07 September 2008

Paulson's Statement on Freddie and Fannie with a Nearly Simultaneous Translation

Some significant excerpts From Mr. Paulson's statment with our irreverent "follow the money" interpretation and a very few gratuitous remarks:

"Based on what we have learned about these institutions over the last four weeks - including what we learned about their capital requirements - and given the condition of financial markets today, I concluded that it would not have been in the best interest of the taxpayers for Treasury to simply make an equity investment in these enterprises in their current form."

Fannie and Freddie were so hopelessly insolvent, and the widening in the spreads so alarming, that the major players, whom we faithfully serve, were concerned that the Credit Default Swaps would start to come into play, risking the banking system. A secondary but important consideration was the anger of the major sovereign nations whom we have financially compromised in general, selling them enormous tranches of GSE debt with 'implicit' guarantees.

"Therefore, the primary mission of these enterprises now will be to proactively work to increase the availability of mortgage finance, including by examining the guaranty fee structure with an eye toward mortgage affordability."

We needed another waste bin to place the bad debt and policy errors and JP Morgan was getting full.

"...the GSEs will modestly increase their MBS portfolios through the end of 2009. Then, to address systemic risk, in 2010 their portfolios will begin to be gradually reduced at the rate of 10 percent per year, largely through natural run off, eventually stabilizing at a lower, less risky size."

The debt will be monetized until the dollar falls from sheer exhaustion. (Have you ever known ANY government program with lots of influential recipients on both sides of the political spectrum to be reduced in size? This is not just a policy statement; it is a political IQ test.)

"First, Treasury and FHFA have established Preferred Stock Purchase Agreements, contractual agreements between the Treasury and the conserved entities. Under these agreements, Treasury will ensure that each company maintains a positive net worth. These agreements support market stability by providing additional security and clarity to GSE debt holders - senior and subordinated...This commitment will eliminate any mandatory triggering of receivership and will ensure that the conserved entities have the ability to fulfill their financial obligations."

The Debt Holders will be paid as close to face value as is feasible. PIMCO, the People's Republic of China, and the Credit Default Swaps players will be happy as the default spreads contract and the potential losses from this enormous Ponzi scheme recede into the future when it will be more convenient to blame this mess on someone else based on some event.

"It is more efficient than a one-time equity injection, because it will be used only as needed and on terms that Treasury has set."

Our cronies are going to bang this gong until the public's ears ring and the dollar reaches near collapse.

"Treasury receives senior preferred equity shares and warrants that protect taxpayers. Additionally, under the terms of the agreement, common and preferred shareholders bear losses ahead of the new government senior preferred shares."

Despite the brave face that Wall Street may wish to put forward on this, the common and preferred shareholders are going to be thrown overboard, and all holders of the dollar are going to absorb significant losses, but it may take some time.

"Market discipline is best served when shareholders bear both the risk and the reward of their investment. While conservatorship does not eliminate the common stock, it does place common shareholders last in terms of claims on the assets of the enterprise."

(Rightfully so. We'd like to see a haircut provided to the debt holders as well though, especially the arbitrageurs like Pimco that loaded up on GSE debt expecting a bailout. They are not being saved; they are being rewarded.)

"Similarly, conservatorship does not eliminate the outstanding preferred stock, but does place preferred shareholders second, after the common shareholders, in absorbing losses. The federal banking agencies are assessing the exposures of banks and thrifts to Fannie Mae and Freddie Mac. The agencies believe that, while many institutions hold common or preferred shares of these two GSEs, only a limited number of smaller institutions have holdings that are significant compared to their capital."

The Wall Street banks have long envied and resented the competition of Fannie and Freddie on 'their turf.' The regional banks are annoying. This can be a win all for Wall Street in that they get to claim another big chunk of the pie, hit the public money for significant gains, and eliminate rivals.

"The agencies encourage depository institutions to contact their primary federal regulator if they believe that losses on their holdings of Fannie Mae or Freddie Mac common or preferred shares, whether realized or unrealized, are likely to reduce their regulatory capital below "well capitalized."

Your friendly government is ready and waiting to help you. heh heh Just don't let the public know you are in trouble.

"Preferred stock investors should recognize that the GSEs are unlike any other financial institutions and consequently GSE preferred stocks are not a good proxy for financial institution preferred stock more broadly."

Only buy preferred stocks recommended to you by Goldman Sachs and Morgan Stanley, or preferably Goldman Sachs and Morgan Stanley preferred debt itself. We need to recapitalize.

"The second step Treasury is taking today is the establishment of a new secured lending credit facility which will be available to Fannie Mae, Freddie Mac, and the Federal Home Loan Banks."

We are going to be monetizing our way out of this fiasco, make no mistake. (It will be interesting to see if this money comes directly from the Treasury or the NY Fed. This is not incidental, it is important because it will tell us how many RPMs the printing machine has at the top end.)

"Treasury is initiating a temporary program to purchase GSE MBS... Treasury will begin this new program later this month, investing in new GSE MBS. Additional purchases will be made as deemed appropriate. Given that Treasury can hold these securities to maturity, the spreads between Treasury issuances and GSE MBS indicate that there is no reason to expect taxpayer losses from this program, and, in fact, it could produce gains. This program will also expire with the Treasury's temporary authorities in December 2009."

Here's the money shot. Direct monetization of private debt by Treasury. Cry havoc and bend the Buck over the washtubs.

"Because the GSEs are in conservatorship, they will no longer be managed with a strategy to maximize common shareholder returns, a strategy which historically encouraged risk-taking."

This is making our intent very obvious for all you Harvard business grads out there.

"Fannie Mae and Freddie Mac are so large and so interwoven in our financial system that a failure of either of them would cause great turmoil in our financial markets here at home and around the globe. This turmoil would directly and negatively impact household wealth: from family budgets, to home values, to savings for college and retirement. A failure would affect the ability of Americans to get home loans, auto loans and other consumer credit and business finance. And a failure would be harmful to economic growth and job creation."

All the financial dons have agreed to this. They expect the foot soldiers to say nice things about it, and how necessary it is to our well-being. The usual sanctions of omerta apply. And we do not wish to hear any talk about Moral hazard and especially any whistle-blowing.

"...our collective work is not complete. At the end of next year, the Treasury temporary authorities will expire, the GSE portfolios will begin to gradually run off, and the GSEs will begin to pay the government a fee to compensate taxpayers for the on-going support provided by the Preferred Stock Purchase Agreements. Together, these factors should give momentum and urgency to the reform cause...Because the GSEs are Congressionally-chartered, only Congress can address the inherent conflict of attempting to serve both shareholders and a public mission. The new Congress and the next Administration must decide what role government in general, and these entities in particular, should play in the housing market."

Reform THIS you bleeding hearts.

"there are ways to structure these entities in order to address market stability in the transition and limit systemic risk and conflict of purposes for the long-term."

Here is the Goldman Sachs managed accounts form. Please review it carefully and sign at the places indicated.

Full Text of Paulson's Remarks on Freddie and Fannnie Takeover