FNMA and FMCC preferreds. In search of the elusive 10 bagger.

[Guest cherzeca]

at 60bp g-fee, Ackman suggested 14x $15 net income would be around $23. A more conservative 10x multiple would put you at $17.

 

Tim Howard (ex CFO) suggests 10x his net income number of $10.6B (I think he uses a lower g-fee?) and then adds 10% for favorable surprises and subtracts 20% for negative surprises and gets about $15-20 on a fully diluted share count.

 

real tim howard posits sustainable net income of $10B/yr for fnma.  somewhat conservative, especially if there is tax reform, but let's go with that.  assumes only guaranty business. i place 12x p/e to get to $120B equity valuation. 

 

if NWS invalidated or rolled back in a recap (and in order to raise new money, dont you first have to quite explicitly tell market that NWS was wrong and will not advantage govt ...other than to move forward in time receipt of what govt originally contracted for), then senior pref = $20B.  there is $19B in junior pref, at par.

 

leaves $81B for common equity, divided by 5B shares on a fully diluted basis, gets you to $16/share.  to be sure subject to dilution for new equity raises to raise capital levels. also, would fnma interest costs rise after "implicit" guarantee is explicitly "removed"? interestingly, real tim howard thought that interest rate borrowing benefit for fnma mostly allowed fnma to build up mortgage portfolio for credit arbitrage, and that it did not benefit core guaranty business, so going forward, there would not be much of a downside delta from removal of implicit guaranty.

[BeerBBQ]

Sorry, maybe "wipe" was incredulous - you're both much more informed on the topic.  But if we assume the approach is full privatization, I think Tim Howard's post with respect to Demarco's proposals (risk transfer mechanisms) is relevant.  Effectively "first loss capital" would have to be raised at 3.5% of assets  = $158bn.  Tim Howard argues that the proposed sources of the risk-sharing capital are largely insufficient to reach the $158bn (probably can only account for ~$20bn of the $158bn); in this event is the solution not an offering of common stock significantly diluting the shares (consistent with KBW analysis) effectively making them a poor investment?

 

Tim Howard has talked about $90B being needed and that DeMarco/others estimates for equity capital needs are too high.  I think $90B is about 5x actual credit losses experienced. 

 

[SnarkyPuppy]

at 60bp g-fee, Ackman suggested 14x $15 net income would be around $23. A more conservative 10x multiple would put you at $17.

 

Tim Howard (ex CFO) suggests 10x his net income number of $10.6B (I think he uses a lower g-fee?) and then adds 10% for favorable surprises and subtracts 20% for negative surprises and gets about $15-20 on a fully diluted share count.

 

real tim howard posits sustainable net income of $10B/yr for fnma.  somewhat conservative, especially if there is tax reform, but let's go with that.  assumes only guaranty business. i place 12x p/e to get to $120B equity valuation. 

 

if NWS invalidated or rolled back in a recap (and in order to raise new money, dont you first have to quite explicitly tell market that NWS was wrong and will not advantage govt ...other than to move forward in time receipt of what govt originally contracted for), then senior pref = $20B.  there is $19B in junior pref, at par.

 

leaves $81B for common equity, divided by 5B shares on a fully diluted basis, gets you to $16/share.  to be sure subject to dilution for new equity raises to raise capital levels. also, would fnma interest costs rise after "implicit" guarantee is explicitly "removed"? interestingly, real tim howard thought that interest rate borrowing benefit for fnma mostly allowed fnma to build up mortgage portfolio for credit arbitrage, and that it did not benefit core guaranty business, so going forward, there would not be much of a downside delta from removal of implicit guaranty.

 

How do the inevitable >= 2.5-3.5% capital requirements play into this scenario?  Government warrants?

[Guest cherzeca]

@snarky

 

there will likely be capital raises, likely both through rights offerings and new primary raises, and a bar on making dividend distributions. 

 

this will depress common stock price initially

[SnarkyPuppy]

Right.  I'm just highly skeptical of the $15-20pps that's thrown around given the discussion above.  Still is probably a +EV bet, I just like where the preferreds currently stand much more (as many of you have already stated).

