Government rescues Fannie and Freddie… who loses, who wins and how it’ll affect your money
Markets of the world rejoice (except one)
Americans more “miserable” than ever… inflation, unemployment and housing stats all disappoint
Another bank bites the dust
Dollar, gold react strangely to Fannie and Freddie bailout… The 5’s cast of characters weighs in
Chris Mayer on where — not why — you should be investing in oil
Today’s a good day dust off the old dictionary. One word interests us in particular:
1. A person in charge of maintaining or restoring valuable items, as in a museum or library.
2. One that conserves or preserves from injury, violation or infraction; a protector.
3. One that is responsible for the person and property of an incompetent.
The U.S. government — in what will likely be the biggest bailout in taxpayer history — has declared itself the conservator of Fannie Mae and Freddie Mac. As early as 2004 , we told you it would happen. Now it has… so what does this “conservatorship” even mean?
First, taxpayers are on the hook. The U.S. Treasury has already pledged $2 billion in emergency financing to each company, and has hinted it’s not interested in doling out more than $200 billion. But there is no official cap on the bailout… sky’s the limit, baby.
Some of those billions will be used to shore up Fannie and Freddie balance sheets. But most will buy mortgage-backed securities on the open market. Such a policy — in theory — would restore confidence in that market and simultaneously keep Fannie and Freddie afloat. As Bill Gross famously said, if the Treasury wants investors to buy the U.S. mortgage market, they have to "swim in the pool, not just be a lifeguard."
Treasury Secretary Hank Paulson promised that money borrowed from the government and taxpayers will be the first to be repaid. Our bloggin’ brother Dave Gonigam has a poll going at The Daily Reckoning blog as to how much this fiasco will really cost… you can cast your vote, here.
Fannie and Freddie shareholders are screwed. This strange conservatorship allows the shares of each company to continue being traded. But the government has yanked all dividends, eliminated Fannie and Freddie government lobbyists and demanded the companies shrink their portfolios. Secretary Paulson said his plan places “common shareholders last in terms of claims on the assets of the enterprise.”
Fannie Mae shares opened down 84% this morning, to a puny $1.06 a share. Freddie was down 80% to 99 cents a share.
Sorry, but if you were crazy enough own these “businesses,” you deserve it. We give a particular pat on the back to “smartest guys in the room” like Bill Miller, Rich Pzena, David Dreman and Marty Whitman. These famous fund geniuses bought tens of millions of Fannie and Freddie shares this year on behalf of their loyal minions.
Bondholders can breathe easy. The U.S. government was smart enough to placate the countless foreign governments, global businesses and zillions of investors that hold Fannie and Freddie bonds. According to the Treasury, they’ll still get paid.
And Fannie and Freddie CEOs get permanent vacations and fat bonuses. Dan Mudd and Richard Syron, Fannie’s and Freddie’s CEOs, were fired today. Both have “earned” about $26 million in cash and stock compensation since 2003-2004. And according to The New York Times today, both stand to collect a total of $23 million in severance.
Mudd will be replaced by Herbert Allison — former COO of Merrill Lynch, former John McCain finance committee head and, most recently, chairman of the mega-money management firm TIAA-CREF. Freddie Mac will now be run by David Moffett. He’s the former CFO of the subprime-slammed U.S. Bancorp and sits on the board of MBIA, among others. His latest role was as senior adviser to the Carlyle Group… a controversial hedge fund with close ties to the Bush family, the U.S. defense industry and Middle East oil.
“Hey, we’ve got an incompetent CEO too,” we imagine the board of Washington Mutual echoed this weekend. So they’d axed their man, Kerry Killinger, who had been CEO for 18 years.
Major stock markets around the world love the Fannie and Freddie bailout. The Taiwanese pushed their major index well over 5%, the best single day for their market in five years. Just about every other Asian index, save the Shanghai Composite, rose 3-4%. Chinese investors sold their major index down 2.6%, to a 21-month low. Investors there are still worried that the Chinese economy is slowing faster than anticipated.
Germany and France were psyched, too. Their big indexes rose 2.6% and 4%, respectively.
The IT geeks at the London Stock Exchange picked the worst possible day for a connectivity issue. The LSE suspended trading for three hours today, the longest halt in eight years. Not only were traders champing at the bit to trade on the Fannie/Freddie news, but the FTSE just came off its worst weekly decline in six years. For all the turmoil, the FTSE still managed to gain 3.8%.
And here in the U.S., the Dow opened up around 300 points. If you own a financial, it’s probably up, big-time. The more mortgage risk today, the “better.”
Yet Americans haven’t been this miserable in 17 years. The misery index — simply the unemployment rate plus the rate of consumer inflation — rose to 11.7% after Friday’s jobs report. You’d have to go back to 1991 to find tougher living conditions for the average Joe.
What’s more, a record 1.2 million homes were in foreclosure during the second quarter of 2008. According to the latest from the Mortgage Bankers Association, 2.8% of all outstanding home loans are in some process of foreclosure. That’s double from this time last year.
On top of those 1.2 million in foreclosures, an extra 2.9 million homeowners were late on mortgage payments in the second quarter, also a record high.
