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

[Guest cherzeca]

@midas

 

I don’t know what the timetable is but I welcome actions rather than tawk. Until the letter agt all we have had is tawk. While this is only an announcement the actual hiring which I assume happens soon will be most welcome

 

edit:  I just read the rfp statement of work and I get your point Midas.  the SOW makes it seem like the roadmap hasn't been developed at all by fhfa up to this point, which is absurd if true

[hardincap]

Too many things can go wrong the longer this takes.

 

+1000. Im pretty close to convincing myself to move on from this trade, because of this reason.

[Williams406]

It is a special kind of agony to not know how developed R&R plans are between Treasury and FHFA. It's possible they have a lot of things lined up and the inferred timeline is truncated. But the capital markets are open now. Get this done.

[james22]

IMF has one of its stupid rumor blurbs out today, that Buffett may be interested in the capital raise for GSEs.

 

usually WEB likes to go in with a convertible preferred, offering a nice current dividend and a favorable conversion price into common.  in other words, senior, current paying and huge upside.  I dont see that as being doable with the GSEs, even if all of the juniors exchange into common (and of course the seniors are nuked). possible, but the conv. pref that WEB would get would have to be noncumulative in order to count as capital, and WEB has said that doesn't work for him generally.

 

the interesting idea, though, would be if treasury would offer to sell WEB a major hunk of its warrants at a favorable price in consideration for WEB also investing in a large hunk of newly issued common.  this might work for WEB's rapacious mind.  treasury likely will want some return on its warrant position but probably would love to have its warrants serve as an inducement for a private placement of common.

 

Link?

 

I do like your thinking.

[Guest cherzeca]

It is a special kind of agony to not know how developed R&R plans are between Treasury and FHFA. It's possible they have a lot of things lined up and the inferred timeline is truncated. But the capital markets are open now. Get this done.

 

this is my reaction.  every transaction I worked on had an initial timetable for various steps and no transaction ever ticked off each step as per the timetable. these things are time sensitive, and it is not as if fhfa needs to reinvent the wheel here.

[Guest cherzeca]

@James

 

from IMF

 

Fannie and Freddie Will Need Investors. Is Warren Buffett Waiting in the Wings?

pmuolo@imfpubs.com

 

If and when Fannie Mae and Freddie Mac are cleared to raise capital again via a stock sale, will value investor Warren Buffett and his company Berkshire Hathaway be there?

 

A handful of current owners in Fannie/Freddie common and junior preferred, as well as consultants and analysts, increasingly believe Berkshire will be part of an investor consortium that buys upwards of $100 billion worth of stock in the government-sponsored enterprises.

 

But whether it happens is anyone’s guess. And it’s unclear at this point whether the GSEs are even on the Oracle of Omaha’s radar screen. Media inquiries placed to Berkshire on the topic had not been returned at press time.

 

Still, the chatter goes on. One research analyst, speaking under the condition he is not identified, said he’s been hearing the Buffett/GSE rumor since the summer. For the full story, see the new edition of Inside MBS & ABS, now available online.

[locutusoftexas]

Vis a vis WEB buying the common. That would be inconsistent with his past investment modus operandi. In this situation, he will normally purchase a preferred issue which satisfies his specs. Given the political nature of these companies and the future prospects for government meddling, I would be shocked if he bought the common. This is also consistent with the fact that Berkshire is an insurance company, requiring that he manage the risk. I am assuming that is why he prefers to buy a preferred issue tailored to his requirements. Given the shoddy treatment by the government of the preferred (and common) shareholders in the GSEs, I also view his desire for a GSE preferred issue to be nil.

[james22]

I appreciate it, cherzeca, thanks.

[orthopa]

Here's a link I got on Twitter.

https://www.fbo.gov/index.php?s=opportunity&mode=form&id=0c268c2f435189a7d727ecbd5c87a8a8&tab=core&_cview=0

 

I just can't shake the feeling that this is rather bad news. The timeline has been slowed considerably. Phase I, which is basically building the roadmap, will take 12-18 months and Phase II, implementing it, will take 1-4 years. That's far, far slower than I thought this would go. Too many things can go wrong the longer this takes.

 

I had assumed that the amendment and capital rule would be done by March at the latest, setting the stage for a summer IPO as Mnuchin said that he wanted. Now it looks like the IPO might even be pushed beyond Q1 2021, which introduces the election risk that I thought this administration was trying to avoid.

