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

[onyx1]

I recently moved to Washington, DC, so I was able to sit in the joint status conference in Judge Sweeney's courtroom today. A few things struck me as interesting:

• Judge Sweeney seems to be trying her best to be fair to all parties.
  
• Charles Cooper is a far better attorney than (I think it was) Gregg Schwind.
  
• Judge Sweeney mentioned the possibility of sanctions on the government for non-production.
  
• The government has refused to produce documents relating to whether the FHFA was directed to enter into the 2012 Amendment at the behest of Treasury or other governmental branches.
  
• At the end of the conference, Judge Sweeney directly addressed the government by saying that, while she knows all the government attorneys have the upmost integrity and would never do this, they would do well to inform their clients that they had better not refuse to disclose documents that were detrimental to the government's case.
  

It does not look like the government attorneys are winning themselves any friends by dragging on production.

 

Great color Merkhet, thank you for sharing your thoughts.  I will provide a link to the transcript when available.

 

The harder the government digs in, the more I am convinced of the weakness of their case.  I believe that the government is going to great lengths not only to avoid producing documents that hurt their case, but also to keep the original authorizing source for the confiscation out of the public eye.  I have no doubt that the genesis of this entire mess comes from the occupant of an office without corners.

[merkhet]

I recently moved to Washington, DC, so I was able to sit in the joint status conference in Judge Sweeney's courtroom today. A few things struck me as interesting:

• Judge Sweeney seems to be trying her best to be fair to all parties.
  
• Charles Cooper is a far better attorney than (I think it was) Gregg Schwind.
  
• Judge Sweeney mentioned the possibility of sanctions on the government for non-production.
  
• The government has refused to produce documents relating to whether the FHFA was directed to enter into the 2012 Amendment at the behest of Treasury or other governmental branches.
  
• At the end of the conference, Judge Sweeney directly addressed the government by saying that, while she knows all the government attorneys have the upmost integrity and would never do this, they would do well to inform their clients that they had better not refuse to disclose documents that were detrimental to the government's case.
  

It does not look like the government attorneys are winning themselves any friends by dragging on production.

 

Great color Merkhet, thank you for sharing your thoughts.  I will provide a link to the transcript when available.

 

The harder the government digs in, the more I am convinced of the weakness of their case.  I believe that the government is going to great lengths not only to avoid producing documents that hurt their case, but also to keep the original authorizing source for the confiscation out of the public eye.  I have no doubt that the genesis of this entire mess comes from the occupant of an office without corners.

 

It's funny that you should say that, but Judge Sweeney mentioned something along those lines as well. I can't remember the exact quote, but she said that she didn't care if a directive came from Treasury or the White House re the 2012 Amendment. It sounded accusatory to me, and I only noted it because it sounded weird.

 

I'm sure that will make its way to the transcript, but you lose some of the context when it's reduced to just words on a page.

[Mephistopheles]

Thanks for the update merkhet. I'm looking forward to the transcript.

 

These are probably some naive questions - but, 1) Can the government just destroy the documents so that they can't possibly be used as evidence?

 

2) Didn't the Judge say that leaked documents won't be allowed to be admissible as evidence, in order to protect the integrity of the Protective Order? So what is stopping from someone on the Defense's side from just releasing something incriminating to the public, anonymously, therefore nulling it's use in court?

[merkhet]

Thanks for the update merkhet. I'm looking forward to the transcript.

 

These are probably some naive questions - but, 1) Can the government just destroy the documents so that they can't possibly be used as evidence?

 

2) Didn't the Judge say that leaked documents won't be allowed to be admissible as evidence, in order to protect the integrity of the Protective Order? So what is stopping from someone on the Defense's side from just releasing something incriminating to the public, anonymously, therefore nulling it's use in court?

 

(1) I suspect that destroying documents puts you in hotter water than losing the case, but, yes, they could do that.

 

(2) The Protective Order is there to protect the defendants. Again, I suspect that getting away with this would be difficult and would put you in hotter water than losing the case.

[Mephistopheles]

Thanks for the update merkhet. I'm looking forward to the transcript.

 

These are probably some naive questions - but, 1) Can the government just destroy the documents so that they can't possibly be used as evidence?

 

2) Didn't the Judge say that leaked documents won't be allowed to be admissible as evidence, in order to protect the integrity of the Protective Order? So what is stopping from someone on the Defense's side from just releasing something incriminating to the public, anonymously, therefore nulling it's use in court?

 

(1) I suspect that destroying documents puts you in hotter water than losing the case, but, yes, they could do that.

