Life After Fannie & Freddie
A: Just got back from a last minute 4-day trip to a B & B upstate, so sorry for the lack of content. I must admit it was nice to get away for a few days and listen to nothing but nature. I feel a bit out of the loop though, with no internet since Sunday, but couldn't help but notice that the markets seem to be trying to play the GSE hand for the Paulson & the Treasury. With Fannie under $4/share and Freddie under $3/share, life after these institutions gets closer and closer to reality. So, as I discussed two weeks as a matter of WHEN and not IF, what do you think the world will be like when we wake up to the news that Fannie & Freddie are rescued?
Lets keep this a simple audience participation post, discussing what the following markets are likely to do when we awaken to the news that Fannie & Freddie are rescued by the government.
WHAT WILL HAPPEN TO?
1) Stock Markets?
2) Lending Rates?
3) Lending Product Options? 30 YR Mortgage?
4) Gold & Other Commodities?
5) US Dollar?
6) IB's, Major Banks, Regional Banks; residual damage?
7) The Credit Cycle & Deleveraging Process?
8) Account Deficits & National Debt?
9) Other Dynamics?
My two cents? When it happens, I think the stock markets will open down but that the fed will likely do an EVENT RATE CUT to sooth the headline shock to the tradable markets. The dollar will get hit, oil & commodities will surge, and lending rates will likely rise. Lending options will be reduced and I wonder about the idea of the 30 year mortgage being around anymore? I don't really put myself into that camp, just thinking out loud here and wondering if that is in fact a possibility? I think the market will then rally as the perception of this event being behind us & the fed's rate cut, will bring in some buying after the initial selloff; only to fail once investors realize we still have to deal with the economic fallout from this credit tsunami and the institutions that died with it. However, I just don't know enough about collateral damage of an event of this magnitude, or in what form the rescue will take shape, to discuss what life may be like 3,6,9, or 12 months AFTER it happens.
Dig deep, open your mind, and share with me what you guys think will happen both immediately & near term AFTER the rescue of Fannie Mae & Freddie Mac?
Posted by paul.b
Thu Aug 21st, 2008 09:59 AM
Welcome back Noah.
I disagree that the thirty year mortgage will ever go away, but I do agree that the futures will be down significantly when news comes out about fan & fre being nationalized. I can see a rate cut by the fed, as you suggest.
If the rate cut happens, then it would make sense that the dollar declines and commodities priced in US dollars rise. I am more concerned with the longer term effect on our national debt and deficits on this scenario.
My question would be, what are the banks exposure to a failing fan & fre? More writedowns? More losses? Will it prolong this down cycle?
Posted by Noah
Thu Aug 21st, 2008 10:19 AM
hey Paul! Its a good question. I do not know enough about the TIES to answer it. Who are the preferred stockholders? As common stockholders will get wiped out. Debtholders will become owners of the companies. But I would think it would add to the wave of writedowns and extend this credit cycle.
A commenter on Yves at Naked Capitalism's site suggested: "If the US pixelates digits to 'pay off these claims,' they destroy our currency and our debt. That's an outcome no one wants. The logical solution, which I find ugly but realist, would be to guarantee GSE debt but repudiate their MBS guarantees, paying then latter off at a cramdown out of assets or otherwise finding a way to repackage those claims. That would be a major, major policy action, requiring Congress and the Executive to get a firm grip on things; the biggest public intervention of any kind since the 1930s. The present Administration just doesn't have that in them. I don't even know if it would work, but it's a pragmatic way forward."
This is so complex, that I think many of the smartest minds out there will learn something when this is all set and done.
Posted by G-anonymous
Thu Aug 21st, 2008 10:52 AM
its not just a rescue of GSE's, its also a rescue of the preferred shares. That makes it bigger, as insurance companies hold GSE preferred. Thats the unknown.
They should sell the Treasury's, and buy the financials on this rescue. It will stabilize housing for a little while, but interest rates will fly ultimately as people realize they are printing treasuries. This is a 2009 story. Printing goes into hyper mode, and yields will rise. Gold will fly in 2009.
Ultimately, hyper inflation for all commodities. If I can marry gold & oil, Ill do it.