 

I agree that thinking about that time frame is disappointing. As cherzeca said Im quite surprised and happy this request comes less then a month after treasury's plan was released but this does tie in with Calabria's 12 month of retained earnings. From a preferred stand point in regards to price/valuation Im still looking at the PSPA amendment where the Srs are retired, any settlement as a result and or the possibility of the consent decree as avenues to see a higher % of par.  For preferred holders the date/determination of conversion is of course the end game as that will determine final value and if converting to common is a good idea. That should come way, way before the last tranch of common is sold by the treasury. Looking at the AIG IPO it was from May 2001-Dec 2012 so it took ~18 months but hopefully preferred holders can find out her fate way before Phase II gets going.

[TwoCitiesCapital]

Too many things can go wrong the longer this takes.

 

+1000. Im pretty close to convincing myself to move on from this trade, because of this reason.

 

I think it would be a mistake at this juncture.

 

We've all waited YEARS for positive developments. We're getting them - but slowly. Sure, sunk cost fallacy, but I haven't sat around for 5 years to give up at the point the finish line is in sight just because it's taking a little longer than hoped.

 

 

[Ballinvarosig Investors]

It's one year until elections. Democrats are favourites to win, and Elizabeth Warren is currently the favoured candidate. What is not to say that she wins and snuffs out any chance of  "reform" (i.e. a taxpayer bailout) of Fannie/Freddie holders?

 

I am considerably more right wing than Liz, and even I think that ALL common and ALL preferred shares should simply be cancelled. I don't see much of an appetite anywhere to bail out people who probably should have been zeroed back in the crisis.

[allnatural]

Wow there's so much wrong with this... Please do some more research on the subject matter.

 

It's one year until elections. Democrats are favourites to win, and Elizabeth Warren is currently the favoured candidate. What is not to say that she wins and snuffs out any chance of  "reform" (i.e. a taxpayer bailout) of Fannie/Freddie holders?

 

I am considerably more right wing than Liz, and even I think that ALL common and ALL preferred shares should simply be cancelled. I don't see much of an appetite anywhere to bail out people who probably should have been zeroed back in the crisis.

 

Re: news today I find this hopeful as a) we should have banker announced by Nov/Dec as deadline for submission is Oct 15 and b) i still see an all encompassing PSPA amendment (+settlement) happening in the short term (3-6months) as no capital raise can proceed without this being decided way in advance.

 

PSPA amendment is one of the first steps listed in the FHFA statement of work today. "Phase I: Development of the Roadmap ... 3. Advise FHFA with regard to potential revisions to the PSPAs."

[Guest cherzeca]

Wow there's so much wrong with this... Please do some more research on the subject matter.

 

It's one year until elections. Democrats are favourites to win, and Elizabeth Warren is currently the favoured candidate. What is not to say that she wins and snuffs out any chance of  "reform" (i.e. a taxpayer bailout) of Fannie/Freddie holders?

 

I am considerably more right wing than Liz, and even I think that ALL common and ALL preferred shares should simply be cancelled. I don't see much of an appetite anywhere to bail out people who probably should have been zeroed back in the crisis.

 

Re: news today I find this hopeful as a) we should have banker announced by Nov/Dec as deadline for submission is Oct 15 and b) i still see an all encompassing PSPA amendment (+settlement) happening in the short term (3-6months) as no capital raise can proceed without this being decided way in advance.

 

PSPA amendment is one of the first steps listed in the FHFA statement of work today. "Phase I: Development of the Roadmap ... 3. Advise FHFA with regard to potential revisions to the PSPAs."

 

@allnatural

 

I just put BI on ignore.

 

I am thinking back to deals I have done with govt entities involved, where they dont have the normal skin-in-the-game of private parties who are anxious to get a deal done expeditiously. at the outset, the govt entity (for example, RTC) was cautious and slow, but after a period of acclimation, for want of a better word, things got executed in a normal way.  the process generates its own speed, even though at the start it was slow as molasses.

 

I dont view this one year assigned to the roadmap development phase as a guarantee that it will take this long, as the process and events will dictate pace, not some govtal rfp.  and the roadmap development process could take longer than a year for all we know.  all that I am saying is that the process will be in charge, not some rfp ginned up by some fhfa employee who has never done a deal who is asked to draft an rfp. and who probably was counseled to allocate plenty of time to it so that it doesn't look like fhfa was being cursory

 

[Cardboard]

These two companies already have publicly available and audited financial statements. The timing to raise capital is excellent and these are large, public for decades, proven and profitable enterprises unlike momo garbage such as WeWork.

 

Once a large and reputable investment banker is selected, it won't take very long to get pieces into place as they are incentivized to get it done so they get paid.

