the MBS retained portfolios grow slightly and the US Treasury steps in as a backstop buyer of new production.

• Senior and Sub Debt move significantly tighter, as net issuance is limited but government support is unquestionable. Callables with locks until 2010, 2011 and 2012 should outperform.

• Preferred Shares sell off as dividends are deferred.

• Common equity trades significantly lower.

Treasuries sell off in a bear flattening amid flight-to-quality unwind and expectations of increased supply. The dip becomes a buying opportunity as the macro landscape remains supportive of lower rates.

• Swap spreads tighten (as much as 10 bps in 5s), led by the belly, in sympathy with mortgage tightening. FRA/OIS likely tighten modestly on improved sentiment, but fundamentally, LIBOR does not fix significantly lower. Front-end swap spreads tighten, as a result of expectations of increased Treasury supply.

• Vols are better bid as MBS buyers, including initially the GSEs, look to lock in attractive OAS levels through hedged mortgage purchases.