[investorG]

if the warrants are kept, then you are aligned with a CEO who wants to maximize value.

 

and there's a reasonable chance the warrants are ditched:  there's a limit (perhaps 25-50bn) of capital that can be raised per year.  it's clear the companies will need to raise primary shares to build up their capital ratios.  since the govt wouldn't want to squeeze out the primary issuance, that would mean it would take several years to sell their stakes which is inconsistent with Mnuchin's comments that he wants the govt out of ownership.

 

or something in between like the govt raises the strike price on the warrants and then exercises them, which serves as an injection of primary capital and thus doesnt crowd out the company's attempt at raising equity.

[rros]

if the warrants are kept, then you are aligned with a CEO who wants to maximize value.

 

and there's a reasonable chance the warrants are ditched:  there's a limit (perhaps 25-50bn) of capital that can be raised per year.  it's clear the companies will need to raise primary shares to build up their capital ratios.  since the govt wouldn't want to squeeze out the primary issuance, that would mean it would take several years to sell their stakes which is inconsistent with Mnuchin's comments that he wants the govt out of ownership.

 

or something in between like the govt raises the strike price on the warrants and then exercises them, which serves as an injection of primary capital and thus doesnt crowd out the company's attempt at raising equity.

 

Can Treasury transfer the warrants to HUD for Ben Carson's pet projects? And be seen as maximizing social value/ taxpayer's benefit instead. Then, conversion/stock selling can take place over the 4 years presidential term. But I believe either HERA or PSPAs prohibit this as funds should only go into Treasury's general fund.

[investorG]

i'm not sure about transferring the warrants.

 

i do see some preferred holders mocking the commoners on various message boards since the 2:1 relationship has broken down the last couple days on some sloppy media reports.

 

however imo it's not likely that trump would try to negotiate a deal that benefits a couple of his visible and well-documented supporters at the expense of the common / taxpayer (if warrants remain; and if they don't remain then even better).

 

removing the court outcomes, there's a good chance the common is cheap to preferred currently.

 

 

[BTShine]

I don't understand how there's much of a difference whether you return the excess payments or not on the senior preferred. Let's say they've overpaid by $187 billion over the last 4+ years versus paying the straight up 10% dividend.

 

Okay, so you deposit $187 billion into the companies' coffers.

 

Then you have a capital stack that looks like this:

 

Gov preferred stock - $187 billion

Jr. preferred stock - $34 billion

Pub. common stock - residual

 

So it doesn't matter if (A) the $187 billion is used to pay off the senior preferred stock or (B) the $187 billion is given back to the GSEs but is not accrued against the senior preferred stock.

 

Either way, everyone underneath the senior preferred stock (or who remains in the case of the pay off of the senior preferred stock) is "lacking capital."

 

It's not like the $187 billion of senior preferred stock magically disappears at the same time that the companies get back $187 billion of cash...

 

What would help though is if they count the excess dividends as repayment of capital, and adjust the 10% accordingly. So if in 2013 they swept $100 billion, and owed only $18.7 as per 10%, then that $81.3 billion extra not only counts as repayment, but then in the next year the 10% counts only for about $100 billion. So the 2014 excess would be anything over $10bn in dividends, and so on.

 

I agree that having to pay $19 billion a year in dividends for all these years leaves nothing for the common, but there is certainly a range of possibilities in retroactive maneuvering.

 

Mephistopheles,

 

You make the point that I was getting to originally.  If they are able to apply the overpayment to the principle then we reduce the 10% dividend payments going forward form that date, too.  So, if the principle was reduced by $50 Bn, their 10% dividend would be $5 Billion less each year.  Over 4 years that's $20 Billion.  Significant IMO. 

 

 

[TonyG]

What are the odds settlement talks are occurring right now? This way as soon as new admin. gets into white house they can hit the ground running. Just thinking out loud

[BTShine]

I think the shareholders may not want to settle until Mnuchin, etc are in office.  It might take an unbelievably shareholder friendly offer from Obama and current Treasury to get the plaintiffs to settle now.  If I was in the drivers seats I wouldn't settle for much less than perfectly fair restitution. 