 

Think about the Saudi Aramco IPO. It was first thought about around 4 years ago. They had no public financial statements, never been audited, never had an outside engineering firm to audit their reserves or a requirement to be public, didn't know on which exchange to list, IPO delayed due to a large petrochemical acquisition, IPO likely delayed due to poor market conditions for oil and corresponding valuation, government interference as this is their bread and butter, and on and on. Yet, they should be public in their own market by the end of this year.

 

Plus for preferred holders, you won't have to wait 4 years (which I see as excessive anyway based on above) to know your fate as a resolution should be a pre-condition to start the IPO process.

 

Cardboard 

[Guest cherzeca]

@cardboard

 

I agree with all of this.  fhfa is venturing into a field (capital raising) it is totally ill-equipped to handle, and it is frightened by the spirits in the dark woods.  and as you allude to, once fhfa hires a firm (my guess is Houlihan Lokey as all of the big investment banks want to handle the underwriting/placements), things will speed up because the process will be in the hands of experts who will view cautious and deliberate as bad, not good like some bureaucrat (though I can see fhfa's advisor being paid on a monthly basis at least in the development phase).  and once the process is underway, the process and events control timing.  and also as you allude to, the GSEs are issuance-ready and throw off some of the most enviable cash flows around....from OTC pink sheets to the S&P50 in a blink of the eye.

[ValueMaven]

n00b GSE investor question here -- but how much of FCF is actually CASH earnings vs. financial adjustments.  One would think with the heavy utility-like function, the quality of earnings has improved...i'm just wondering if this topic has been addressed in the past.  ie: what % of servicing and structuring fees make up the GSE's EPS...Thx! 

[Guest cherzeca]

@vm

 

Good question. GSEs hedge interest rate risk for their whole loan portfolio but this has portfolio has decreased substantially during conservatorship. So their noncash income items have become much smaller. They have become much simpler to reconcile earnings to cash.

[Midas79]

I dont view this one year assigned to the roadmap development phase as a guarantee that it will take this long, as the process and events will dictate pace, not some govtal rfp.  and the roadmap development process could take longer than a year for all we know.  all that I am saying is that the process will be in charge, not some rfp ginned up by some fhfa employee who has never done a deal who is asked to draft an rfp. and who probably was counseled to allocate plenty of time to it so that it doesn't look like fhfa was being cursory

 

Thank you for this, it has brought me back from the ledge. That last sentence is particularly good.

[Guest cherzeca]

@midas (and @hardincap)

 

I dont want to beat a dead horse, but even a normal financial advisory engagement letter with a private party has a termination date.  it is usually beyond the date everyone expects the transaction to close.  of course, both the advisor and the principal usually want to do the transaction ASAP. 

 

here, one may question fhfa's need for speed, inasmuch as it makes sense, and it may have been so advised, to build up some capital before trying to raise more capital...hence the period of retaining earnings before capital raising may well be for one year....but not because because it takes a year to figure out what to do, as this transaction has certain required elements which have been well identified by the Moelis Blueprint.

 

hopefully, treasury will soon hire its own financial advisor and fhfa and treasury can start having some serious discussions with potential providers of large private placement capital. this would be a middle step between retaining capital and raising public capital.  this middle step would also occasion the SPSA amendment that would nuke the senior preferred.  one would hope that would start soonish, rather than start at the end of the fhfa one year development phase, so that you could see a closing of that private placement within that first year....but who knows

[Guest cherzeca]

thought experiment.

 

let's say you have an account dedicated to risk investments (one hopes balanced by a much larger account bearing less risky investments), in which you have a GSE junior pref.  if you were to sell that you would want to reinvest in a suitable replacement risky investment.

 

let's say that you believe there is a reasonable likelihood that the GSE junior pref will appreciate 30% in the next 12 months. hopefully more, but discounted by risk, lets say 30%.

 

let's say that you have been in the GSE investment for 5 years and your IRR to date does not equate to your risk incurred, meaning you have appreciated but not sufficient to justify the risk taken, given hindsight.

 

do you sell the investment now, and if you do what risky asset gives you a better expectation of a 30% return over the next year?

 

assume that given the GSE mbs portfolio, even if there is an increase in defaults going forward, the $5T portfolio currently has the lowest mortgage delinquency rate of the GSEs in about a decade.

 

to achieve the desired 30% return, the GSEs have to progress on its recap.  but if it does, that return is resilient to the economy (given the huge portfolio of guaranteed mbs with low delinquency generating guarantee income)

 

so who is selling now?

