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

[Guest Covid-19_Survivor]

That sweet money could come from IPO'ing seniors and I'll disagree that no one would buy them. For starters, with nirp a very real possibility, state pension funds should buy them hand over fist. But no, I don't think that's going to happen because if would leave FnF with too much a burden. I'm just acting as devils advocate. Will they just be cancelled though? Not likely. Will they be converted to commons? Not likely. I'd like to read of a more logical solution to them.

 

The seniors must be either extinguished or converted to a form of capital that counts as core capital (non-cumulative prefs or commons). This would add $193B to core capital instantly.

 

FnF's core capital was negative $170B at the end of 2019. They will never get to a reasonable core capital number (Watt wanted either $103.5B or $139.5B) without such treatment of the seniors.

 

Getting rid of the seniors also ends the NWS because NWS dividends are payable to the holders of the seniors.

 

Bottom line: recap and release cannot happen with the seniors in place. Getting rid of them (via a PSPA 4th amendment) is the single biggest step Calabria and Mnuchin can take, and the single most important one to us FnF shareholders. Not to mention that a future administration could not reinstate them, at least not easily.

 

 

 

On this note, I think Treasury converting the seniors to 0%, non-cumulative, convertible prefs is better than converting them straight to commons. Treasury could then unwind its position at its own pace and never have to worry about the 80% balance sheet consolidation threshold, the 50.1% controlling shareholder threshold, or having any voting rights. Just put in a provision that Treasury itself can never exercise the conversion option, only whoever buys them from Treasury (who could do so at any time, and presumably would do it immediately because 0% prefs themselves aren't worth much).

 

If Treasury can offload enough of them fast enough, they could structure things so that they send some or all of the proceeds to FnF up to $125B (or whatever number they agree on), which accomplishes the recap in full.

 

Must is a too strong a term.  Your calculations do not include any resolution to the $126B (2020 ye) stolen. Also, $45B is the more realistic core figure and their warrants have a street value of $30B. All three could be accomplished without accusations of enriching hedge funds.

 

So... A $59B hole with earnings of $20B/year, and with seniors @ 10% and a market value of $200B.

 

Good post. Will stew on it.

[Guest cherzeca]

"Freddie Mac (OTCQB:FMCC) has priced its new 0.375% three-year USD Reference Notes security due on April 20, 2023 at 99.75 to yield 0.459%, 22 basis points more than the yield on three-year U.S. Treasury Notes."  from SA

 

this is amazing, 3 year notes <0.5%, just 22bps above treasuries.  while I understand that there is a huge desire for safety, it is nice to know GSEs are viewed to be in safety bucket

[Midas79]

"Freddie Mac (OTCQB:FMCC) has priced its new 0.375% three-year USD Reference Notes security due on April 20, 2023 at 99.75 to yield 0.459%, 22 basis points more than the yield on three-year U.S. Treasury Notes."  from SA

 

this is amazing, 3 year notes <0.5%, just 22bps above treasuries.  while I understand that there is a huge desire for safety, it is nice to know GSEs are viewed to be in safety bucket

 

According to GSE haters this is solely due to them being in conservatorship.

 

The correct view, of course, is that FnF debt is viewed as this safe with $23B of capital and a $250B Treasury backstop. It stands to reason that it would be viewed as even safer with $150B of capital and a similar or larger Treasury backstop.

 

(I know I'm preaching to the choir here; I made that last comment on Twitter a while back)

[DRValue]

https://www.zerohedge.com/personal-finance/very-ugly-setup-unemployment-claims-rise-missed-mortgage-payments-soar

 

4.9%

[investorG]

https://www.zerohedge.com/personal-finance/very-ugly-setup-unemployment-claims-rise-missed-mortgage-payments-soar

 

4.9%

 

Barring a rapid V shaped recovery, there's low odds for the Re-IPO in 2020 or 2021.  Best to get capital into them ASAP, Plan B.  Public (non-pspa) first, private equity, second if needed.  The talk of jr pref conversions, AIG plan, modest discounts to par are likely fairy tales.  The Fed is facing heavy backlash, they are probably reluctant to add on new areas.  A freshly capitalized FnF (post-Collins settlement and Sr pref writedown) can - among many other benefits - help save select servicers, winning MBA's support for the plan.