 

(2) The Protective Order is there to protect the defendants. Again, I suspect that getting away with this would be difficult and would put you in hotter water than losing the case.

 

Makes sense, but I'm thinking that this is the Government we are dealing with - they have the capacity to do some pretty shady things. How would the court even know if certain documents were destroyed, if they don't even know of their existence? It's pretty obvious to me that the investors have legal precedent. But the Government is in control of the evidence - and that's what scares me.

[Packer16]

Especially when you are dealing with gov't folks who believe the ends justify the means.

 

Packer

[merkhet]

Makes sense, but I'm thinking that this is the Government we are dealing with - they have the capacity to do some pretty shady things. How would the court even know if certain documents were destroyed, if they don't even know of their existence? It's pretty obvious to me that the investors have legal precedent. But the Government is in control of the evidence - and that's what scares me.

 

Destroying evidence is unlikely, IMO -- they would have to coordinate a complete destruction of evidence at FHFA and evidence at Treasury. I suspect that getting one agency to do this well would be a gargantuan task but two agencies in coordination? Damn near impossible.

 

Additionally, given that their response to plaintiffs has not been that there are not any documents that are responsive to their claims re documents between FHFA & Treasury, it would then probably be somewhat ridiculous for them to come forth and say that there is now suddenly nothing responsive to the discovery request establishing jurisdiction.

 

Besides, the important thing for them is to provide evidence once jurisdiction is established.

 

The government needs to provide the initial burden of proof that the FHFA had any rational reason for the enactment of the "net worth sweep." In theory, they have said that it was because they were worried that the GSEs couldn't pay them back, right? So then they need to provide the documents that prove that. This would usually be pretty easy...

 

...except...the FHFA has not bothered to maintain an administrative record of the considerations it made prior to enacting the 2012 Amendment. Instead, the FHFA provided a compilation of documents, after the fact, to support its decision to enact the 2012 Amendment. (This is in the 2014-06-02 Olson Reply.)

 

 

[valuecfa]

Common Shareholders of Fannie and Freddie, Including Pershing Square and Three Individuals, File Suit against United States Government

 

http://finance.yahoo.com/news/common-shareholders-fannie-freddie-including-003900827.html

 

Is Ichan really going to let Ackman fight this battle for him?, lol

[onyx1]

I recently moved to Washington, DC, so I was able to sit in the joint status conference in Judge Sweeney's courtroom today. A few things struck me as interesting:

• Judge Sweeney seems to be trying her best to be fair to all parties.
  
• Charles Cooper is a far better attorney than (I think it was) Gregg Schwind.
  
• Judge Sweeney mentioned the possibility of sanctions on the government for non-production.
  
• The government has refused to produce documents relating to whether the FHFA was directed to enter into the 2012 Amendment at the behest of Treasury or other governmental branches.
  
• At the end of the conference, Judge Sweeney directly addressed the government by saying that, while she knows all the government attorneys have the upmost integrity and would never do this, they would do well to inform their clients that they had better not refuse to disclose documents that were detrimental to the government's case.
  

It does not look like the government attorneys are winning themselves any friends by dragging on production.

 

Here is the transcript for the August 13 Status Conference, courtesy of timhoward717.com.

81314-transcript-717fair.pdf

[merkhet]

This is the part that really struck me while I was sitting in the courtroom. From Judge Sweeney:

 

And if the Justice Department receives documents from these two agencies, the conservators, showing in fact there was control, that’s hiding the -- I mean, I know three very fine attorneys, people of integrity, but I’m just saying, if that’s what you -- and you probably haven’t seen all the documents. But if you’re -- I don’t want instructions to be given to clients or to these entities that they don’t have to produce certain documents if, in fact, it’s going to answer the question, were these entities part of the United States Government. Were they controlled by Treasury? If that’s what the documents show, I realize I’m preaching to the choir saying that, you have to turn it over to Plaintiffs.

 

So, if you’re invoking privilege to block the Plaintiffs’ entryway into the courthouse door, you can’t do it. I know you know that, but you can go back and tell your clients I said so, and that might either make their life easier or more difficult or perhaps both, depending upon which issue you’re discussing.

[fareastwarriors]

Snatching Defeat from Victory at Frannie

 

 

http://online.wsj.com/articles/heard-on-the-street-snatching-defeat-from-victory-at-frannie-1408294612

[topofeaturellc]

I have to admit I really don't get this.  Putting aside whether or not FNM and FRE were insolvent, it would seem like the change from the divvy to the net worth sweep is irrelevant once they were in the conservatorship.  The terms of the conservatorship clearly state that the conservator has no fiduciary responsibility to anyone other than treasury.