Posted by AA
Thu Aug 21st, 2008 02:23 PM
Hi Noah, I remember you posting Ackman's interview with CNBC on your website a few weeks back. Although I forget the details, I thought that the result was that there is no bailout and FNM/FRE end up with much lower leverage ratios, allowing them to issue more mortgages, which would allow housing to recover. Why doesn't his plan get employed here?
Posted by Noah
Thu Aug 21st, 2008 02:40 PM
AA - well for one, Ackman stands to profit from his plan, so politically, Im not so sure they would want to have any public association with Ackman's plan.
Ackman's plan seemed to make sense, and totally restructure the debt, and he has been in talks with Senators and other top officials about the idea. Time will tell. It may just be that.
Posted by AA
Thu Aug 21st, 2008 02:48 PM
Then in my opinion, if a plan like that is enacted where equity holders, preferreds, juniors get wiped out/severely diluted, FNM/FRE leverage ratios decline to reasonable levels, and the only thing the government gives is a guarantee (no dollars), then I think markets may open down on headlines, but will rocket higher. The dollar strengthens and commodities collapse. Just my 2c and I guess that's what makes a market.
Posted by Noah
Thu Aug 21st, 2008 02:49 PM
Also, Ackman said that preferred will get wiped out with common shareholders in this plan.
As G-ANON above states, that has very big ramifications. That wipes out alot of capital held by insurance companies and other institutions that bought the preferred. I dont think the rescue plan can afford to have this as part of the plan. I think the preferred holders should lose something, but not much. Common is done.
Posted by Noah
Thu Aug 21st, 2008 02:52 PM
Oh I agree. I think the fall will be on the announcement only. The open. I would buy equities, sell gold & other commodities should it play out that way on the event. I think the market will rally after the initial reaction from the news, if it comes. Longer term though, I think any rally should be sold into and shorted into if you take that kind of risk
All depends of course. But if we open say down 300 on the dow futures, and fall to down 400, 10 min into the open, Im buyin!
Posted by jeff
Thu Aug 21st, 2008 03:23 PM
Buy the rumor sell the news. Or in this case sell short the rumor, cover the news. I think the market will rally on a GSE bailout because it has now been so widely telegraphed and it will show further resolve to clean up the mess. I believe that many banks hold GSE preferred shares and with capital so precious the Feds will have to do something to preserve this value. One way of fixing this whole problem would be for the Fed to buy a big pile of GSE paper right from these guys balance sheets and replace it with treasuries. The Fed takes a mark to market haircut and the GSEs get a bunch of liquidity. It would be more efficient than monetizing the entire balance sheets/obligations of these guys. Either way taxpayers are on the hook and the biggest risk is an Argentina,Korea,Thailand style run on the dollar....I don't see that happening because the US is the Donald Trump of the world...no one can afford to call in our loans. I actually see the dollar rallying as foreigners figure we have this under control....they still have to worry about Spain, the UK, Eastern Europe, China, India and Denmark imploding if the world gets too risk averse.
Posted by Noah
Fri Aug 22nd, 2008 09:41 AM
Jeff - interesting. So you expect the dollar to rally on this event, even though the govt will have to print print print to clean up the mess?
Posted by Jillayne Schlicke
Fri Aug 22nd, 2008 01:06 PM
Hi Noah,
I was in the audience at RE Connect last month and enjoyed your panel presentation.
When the GSEs become nationalized, they'll turn into another gov agency. Only the cream-puff loans will go to F&F. Over 700 credit scores, 20% down, all assets and income verified. On the other end we have all the first time homebuyers who are being funnelled into FHA loans.
What's left is the people in the middle. Those who cannot document their income and don't have 20% to put down and don't fit into an FHA loan.
Perhaps covered bonds will come to life and the banks will offer these mortgage loans but the banks will have to have some skin in the game.
We should expect even tigher underwriting guidelines and also much much higher interest rates if banks have to gurantee the mortgages.
Higher rates and tighter guidelines have a negative impact on home prices. Inventory will continue to grow leading to more home price declines.
Noah, my biggest nightmare at this point is FHA.
What do we do if the FHA insurance program fails?
We're pouring so many people into FHA products and with the economy the way it is, if foreclosures continue to rise, we should be planning NOW for problems with FHA.
Posted by Noah
Fri Sep 5th, 2008 09:45 PM
Jillayne - thanks for stopping by! Thanks also for the comment. FHA is certainly another problem for another day. They have picked up slack over past few quarters and Im sure bad loans with it.
Thanks