[Luke 532]

I think the shareholders may not want to settle until Mnuchin, etc are in office.  It might take an unbelievably shareholder friendly offer from Obama and current Treasury to get the plaintiffs to settle now.  If I was in the drivers seats I wouldn't settle for much less than perfectly fair restitution.

 

 

Agreed.  Berkowitz would likely take par plus unpaid dividends since 2012.  Obama is in a tight spot if he wants to keep those documents from public view.  7 weeks... ticktock.

[Guest cherzeca]

I don't understand how there's much of a difference whether you return the excess payments or not on the senior preferred. Let's say they've overpaid by $187 billion over the last 4+ years versus paying the straight up 10% dividend.

 

Okay, so you deposit $187 billion into the companies' coffers.

 

Then you have a capital stack that looks like this:

 

Gov preferred stock - $187 billion

Jr. preferred stock - $34 billion

Pub. common stock - residual

 

So it doesn't matter if (A) the $187 billion is used to pay off the senior preferred stock or (B) the $187 billion is given back to the GSEs but is not accrued against the senior preferred stock.

 

Either way, everyone underneath the senior preferred stock (or who remains in the case of the pay off of the senior preferred stock) is "lacking capital."

 

It's not like the $187 billion of senior preferred stock magically disappears at the same time that the companies get back $187 billion of cash...

 

What would help though is if they count the excess dividends as repayment of capital, and adjust the 10% accordingly. So if in 2013 they swept $100 billion, and owed only $18.7 as per 10%, then that $81.3 billion extra not only counts as repayment, but then in the next year the 10% counts only for about $100 billion. So the 2014 excess would be anything over $10bn in dividends, and so on.

 

I agree that having to pay $19 billion a year in dividends for all these years leaves nothing for the common, but there is certainly a range of possibilities in retroactive maneuvering.

 

Mephistopheles,

 

You make the point that I was getting to originally.  If they are able to apply the overpayment to the principle then we reduce the 10% dividend payments going forward form that date, too.  So, if the principle was reduced by $50 Bn, their 10% dividend would be $5 Billion less each year.  Over 4 years that's $20 Billion.  Significant IMO.

 

if court vacated NWS or mnuchin accepts that as part of a settlement (as i think he must), the fnma senior pref goes to somewhere between $20B and $5B, depending upon whether their is an interest factor placed upon the amounts to be credited

[TonyG]

I wasn't saying with the Obama admin. I was saying talks with Mnuchin to work out details that can be implemented first couple of weeks of the new admin. No way in hell i believe Obama will settle

[TwoCitiesCapital]

I think the shareholders may not want to settle until Mnuchin, etc are in office.  It might take an unbelievably shareholder friendly offer from Obama and current Treasury to get the plaintiffs to settle now.  If I was in the drivers seats I wouldn't settle for much less than perfectly fair restitution.

 

 

Agreed.  Berkowitz would likely take par plus unpaid dividends since 2012.  Obama is in a tight spot if he wants to keep those documents from public view.  7 weeks... ticktock.

 

Just curious as to why you think unpaid dividends are on the table? These aren't cumulative preferred shares and there's no impetus to pay a common dividend anytime soon so I am having trouble seeing that as being a reasonable ask in settlement talks.

[Luke 532]

I think the shareholders may not want to settle until Mnuchin, etc are in office.  It might take an unbelievably shareholder friendly offer from Obama and current Treasury to get the plaintiffs to settle now.  If I was in the drivers seats I wouldn't settle for much less than perfectly fair restitution.

 

 

Agreed.  Berkowitz would likely take par plus unpaid dividends since 2012.  Obama is in a tight spot if he wants to keep those documents from public view.  7 weeks... ticktock.

 

Just curious as to why you think unpaid dividends are on the table? These aren't cumulative preferred shares and there's no impetus to pay a common dividend anytime soon so I am having trouble seeing that as being a reasonable ask in settlement talks.

 

They are non-cumulative, yes.  But for the NWS, dividends on the junior prefs would have been paid. 

 

Logically speaking, I don't see why Obama wouldn't at least settle the Berkowitz and Perry lawsuits.  The positives of him settling vs. the negatives of passing this to Trump are mind-boggling.  I think the odds are grossly understated of Obama settling this in the next 7 weeks.  Probably won't happen, but for the sake of Obama and his legacy it should.