[allnatural]

I think the better question instead of whose selling, is who is buying today? Most investors are full and/or fatigued at this point and until we get definitive terms (seniors nuked w/ pspa amendment / legal settlement / ipo terms locked in), there aren't many INCREMENTAL investors willing to touch this for better or worse. Hence the opportunity @ 50% of par. But i'm confident once we get clarity on those action items it is off to the races (although there's not much to complain about YTD returns).

[Guest cherzeca]

@allnatural

 

my thought piece was directed to those on board who have been admitting frustration and considering exiting investment.  all this is understandable.  I just ruminated on this reaction and thought about it out loud. 

[hardincap]

@cherzeca

 

1. 30% appreciation in next 12 months is reasonable speculation, but still speculation.

2. at 10% par gse prefs were enticing enough to me to speculate; at 50% par, much less so.

3. far majority of my gains have come from long-term holdings in wonderful businesses, not special situations nor speculations. it's been way more enjoyable and instructive, as well.

4. speculating, even if the projected return in the near term is higher, just doesn't seem worth the opportunity cost of finding other wonderful businesses (even if they aren't cheap enough to buy now, there is value in identifying them now).

 

 

[Guest cherzeca]

@cherzeca

 

1. 30% appreciation in next 12 months is reasonable speculation, but still speculation.

2. at 10% par gse prefs were enticing enough to me to speculate; at 50% par, much less so.

3. far majority of my gains have come from long-term holdings in wonderful businesses, not special situations nor speculations. it's been way more enjoyable and instructive, as well.

4. speculating, even if the projected return in the near term is higher, just doesn't seem worth the opportunity cost of finding other wonderful businesses (even if they aren't cheap enough to buy now, there is value in identifying them now).

 

@hardincap

 

1.  agreed.  this is in my risk portfolio, not in my safety portfolio.

 

2.  enticing to me is a combination of pricing and expectation.  while pricing has gotten more expensive, my probabilistic expectation has gone up even more so.  at lower % of par, events were mostly nonexistent and so I relied on TINA.  now, events have occurred (collins and I expect another legal shoe to drop, POTUS plan, fhfa/treasury letter agt, fhfa rfp) that substantially increases my expectation probability.

 

3. yes and no.  I love great businesses that can be owned forever. you may have to buy "expensive" but if you must sell, likely sell higher. but to find "mispricing" you have to find a situation where you can reasonably expect the market will agree with me...later.  this involves higher risk, which is why we need to limit the size of our speculation bucket.

 

4. this is where I mostly disagree with you. I dont see any opportunity cost in holding GSEs, since I cant find a speculation that I think is better risk/reward (my 30% target).  and here is my point on that:  GSEs are a great business when viewed apart from the political risk and recap risk (which I will get to).  GSEs are cash flow machines par excellence.  they could go into runoff and be huge winners, but they are churning out huge amounts (last Q was highest securitization activity) of high quality mbs (extremely low delinquency rate).  yes if there is a recession, delinquency rates will increase and securitization will decrease at the margin, but the core business (existing guaranteed mbs) is hugely profitable.  so I see most of the risk as i) political (and here I think the political risk went way down when Crapo exhorted FHFA/treasury to proceed with administrative reform; I dont see trump not being potus until 1/21 at the earliest, and frankly I think he will be reelected only because of what is on offer as an alternative), and ii) recap execution (and here is the biggest risk, though again I think this risk will become reduced over the next 6 months as retained earnings are built and financial advisors are retained and get to do their work).

 

put another way, as I see things, I see no other 30% annual target opportunity that is a better speculation, and I say this admitting that I have thought this for the last 5 years (and have for certain years been right and other years wrong). now, if one is tired of this speculation, I get that.  but looking forward and assuming one wants to be exposed to a small measure of speculation, I think GSEs fit the bill, arguably more so now than ever.

[hardincap]

@cherzeca your points are valid. i agree the dynamics have shifted powerfully, and sudden shifts like this tend to be under appreciated. 

 

maybe im suffering from gse fatigue, but i think at 50% par, I get better "return on time invested" elsewhere, esp given that the gses were always far outside my CoC. that time invested doesnt have to turn into a buy decision in a month or a year, but i know it will eventually pay off. opportunity cost of owning the prefs to me is time i could otherwise use to find the next 10-100 bagger. id be fooling myself if i said i can keep the gses and forget about them for the next year, given how quickly things can change.

 

but to find "mispricing" you have to find a situation where you can reasonably expect the market will agree with me...later.  this involves higher risk

 

not necessarily risk: the correct way to invest is to put in the work and earn "secrets" that can translate into an edge in the markets