[Midas79]

https://www.zerohedge.com/personal-finance/very-ugly-setup-unemployment-claims-rise-missed-mortgage-payments-soar

 

4.9%

 

Barring a rapid V shaped recovery, there's low odds for the Re-IPO in 2020 or 2021.  Best to get capital into them ASAP, Plan B.  Public (non-pspa) first, private equity, second if needed.  The talk of jr pref conversions, AIG plan, modest discounts to par are likely fairy tales.  The Fed is facing heavy backlash, they are probably reluctant to add on new areas.  A freshly capitalized FnF (post-Collins settlement and Sr pref writedown) can - among many other benefits - help save select servicers, winning MBA's support for the plan.

 

How do you propose FnF get capitalized without the re-IPO? Where is that much money going to come from?

 

A senior pref writedown, with a concomitant return of $25-30B from Treasury to FnF, doesn't fully capitalize them; they would be around $75B short.  This is also unlikely to happen fast enough to save the servicers, if that is even the purpose of the exercise.

 

Anything more than a modest discount to par for the prefs means the commons go to near-zero. Placement in the capital structure matters.

[TwoCitiesCapital]

https://www.zerohedge.com/personal-finance/very-ugly-setup-unemployment-claims-rise-missed-mortgage-payments-soar

 

4.9%

 

Barring a rapid V shaped recovery, there's low odds for the Re-IPO in 2020 or 2021.  Best to get capital into them ASAP, Plan B.  Public (non-pspa) first, private equity, second if needed.  The talk of jr pref conversions, AIG plan, modest discounts to par are likely fairy tales.  The Fed is facing heavy backlash, they are probably reluctant to add on new areas.  A freshly capitalized FnF (post-Collins settlement and Sr pref writedown) can - among many other benefits - help save select servicers, winning MBA's support for the plan.

 

How do you propose FnF get capitalized without the re-IPO? Where is that much money going to come from?

 

A senior pref writedown, with a concomitant return of $25-30B from Treasury to FnF, doesn't fully capitalize them; they would be around $75B short.  This is also unlikely to happen fast enough to save the servicers, if that is even the purpose of the exercise.

 

Anything more than a modest discount to par for the prefs means the commons go to near-zero. Placement in the capital structure matters.

 

Honestly, does the current stress not help the litigation front? I mean now the narrative isn't just "they stole money from us". It's "they stole money from us and subsequently endangered the entire housing market as a result." That's gotta hit harder, no?

 

I'd honestly like the quicker path of settlement/recap too, but if a court win is what it takes, I'll be here for it. This current crisis just seems like it makes the actions all the more heinous when your role was to "protect and conserve" the assets and your conscious failure to do so now endangers the housing market.

[investorG]

https://www.zerohedge.com/personal-finance/very-ugly-setup-unemployment-claims-rise-missed-mortgage-payments-soar

 

4.9%

 

Barring a rapid V shaped recovery, there's low odds for the Re-IPO in 2020 or 2021.  Best to get capital into them ASAP, Plan B.  Public (non-pspa) first, private equity, second if needed.  The talk of jr pref conversions, AIG plan, modest discounts to par are likely fairy tales.  The Fed is facing heavy backlash, they are probably reluctant to add on new areas.  A freshly capitalized FnF (post-Collins settlement and Sr pref writedown) can - among many other benefits - help save select servicers, winning MBA's support for the plan.

 

How do you propose FnF get capitalized without the re-IPO? Where is that much money going to come from?

 

A senior pref writedown, with a concomitant return of $25-30B from Treasury to FnF, doesn't fully capitalize them; they would be around $75B short.  This is also unlikely to happen fast enough to save the servicers, if that is even the purpose of the exercise.