Another bank quietly failed over the weekend. Silver State Bank of Nevada was taken over by the FDIC late Friday, the 11th bank failure of the year. The FDIC said that shoring up Silver State’s $2 billion balance sheet will cost the government agency up to $550 million.
We can’t believe the dollar’s reaction to the Fannie and Freddie news. The dollar index is off to the freakin’ races this morning, up a full point from the weekend’s lows, to 79.2. That’s nearly a one-year high.
“The fact that the dollar didn’t lose ground,” says our currency counselor Chuck Butler, “is a sign… It’s a sign that we’ve moved to a period of time, much like in 2005, when bad data don’t affect the dollar. It’s like I’ve said a couple of times now, that the markets have become comfortably numb with the awful data in the U.S. and it would take something BIG to make them notice it these days.
“Something big like Fannie and Freddie being taken over by the U.S. gov’t, which will cost taxpayers billions and billions of dollars… but… apparently not!”
If you’re an American traveling abroad this week, you’re in luck. The euro is down to $1.41, an 11-month low. At $1.76, the British pound hasn’t been this “cheap” since 2006. Versus the euro, the pound is at an all-time low. And the yen gave up all of last week’s gains this morning, and goes for 108 as we write.
Gold hasn’t risen quite as high as we anticipated. The spot price is up about $5 from Friday’s close, to around $805 an ounce.
“Had you told me two years ago,” writes Ed Bugos, summarizing our surprise, “that the coming downturn would have wiped out Bear Stearns, Fannie Mae and Freddie Mac, to name the most apparent examples, I would not have been surprised.
“However, if in the same breath you said to me that gold would still be at $800, I would have jumped up and down, stomped my feet, pulled my hair out and pounded my fist on the table in outright disagreement… much as I am doing today. How many buy signals does a bull market need?”
Oil is standing still today, at $106 a barrel. But that’s not to say there’s no news floating around the oil patch.
The stronger dollar is pushing prices down relentlessly. But on the buy side, we see Hurricane Ike is barreling toward the Gulf. He’s set to hit the oil industry there on Saturday.
OPEC ministers are also holding a scheduled meeting in Vienna today. They’re expected to keep production levels the same, but the usual suspects (Iran, Venezuela) are clamoring for an output reduction.
Then there’s the pirate attacks in the Indian Ocean. Yeah, you heard us… pirates… YARRR!
33 vessels have been attacked by pirates in the Gulf of Aden this year, triple last year’s total. Aden, which connects the Red Sea to the Indian Ocean, is a crucial passage for the oil industry… 4% of the world’s oil travels through this sea lane every week. So you can add yet another body of water to the ever growing list of volatile energy choke points.
“60% of all of the world’s petroleum products wind up in the hull of a tanker,” notes Chris Mayer, “and nearly all of that must pass through a handful of key sealanes. These choke points basically limit the flow of oil — as they are already near or at maximum capacity — and can’t be easily bypassed. And some of the biggest and most important routes are quite dangerous and susceptible to shutdowns due to war or violence.
“All of this only reinforces the appeal of oil and gas assets nestled in relative safety in North America.”
In both Capital & Crisis and Mayer’s Special Situations, Chris’ readers own oil and gas plays safely cradled in British Columbia and the Appalachians. They may not be 100% immune to global turmoil, but it sure seems easier than betting on the whims of Middle Eastern governments, predicting Gulf Coast hurricanes or fighting off angry pirates.
By the way, Chris’s latest “royalty program” enrollment ends in two days. If you want to join his ranks collecting royalty payments from organizations around the world, there isn’t much time left. Get the details, here.
“How much of the $1.8 trillion TAF/TSLF debt is currently outstanding?” asks a reader of our coverage of the Fed’s credit crisis lending program.
“For example, if Bank A gets a 30-day loan and repays it 30 days later, only to replace it with another 30-day loan of equal amount, then the most the Fed is currently out at any given time is the original loan amount. If the bank does this 10 times, the total figure looks 10 times worse than the actual credit extension really is (or what the Fed might suffer if all such loans simultaneously defaulted).
“Elsewhere, I believe Agora Financial recently wrote that the Fed’s balance sheet shows about $100 billion of ‘other’ on it, which might reflect the total amount the Fed has extended to the financial community, net of loan paybacks.
“Please correct my understanding if askew… It would be nice to know roughly how much is currently ‘at risk.’”
The 5: We can’t speak — not yet, anyway — of the $100 billion in “other” charges. But it certainly wouldn’t surprise us.
“The loans are short term,” says another. “Is the total you gave in The 5 the total outstanding or just the amount given out, without subtracting the amount paid back? There is a very big difference, and the implications of you being correct are staggering. Are you sure?”
The 5: A big difference, indeed. The short answer is: We don’t know. And best we can tell, neither does anyone outside the Fed. According to the rules they laid out, the Fed allows the banks to roll over the loans if banks fork over more collateral. But they don’t tell the public if the loans are getting paid back or not. They don’t tell us which banks and brokerages are bidding for these securities… could be the same five players every week, or it could be many more.
Really, for such a potentially massive amount of money, the Fed doesn’t tell the public much of anything. The $1.8 trillion we reported is the maximum amount of loans outstanding, but the real number is probably less. By how much? You’d have to ask Ben Bernanke. Send him a question, here.
Thanks for reading,
The 5 Min. Forecast