Friday, 11 July 2008

Fannie and Freddie's Bad Week

Taken from CNN and Bloomberg, some tidbits on the GSEs:
  • At the end of last year, Fannie alone had packaged and guaranteed about $2.8 trillion worth of mortgages, approximately 23% of all outstanding US mortgage debt.
  • Egan Jones estimates that Freddie alone will need to raise $7 billion over the next two quarters due to writedowns and losses. The company's market capitalization is $8.7 billion.
  • In an April report, Standard & Poor's said an Armageddon scenario whereby Fannie and Freddie are insolvent is unlikely, but that if it happened, the cost to U.S. taxpayers would be more than $1 trillion.
  • Former St. Louis Federal Reserve President William Poole said recently: ``Congress ought to recognize that these firms are insolvent, that it is allowing these firms to continue to exist as bastions of privilege, financed by the taxpayer''
  • ``I worry about those institutions,'' retired Richmond Fed President Alfred Broaddus said. ``They are huge. They dwarf the Bear Stearns issue. In the very worst case scenario, I don't know how you do it other than extend money and the public takes the loss.''
  • CDS on Fannie and Freddie senior debt now trade at more than 80bps.
  • The one year return on both of the stocks is approximately -80%.
Update. The FT fills in some more background.
Investors were unnerved by a warning from Bill Poole, former president of the Federal Reserve Bank of St Louis, that the chances that a bail-out of Fannie and Freddie might be needed were increasing.

Mr Poole said Freddie Mac owed $5.2bn (£2.6bn) more than its assets were worth in the first quarter, making it insolvent under fair value accounting rules.
And needless to say, investors have taken note despite attempts by Bernanke and Paulson to reassure the markets. Fannie was down 13% yesterday; Freddie, 22%. It seems that my earlier sarcasm really was justified. Oh and the NYT says that a regulatory takeover is being considered. It's probably too late to short the stock, but is selling default swaps on the senior debt a good trade at the moment?

Update. John Dizard thinks so. From the FT:
I have what Wall Street calls a "strong buy" recommendation: buy the senior debt of Fannie Mae and Freddie Mac. You can get a risk-free spread over US Treasuries. If you want more leverage, and you have a line with a credit default swap dealer, then sell five-year protection on the names.

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