 

Anything more than a modest discount to par for the prefs means the commons go to near-zero. Placement in the capital structure matters.

 

From Mnuchin's $400-500bn fund from Cares Act.    The common near zero comment only works in an actual liquidation, or 'in the end'.  In the meantime, or reality, I could easily give you a scenario where jr prefs trade at well below par but common trades well above current levels:  an organic capital rebuild over 5 years with jr pref dividends remaining off.  This is why jr pref has less leverage than many claim.

 

edit: also, since they won't likely be re-ipo'ing for years, it's not essential they are fully capitalized per calabria's standards.  they just need a lot more than 25bn currently.  maybe 50bn more.

 

edit 2:  we need the sr pref gone.  MBA needs servicer line.  Govt / taxpayer / America needs a capitalized FnF asap to efficiently and proactively help the people behind troubled mortgages.  A deal makes good sense and is why I believe Calabria punted the capital rule til 'late may' (random) so he could see how things were shaping up and go a different direction if (likely) needed. 

[Guest cherzeca]

4.9% of GSE mortgages in forbearance is high, but again, how is this the GSEs' problem?  GSEs have a problem with defaults, not with congress-ordered forbearance.  that is the servicers' burden to bear.  now if all mortgages in forbearance go into default then that is another story, but right now that is just a story

[investorG]

4.9% of GSE mortgages in forbearance is high, but again, how is this the GSEs' problem?  GSEs have a problem with defaults, not with congress-ordered forbearance.  that is the servicers' burden to bear.  now if all mortgages in forbearance go into default then that is another story, but right now that is just a story

 

Why take the risk that it ends happily when the signs are mixed at best.  They should fix the situation in the next 5 weeks by getting fresh non-pspa capital in there, helping the servicers via FnF, and settling collins.  They should have promptly moved to a 4th amendment last september after the ruling. Now is the 2nd best time imo.

[Guest cherzeca]

@twin

 

"Honestly, does the current stress not help the litigation front?"

 

I have tried to think through whether the GSEs will be an attractive investment in the 1-5 years after recap...I know, dont count your chickens until they hatch...but that is where I come out, that the GSEs will be viewed with more acceptance for their role in housing finance in congress etc after this corona episode....the whole MBA anti-GSE narrative has become somewhat shrill now that it is the MBA that is looking to the GSEs to bail out servicers...I dont see how the MBA can credibly claim that the GSE are not an "essential service", to use corona speak. 

 

so helping litigation or not, I think there will be a cultural financial services shift in favor of the GSEs once corona subsides, and a lot of credit quite frankly should go to Calabria, a fhfa director with spine

[Midas79]

From Mnuchin's $400-500bn fund from Cares Act.    The common near zero comment only works in an actual liquidation, or 'in the end'.  In the meantime, or reality, I could easily give you a scenario where jr prefs trade at well below par but common trades well above current levels:  an organic capital rebuild over 5 years with jr pref dividends remaining off.  This is why jr pref has less leverage than many claim.

 

edit: also, since they won't likely be re-ipo'ing for years, it's not essential they are fully capitalized per calabria's standards.  they just need a lot more than 25bn currently.  maybe 50bn more.

 

edit 2:  we need the sr pref gone.  MBA needs servicer line.  Govt / taxpayer / America needs a capitalized FnF asap to efficiently and proactively help the people behind troubled mortgages.  A deal makes good sense and is why I believe Calabria punted the capital rule til 'late may' (random) so he could see how things were shaping up and go a different direction if (likely) needed.

 

So Treasury is just going to write FnF a huge check with no strings attached? Consider me highly skeptical on this front. How much were you thinking, and why would Treasury just give this money up for free rather than do something like increase the seniors' liquidation preference by that amount?