 

I think they only way to win this is to prove the conservatorship was illegal.  And yet if you read the terms of the changes to the charters in '08 that was clearly legal.

 

Maybe you could argue people who bought the securities prior to the '08 and maybe '04 amendments were never compensated for the changes. Although I believe the original debentures basically said congress could change the law at any time.

 

Can someone explain to me what the legal argument is? Not the economic one. I know that one, agree with it, and fundamentally agree that in hindsight this was a confiscation of private property.

[Mephistopheles]

The terms of the conservatorship clearly state that the conservator has no fiduciary responsibility to anyone other than treasury.

 

 

The terms of the conservatorship are that the conservator has to protect the assets of the company, with the goal of becoming profitable and returning the company to the shareholders once that happens. Sweeping most of the assets to Treasury is the opposite of that.

 

Furthermore, they claim the net worth sweep was in fact in the best interest of the shareholders because the company was in a state of perpetual borrowing to pay back the dividend, due to continuous losses. However, the sweep was enacted right after the GSEs started reporting profits again, which makes it hard to prove that it was necessary (not that it makes sense anyway), particularly given the huge valuation allowance for the DTA that was present on the balance sheet at the time.

[Mephistopheles]

Makes sense, but I'm thinking that this is the Government we are dealing with - they have the capacity to do some pretty shady things. How would the court even know if certain documents were destroyed, if they don't even know of their existence? It's pretty obvious to me that the investors have legal precedent. But the Government is in control of the evidence - and that's what scares me.

 

Destroying evidence is unlikely, IMO -- they would have to coordinate a complete destruction of evidence at FHFA and evidence at Treasury. I suspect that getting one agency to do this well would be a gargantuan task but two agencies in coordination? Damn near impossible.

 

Additionally, given that their response to plaintiffs has not been that there are not any documents that are responsive to their claims re documents between FHFA & Treasury, it would then probably be somewhat ridiculous for them to come forth and say that there is now suddenly nothing responsive to the discovery request establishing jurisdiction.

 

Besides, the important thing for them is to provide evidence once jurisdiction is established.

 

The government needs to provide the initial burden of proof that the FHFA had any rational reason for the enactment of the "net worth sweep." In theory, they have said that it was because they were worried that the GSEs couldn't pay them back, right? So then they need to provide the documents that prove that. This would usually be pretty easy...

 

...except...the FHFA has not bothered to maintain an administrative record of the considerations it made prior to enacting the 2012 Amendment. Instead, the FHFA provided a compilation of documents, after the fact, to support its decision to enact the 2012 Amendment. (This is in the 2014-06-02 Olson Reply.)

 

 

 

I realized I forgot to reply to this. Thanks for the explanation. This does help alleviate some of the concern for me.

 

Really glad to see someone as persistent as Ackman on board now; especially because I own the commons.

[topofeaturellc]

The terms of the conservatorship clearly state that the conservator has no fiduciary responsibility to anyone other than treasury.

 

 

The terms of the conservatorship are that the conservator has to protect the assets of the company, with the goal of becoming profitable and returning the company to the shareholders once that happens. Sweeping most of the assets to Treasury is the opposite of that.

 

Furthermore, they claim the net worth sweep was in fact in the best interest of the shareholders because the company was in a state of perpetual borrowing to pay back the dividend, due to continuous losses. However, the sweep was enacted right after the GSEs started reporting profits again, which makes it hard to prove that it was necessary (not that it makes sense anyway), particularly given the huge valuation allowance for the DTA that was present on the balance sheet at the time.

 

Can you provide some docs for that?

 

My impression was the conservators goal was not to protect the assets of the company, but rather serve the interests of the government, which in this case are one and same with the senior pref holder.  Additionally I was under the impression that other than the act of entering into conservatorship itself the conservators decisions were not subject to judicial review, nor did they have any fiduciary responsibility to the capital holders. Not only that but the conservator has the ability to unilaterally abrogate any contracts the pre-conservator entities entered into.

 

The issue for me is purely legalistic.  The other stuff doesn't matter if the conservator can't be challenged.

[merkhet]

The terms of the conservatorship clearly state that the conservator has no fiduciary responsibility to anyone other than treasury.

 

 

The terms of the conservatorship are that the conservator has to protect the assets of the company, with the goal of becoming profitable and returning the company to the shareholders once that happens. Sweeping most of the assets to Treasury is the opposite of that.

 

Furthermore, they claim the net worth sweep was in fact in the best interest of the shareholders because the company was in a state of perpetual borrowing to pay back the dividend, due to continuous losses. However, the sweep was enacted right after the GSEs started reporting profits again, which makes it hard to prove that it was necessary (not that it makes sense anyway), particularly given the huge valuation allowance for the DTA that was present on the balance sheet at the time.

