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The Main Reason Why Fannie And Freddie Shareholders Will Ultimately Prevail

|About: Fannie Mae (FNMA), Includes: FMCC

Summary

The 'main reason' why shareholders will ultimately prevail is because we have a 'small target'.

The case against the Net Worth Sweep is very very 'strong'.

As Michael Kinsley once said, "the scandal isn't what's illegal, the scandal is what's legal.".

As more and more details emerge regarding the conservatorships of Fannie Mae (OTCQB:FNMA) and Freddie Mac (OTCQB:FMCC), more people are beginning to question whether the initial bailouts were even necessary. More people are beginning to question the initial act of placing the GSEs into conservatorship.

At present, people who are long the GSEs can be split into three camps:

Camp 1: People who question the motives behind the initial bailouts. People in this camp believe the GSEs were adequately capitalised and that the Treasury draws were primarily due to accounting loses and not economic losses.

Camp 2: People who do not question the initial act of placing the GSEs into conservatorship but question the legality of the warrants. People in this camp believe that the government has been compensated adequately through the imposition of a 10% dividend and, therefore, should not be exercising the warrants.

Camp 3: People who do not question the initial act of placing the GSEs into conservatorship and do not question the legality of the warrants. People in this camp only take issue with the third amendment (Net Worth Sweep). This is the camp that I am in.

In light of all the information that has emerged regarding the conservatorships of the GSEs, it actually would not be too difficult to frame a strong argument in favour of those in Camp 1 or Camp 2.

Fortunately, that is not necessary. The lawsuit currently progressing through Sweeney's court only challenges the legality of the third amendment (Net Worth Sweep). In other words, we are employing a 'small target' strategy in the courts.

This is the 'main reason' why shareholders should be confident that we will ultimately prevail. There really isn't a lot that the courts need to be convinced of. We are not challenging the initial act of placing the GSEs into conservatorship.

In fact, people in Camp 3 encourage the government to declare 'mission accomplished' and announce that:

1. The GSEs have been reformed. Measures have been taken to de-risk them.

2. Taxpayers have been paid back in full.

3. The warrants for 79.9% of the common shares will be exercised.

4. This has been one of the most profitable investments the US government has ever made. Taxpayers have benefited immensely from stepping in.

For us to succeed, all we need to convince the courts of is that the Net Worth Sweep is unconstitutional. The case against the Net Worth Sweep is very very 'strong'. The Net Worth Sweep was clearly an unjust unilateral government action aimed at shareholders.

Finally, as American political journalist Michael Kinsley once said, "the scandal isn't what's illegal, the scandal is what's legal." All hell would break loose if the courts ruled that the third amendment was constitutional.

If such a conclusion were reached, it would mean that the US Government could place any firm into conservatorship and sweep it of all its profits in perpetuity. This would set a horrible precedent. Judges are very mindful of setting bad precedents.

Disclosure: The author is long FNMA, FMCC.

The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it. The author has no business relationship with any company whose stock is mentioned in this article.