 

Prefs' placement in the capital structure vis a vis the commons does not only work in liquidation. If that were true then pref series like FNMAO (that have a near-zero div rate right now) would be worth almost nothing, right? Instead we see the opposite, that the liquidation preference part of the prefs' value (as opposed to the dividend value) is substantial. The prefs' combined market value right now is somewhere around $7B while for the commons it's around $3.5B. If neither is getting a dividend for the foreseeable future and liquidation preference doesn't matter, why aren't those numbers closer together?

 

Also, the juniors won't be redeemed (either at full par or at a discount) because that depletes capital at a time FnF need to be building it. The only way to get the juniors to accept a haircut is in conjunction with a voluntary exchange for commons, and you can be sure that they will only take a deal that works to their advantage. This would necessarily be to the existing commons' disadvantage in relative terms.

 

The juniors might not have as much leverage as I think, but one thing I am certain of is that the commons have no leverage whatsoever in comparison. Treasury writing off the seniors and sending FnF $25B, even if it's a tax credit, should moot all cases other than direct claims in Sweeney's court, and those plaintiffs can be settled with individually at a low cost relative to the size of the recap.

 

What is the treatment of the seniors in your slow capital build scenario? If they still exist then both the juniors and prefs will trade at around today's prices at best because there would be no real end in sight; at what point would they go away, and why would Treasury not just convert them into a whole mess of commons like they did with AIG?

 

To edit 1: Calabria said "It has always been my view that an exit from conservatorship is going to require a large capital raise by Fannie and Freddie." That means he won't be releasing them before the re-IPO; alongside it looks more likely.

 

To edit 2: I agree. It's just that there is no way to a recapped FnF that doesn't involve heavy dilution of the commons (either Collins 1 with warrants + re-IPO or Collins 2 with senior conversion) or Treasury just gifting FnF a ton of money.

[investorG]

From Mnuchin's $400-500bn fund from Cares Act.    The common near zero comment only works in an actual liquidation, or 'in the end'.  In the meantime, or reality, I could easily give you a scenario where jr prefs trade at well below par but common trades well above current levels:  an organic capital rebuild over 5 years with jr pref dividends remaining off.  This is why jr pref has less leverage than many claim.

 

edit: also, since they won't likely be re-ipo'ing for years, it's not essential they are fully capitalized per calabria's standards.  they just need a lot more than 25bn currently.  maybe 50bn more.

 

edit 2:  we need the sr pref gone.  MBA needs servicer line.  Govt / taxpayer / America needs a capitalized FnF asap to efficiently and proactively help the people behind troubled mortgages.  A deal makes good sense and is why I believe Calabria punted the capital rule til 'late may' (random) so he could see how things were shaping up and go a different direction if (likely) needed.

 

So Treasury is just going to write FnF a huge check with no strings attached? Consider me highly skeptical on this front. How much were you thinking, and why would Treasury just give this money up for free rather than do something like increase the seniors' liquidation preference by that amount?

 

Prefs' placement in the capital structure vis a vis the commons does not only work in liquidation. If that were true then pref series like FNMAO (that have a near-zero div rate right now) would be worth almost nothing, right? Instead we see the opposite, that the liquidation preference part of the prefs' value (as opposed to the dividend value) is substantial. The prefs' combined market value right now is somewhere around $7B while for the commons it's around $3.5B. If neither is getting a dividend for the foreseeable future and liquidation preference doesn't matter, why aren't those numbers closer together?

 

Also, the juniors won't be redeemed (either at full par or at a discount) because that depletes capital at a time FnF need to be building it. The only way to get the juniors to accept a haircut is in conjunction with a voluntary exchange for commons, and you can be sure that they will only take a deal that works to their advantage. This would necessarily be to the existing commons' disadvantage in relative terms.

 

The juniors might not have as much leverage as I think, but one thing I am certain of is that the commons have no leverage whatsoever in comparison. Treasury writing off the seniors and sending FnF $25B, even if it's a tax credit, should moot all cases other than direct claims in Sweeney's court, and those plaintiffs can be settled with individually at a low cost relative to the size of the recap.