[Guest cherzeca]

@mark

 

"They are non-cumulative, yes.  But for the NWS, dividends on the junior prefs would have been paid." 

 

disagree my friend.  under original spsp agt, no junior prefs dividends

[Luke 532]

@mark

 

"They are non-cumulative, yes.  But for the NWS, dividends on the junior prefs would have been paid." 

 

disagree my friend.  under original spsp agt, no junior prefs dividends

 

OK, I must be wrong on that point.  Sorry guys.

[hardincap]

I wasn't saying with the Obama admin. I was saying talks with Mnuchin to work out details that can be implemented first couple of weeks of the new admin. No way in hell i believe Obama will settle

 

+1, wont settle. too committed to "gses must be wound down." hopefully mnuchin gets the ball rolling on this soon after inauguration, but i think mandamus and perry decisions will come before that.

[BTShine]

Likely Mnuchin is currently working on this with stakeholders.  Would allow him to enter office, check his work against the internal treasury documents and then proceed with settlements.

[Guest cherzeca]

Likely Mnuchin is currently working on this with stakeholders.  Would allow him to enter office, check his work against the internal treasury documents and then proceed with settlements.

+1  that would be "pretty fast"

[Luke 532]

Likely Mnuchin is currently working on this with stakeholders.  Would allow him to enter office, check his work against the internal treasury documents and then proceed with settlements.

+1  that would be "pretty fast"

 

I agree, and I'm sure Obama likely sees the writing on the wall.  If he knows a settlement is likely, why in the world would he let Trump get credit for it and risk the documents being released?  Obama could make keeping the documents secret a term of the settlement, whereas Trump doesn't have nearly as much incentive to keep the docs secret and might simply settle because it is what is best for his administration, shareholders, and the American people (and might still let the docs get released).  I still don't see any logical reason why Obama wouldn't settle.  Of course, he hasn't acted logically for a very long time now so I'm not surprised.

[Philip Morris IV]

http://www.wsj.com/articles/dont-hold-your-breath-on-fannie-mae-and-freddie-mac-1480878666

 

whats the deal with wsj/carney continually writing negative pieces on the gses? do these authors legitimately believe what they're writing and are writing on their own accord or are there subterranean (top down) forces at play? serious question

 

A few dozen pages ago in this thread, someone speculated that Carney may have source(s) in the Treasury and so to keep them, he reflects their interests.  We'll never know but seems like the most likely explanation for his incentives.

 

It could just be me, but I've noticed the character of his articles has changed over the past several months too: his pieces are more brief now, and contain less analysis/interpretation, more facts.  He could see the writing on the wall as well.

[hardincap]

http://www.wsj.com/articles/dont-hold-your-breath-on-fannie-mae-and-freddie-mac-1480878666

 

whats the deal with wsj/carney continually writing negative pieces on the gses? do these authors legitimately believe what they're writing and are writing on their own accord or are there subterranean (top down) forces at play? serious question

 

A few dozen pages ago in this thread, someone speculated that Carney may have source(s) in the Treasury and so to keep them, he reflects their interests.  We'll never know but seems like the most likely explanation for his incentives.

 

It could just be me, but I've noticed the character of his articles has changed over the past several months too: his pieces are more brief now, and contain less analysis/interpretation, more facts.  He could see the writing on the wall as well.

 

fred fraenkel 6 hours ago

It might be a good idea for you and John Carney to wake up and smell the coffee.  The treasury department you were fronting for no longer exists.

 

Fred Fraenkel: http://en.wikipedia.org/wiki/Fred_Fraenkel

[SnarkyPuppy]

I just put the following attachment together which lays out the capital structures per both GSE's 9/30 Financials. 

 

It then shows a few scenarios while making assumptions pertaining to capital ratios (2.5%), equity raise per share, warrants dilution, etc.

 

Can someone smarter than me please have a look and explain to me how a reduction to the "Sr Pref Govt (Redemption Value)" line item would impact this analysis?  I have to run to dinner but will work on it later if nobody is able to.

FNMA_Capital_-_Personal.xlsx