Fannie Mae and Freddie Mac, the two mortgage GSEs, will succumb to government conservatorship announced most likely on Sunday. Fannie Mae and Freddie Mac would continue operating, but their stock value would be wiped out.

Fannie Mae and Freddie Mac Bailout

According to The New York Times report,

“Senior officials from the Bush administration and the Federal Reserve on Friday informed top executives of Fannie Mae and Freddie Mac, the mortgage-finance giants, that the government is preparing a plan to seize the two companies and place them in a conservatorship, officials and company executives briefed on the discussions said.

The plan, effectively a government bailout, was outlined in separate meetings that the chief executives were summoned to attend on Friday at the office of the companies’ new regulator. The executives were told that under the plan, they and their boards would be replaced, and their shareholders virtually wiped out, but that the companies would be able to continue functioning with the government generally standing behind their debt, people briefed on the discussions said.

It is not possible to calculate the cost of any government bailout, but the huge potential liabilities of the companies could cost taxpayers tens of billions of dollars and make any rescue among the largest in United States history.”

I have predicted this exact scenario for years now and you can read a previous post called “Fannie Mae & Freddie Mac On The Brink of Collapse” back in May for the back-story, but suffice it to say, “I told you so”.

I expect the announcement by Hank Paulson, the US Treasury Secretary, to be made on Sunday morning before the Asian stock and bond markets open for trading. This was the same tactic they used bank in July when Paulson reassured the world Fannie Mae and Freddie Mac would get the full backing the government when it was becoming clear they were insolvent.

Many argue Fannie and Freddie are “too big to fail” since they carry a combine $5 Trillion in US mortgage debt and a bailout would only cost an estimated $50 Billion. My argument is they are “too big to bail” since we do know the GSEs are heavy derivative investors, but we don’t know the depth of the losses those unwinding, heavily leveraged derivative trades cost them.

A taxpayer bailout could cost more than $500 Billion in my estimation…but of course I’m guessing too.

Fannie Mae and Freddie Mac Stockholders

Paulson and the Fed’s biggest decision is what to do with the preferred stock pegged at $36 Billion in outstanding shares since many regional banks already on the brink themselves, hold those shares. If they can legally find a way to make preferred stock holders whole while wiping out the common share stock holders they will. If Paulson does this, he’d better watch his back. Joe Sixpack has a lot of money through pension and mutual funds still in Fannie and Freddie.

Religion is what keeps the poor from murdering the rich.
~ Napoleon

Since Napolean is right, Paulson better be glad this is a God fearing Nation.

Regardless, Fannie Mae and Freddie Mac will not be same after Sunday.

Good Luck!

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