 

What is the treatment of the seniors in your slow capital build scenario? If they still exist then both the juniors and prefs will trade at around today's prices at best because there would be no real end in sight; at what point would they go away, and why would Treasury not just convert them into a whole mess of commons like they did with AIG?

 

To edit 1: Calabria said "It has always been my view that an exit from conservatorship is going to require a large capital raise by Fannie and Freddie." That means he won't be releasing them before the re-IPO; alongside it looks more likely.

 

To edit 2: I agree. It's just that there is no way to a recapped FnF that doesn't involve heavy dilution of the commons (either Collins 1 with warrants + re-IPO or Collins 2 with senior conversion) or Treasury just gifting FnF a ton of money.

 

send in 50bn for an extra 10pct warrants.  or something more creative.  common aligned with tsy warrants, they have some leverage.  i dont envision a release any time before 2022 barring a v shaped recovery; they should stay in conservatorship so that Calabria can run the show but restructured and well more capitalized than current.

[orthopa]

I could be wrong but it seems as if these forbearance-s may not impact FnF for some time. For a period of up to 12 months the servicers will be liable to forward P and I. FnF really gets on the hook when the borrower defaults. Technically they cant default until after 12 months and are responsible for a possible balloon payment at the end or other modification. No one is going to default before they have to, ie 12 months. Homeowners now are going to be incentivized to stay in the home as they likely have equity and dont want to walk away.

 

As Calabria has said the smaller less capitalized servicers can get absorbed by the larger better capitalized versions and there is still the possibility of a Fed/Treasury facility for liquidity. I think its reasonable to assume that some small servicers will fail (thus all the MBA squawking) but if absorbed by larger firms and the loans do go on to default how is Fnf affected before even say an IPO a year from now? The new better capitalized servicers makes good on the payments, absorbs the book and the system is stabilized as you go up the ladder. Sure this isnt a fail proof endless process but there are a couple of lines in the sand before FnF.

 

I wish I was smarter on the topic but I cant believe Calabria whose sole mission is to preserve/conserve/recap the GSE would make the statements he has if they truly were at risk. It also seems that even though the servicers are feeling a lot of pain none are insolvent yet, and again there are others according to Calabria that could absorb those who are not equipped to deal with the forbearance.

[Midas79]

send in 50bn for an extra 10pct warrants.  or something more creative.  common aligned with tsy warrants, they have some leverage.  i dont envision a release any time before 2022 barring a v shaped recovery; they should stay in conservatorship so that Calabria can run the show but restructured and well more capitalized than current.

 

Now Treasury gets 90% instead of 80% for the warrants? Why don't they just send $125B to moot all the lawsuits and get 99.5% of the commons instead?

 

Saying that Treasury's interests are aligned with existing commons' only applies if the warrants stay at 80%. If Treasury gets to start upping that percentage then the reverse becomes true: Treasury gets the most money by leaving behind as little as possible for the existing commons.

 

If recapping FnF is such a priority, wouldn't Calabria try to do the re-IPO ASAP? Or are you saying that there won't be enough appetite in the capital markets to provide the money Calabria will want?

[WB_fan82]

 

 

How do you propose FnF get capitalized without the re-IPO? Where is that much money going to come from?

 

A senior pref writedown, with a concomitant return of $25-30B from Treasury to FnF, doesn't fully capitalize them; they would be around $75B short.  This is also unlikely to happen fast enough to save the servicers, if that is even the purpose of the exercise.

 

Anything more than a modest discount to par for the prefs means the commons go to near-zero. Placement in the capital structure matters.

 

A couple ideas:

 

1.  Do a Citi-style exchange offer to the agency BONDS.  Raise capital through a giant arbitrage.  Citi did it with trust preferred.  Maybe even sub debt (recollection is foggy).