 

Can you provide some docs for that?

 

My impression was the conservators goal was not to protect the assets of the company, but rather serve the interests of the government, which in this case are one and same with the senior pref holder.  Additionally I was under the impression that other than the act of entering into conservatorship itself the conservators decisions were not subject to judicial review, nor did they have any fiduciary responsibility to the capital holders. Not only that but the conservator has the ability to unilaterally abrogate any contracts the pre-conservator entities entered into.

 

The issue for me is purely legalistic.  The other stuff doesn't matter if the conservator can't be challenged.

 

Part of your answer is here (http://www.law.cornell.edu/uscode/text/12/4617) and part of your answer is in the case law cited by both plaintiffs & defendants in their respective briefs, so fire up PACER.

[topofeaturellc]

do you think any of that runs counter to what I said? That's not a rhetorical question.  I have no idea how to parse docs like that as a non-lawyer

 

also is there existing case law WRT to conservatorships? I thought there was not?

[topofeaturellc]

saw this tweeted out.  seems interesting

 

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2480835

[merkhet]

do you think any of that runs counter to what I said? That's not a rhetorical question.  I have no idea how to parse docs like that as a non-lawyer

 

Yes, it does. I would suggest that if you can't parse the statute and/or the legal documents, then you should not invest in this. There are plenty of non-legal-based investment ideas out there.

 

also is there existing case law WRT to conservatorships? I thought there was not?

 

Yes. Fannie & Freddie are not the only financial companies to have ever come under conservatorship.

[topofeaturellc]

I'm asking a question here.  I can actually parse the document and I do know what I'm doing even though I am not a lawyer. Its called being self-effacing.

 

I've personally chosen not to invest in the situation because it appears to me to be purely a legal argument, and yet no one seems to be able to tell me why this is such a clear cut open and shut case.

 

You are right, there are a great many other investments out there where economics matter. This isn't one of them.  That doesn't preclude me from being interested in discussing it.

 

 

What other federally chartered institutions have come under a conservatorship.

[onyx1]

I've personally chosen not to invest in the situation because it appears to me to be purely a legal argument, and yet no one seems to be able to tell me why this is such a clear cut open and shut case.

 

The simple reason is this:  It's not a clear cut open and shut case.  The only way to get your arms around the investment thesis is to take the first step and read each claim and response.  If you don't have a PACER account you can find them at timhoward717.com.  No one is going to spoon feed you bullet points.

 

 

[PullTheTrigger]

VIC has a new FNMA write-up today. Any VIC members willing to give a brief summary of the write-up? I'm guessing there's not much there that you can't find on timhoward17 blog, but, of course, I'm curious.

[onyx1]

VIC has a new FNMA write-up today. Any VIC members willing to give a brief summary of the write-up? I'm guessing there's not much there that you can't find on timhoward17 blog, but, of course, I'm curious.

 

 

Thesis summary

 

 

Buy FNMA common at $4.00 because:

 

 

1.  Regan-appointed Judge Lamberth will invalidate the 3rd amendment (3A) via summary judgement in the Perry case soon after his current Blackwater murder trial goes to jury.

2.  He will rule based on facts that are not in dispute (which will expedite the time frame and offer investors a quick catalyst).

3. The 3A will be vacated based on either (a) a finding that Treasury violated HERA by invoking the 3A and creating a new security beyond the 2009 time limit.  (Note:  Even Treasury's own enforcement of tax law deems the 3A a new security), or (b) a finding that the 3A was arbitrary and capricious due to the fact, admitted to by FHFA, that FHFA failed to comply with the APA requirement that they compile an administrative record at the time of the 3A.  (Note:  FHFA did compile an administrative record at the time of the 1A and 2A.)

4.  Vacation of the 3A will put $80bln of excess dividends (above and beyond the 10% as required pre-3A) into question.

5.  Perry will pursue the obvious remedy and successfully have the $80bln used to reduced the $117bln Treasury senior preferred currently outstanding.

6.  The incremental gain of $80bln will be reduced by $12bln (goes to private preferred to bring them to par) and then diluted by 4:1 (80% of common shares goes to Treasury via warrants) leaving $68/ (1.15*5) about $12/share value for the non-US Govt common shareholders, or a 200% gain.

 

 

My only dispute with the thesis is that one could buy the private preferred's today and get a return of over 150% and avoid the risk of steps 4 & 5 entirely.

[valuecfa]

VIC has a new FNMA write-up today. Any VIC members willing to give a brief summary of the write-up? I'm guessing there's not much there that you can't find on timhoward17 blog, but, of course, I'm curious.

 

 

Thesis summary

 

 

Buy FNMA common at $4.00 because:

 

 

1.  Regan-appointed Judge Lamberth will invalidate the 3rd amendment (3A) via summary judgement in the Perry case soon after his current Blackwater murder trial goes to jury.

2.  He will rule based on facts that are not in dispute (which will expedite the time frame and offer investors a quick catalyst).

3. The 3A will be vacated based on either (a) a finding that Treasury violated HERA by invoking the 3A and creating a new security beyond the 2009 time limit.  (Note:  Even Treasury's own enforcement of tax law deems the 3A a new security), or (b) a finding that the 3A was arbitrary and capricious due to the fact, admitted to by FHFA, that FHFA failed to comply with the APA requirement that they compile an administrative record at the time of the 3A.  (Note:  FHFA did compile an administrative record at the time of the 1A and 2A.)

4.  Vacation of the 3A will put $80bln of excess dividends (above and beyond the 10% as required pre-3A) into question.

5.  Perry will pursue the obvious remedy and successfully have the $80bln used to reduced the $117bln Treasury senior preferred currently outstanding.

6.  The incremental gain of $80bln will be reduced by $12bln (goes to private preferred to bring them to par) and then diluted by 4:1 (80% of common shares goes to Treasury via warrants) leaving $68/ (1.15*5) about $12/share value for the non-US Govt common shareholders, or a 200% gain.

 

 

My only dispute with the thesis is that one could buy the private preferred's today and get a return of over 150% and avoid the risk of steps 4 & 5 entirely.

 

In my opinion, the common thesis of 7x - 10x return rests in the fact that the government is doing the taxpayer an incredible disservice by not exercising its warrants and unlocking that value to the American taxpayer. Any future reform can include the existing common as it stands as opposed to wiping it out and starting over, effectively costing the taxpayer over $150 billion. I think logical heads in the Treasury/FHFA/government will eventually prevail and realize the value the taxpayer would sacrifice.

[onyx1]

VIC has a new FNMA write-up today. Any VIC members willing to give a brief summary of the write-up? I'm guessing there's not much there that you can't find on timhoward17 blog, but, of course, I'm curious.

 

 

Thesis summary

 

 

Buy FNMA common at $4.00 because:

 

 

1.  Regan-appointed Judge Lamberth will invalidate the 3rd amendment (3A) via summary judgement in the Perry case soon after his current Blackwater murder trial goes to jury.

2.  He will rule based on facts that are not in dispute (which will expedite the time frame and offer investors a quick catalyst).

3. The 3A will be vacated based on either (a) a finding that Treasury violated HERA by invoking the 3A and creating a new security beyond the 2009 time limit.  (Note:  Even Treasury's own enforcement of tax law deems the 3A a new security), or (b) a finding that the 3A was arbitrary and capricious due to the fact, admitted to by FHFA, that FHFA failed to comply with the APA requirement that they compile an administrative record at the time of the 3A.  (Note:  FHFA did compile an administrative record at the time of the 1A and 2A.)

4.  Vacation of the 3A will put $80bln of excess dividends (above and beyond the 10% as required pre-3A) into question.

5.  Perry will pursue the obvious remedy and successfully have the $80bln used to reduced the $117bln Treasury senior preferred currently outstanding.

6.  The incremental gain of $80bln will be reduced by $12bln (goes to private preferred to bring them to par) and then diluted by 4:1 (80% of common shares goes to Treasury via warrants) leaving $68/ (1.15*5) about $12/share value for the non-US Govt common shareholders, or a 200% gain.

 

 

My only dispute with the thesis is that one could buy the private preferred's today and get a return of over 150% and avoid the risk of steps 4 & 5 entirely.

 

In my opinion, the common thesis of 7x - 10x return rests in the fact that the government is doing the taxpayer an incredible disservice by not exercising its warrants and unlocking that value to the American taxpayer. Any future reform can include the existing common as it stands as opposed to wiping it out and starting over, effectively costing the taxpayer over $150 billion. I think logical heads in the Treasury/FHFA/government will eventually prevail and realize the value the taxpayer would sacrifice.

 

 

The 7x-10x is certainly within the realm of plausible.  But consider all that would need to happen:  Prevailing powers in DC need to agree that the GSEs should be saved and then agreed to act on it, GSEs fees would need to be raised (Ackman suggests 60-100bp), and then the market would need to apply a 15x multiple to GSE earnings.  Whew! How can anyone put a time frame on it?