 

2.  Calabria capital rule can permit other asset/liab accounts to be equity.  These include the net unamortized premium/discounts related to the upfront G-fees.  These WILL be booked into revenue over time, and the cash has already been received, so why not consider these accounts capital if Calabria has discretion?

 

 

[orthopa]

Its been a little under a year since this video came out. This is where Calabria spilled his guts the most. Then someone threw the brakes on big time. Interesting to see how things were talked about then.

 

https://www.cnbc.com/video/2019/05/20/fhfa-chief-wont-wait-for-congress-to-take-frannie-and-freddie-public.html

[Guest cherzeca]

I could be wrong but it seems as if these forbearance-s may not impact FnF for some time. For a period of up to 12 months the servicers will be liable to forward P and I. FnF really gets on the hook when the borrower defaults. Technically they cant default until after 12 months and are responsible for a possible balloon payment at the end or other modification. No one is going to default before they have to, ie 12 months. Homeowners now are going to be incentivized to stay in the home as they likely have equity and dont want to walk away.

 

As Calabria has said the smaller less capitalized servicers can get absorbed by the larger better capitalized versions and there is still the possibility of a Fed/Treasury facility for liquidity. I think its reasonable to assume that some small servicers will fail (thus all the MBA squawking) but if absorbed by larger firms and the loans do go on to default how is Fnf affected before even say an IPO a year from now? The new better capitalized servicers makes good on the payments, absorbs the book and the system is stabilized as you go up the ladder. Sure this isnt a fail proof endless process but there are a couple of lines in the sand before FnF.

 

I wish I was smarter on the topic but I cant believe Calabria whose sole mission is to preserve/conserve/recap the GSE would make the statements he has if they truly were at risk. It also seems that even though the servicers are feeling a lot of pain none are insolvent yet, and again there are others according to Calabria that could absorb those who are not equipped to deal with the forbearance.

 

I agree with all of this, and I might add that fhfa would not be upset if there was a shakeout in the servicer industry, with weak hands getting acquired by stronger hands.

 

while not all forbearance agreements will be for 12 months (especially smaller servicers will try to keep these periods shorter), as you say there will be no defaults while these loans are in forbearance.  the whole origination process of loans is front end loaded with fees for originators, but when those originators sell loans to GSEs and turn into GSE sub-servicers, that is where the rubber meets the road for Calabria...can you uphold your contractual obligations after you have gotten your fees, and is this mortgagor that you have a relationship with the sort of mortgagor whose loan was money good such that you could sell it to the GSEs without the GF crisis greater fool theory to come into play

[Luke 532]

Scoop: Fannie and Freddie’s regulator may soon allow the mortgage-finance giants to purchase loans in forbearance from U.S. lenders, easing restrictions that have helped to fuel strains in the $11 trillion mortgage market

 

 

[investorG]

Scoop: Fannie and Freddie’s regulator may soon allow the mortgage-finance giants to purchase loans in forbearance from U.S. lenders, easing restrictions that have helped to fuel strains in the $11 trillion mortgage market

 

Likely a good decision, it's best for American citizens and secondarily probably best for our cause in the long run.

[investorG]

send in 50bn for an extra 10pct warrants.  or something more creative.  common aligned with tsy warrants, they have some leverage.  i dont envision a release any time before 2022 barring a v shaped recovery; they should stay in conservatorship so that Calabria can run the show but restructured and well more capitalized than current.

 

Now Treasury gets 90% instead of 80% for the warrants? Why don't they just send $125B to moot all the lawsuits and get 99.5% of the commons instead?

 

Saying that Treasury's interests are aligned with existing commons' only applies if the warrants stay at 80%. If Treasury gets to start upping that percentage then the reverse becomes true: Treasury gets the most money by leaving behind as little as possible for the existing commons.

 

If recapping FnF is such a priority, wouldn't Calabria try to do the re-IPO ASAP? Or are you saying that there won't be enough appetite in the capital markets to provide the money Calabria will want?

 

Tsy shouldn't be about max profits, just significant profits.  An AIG style conversion eats into a lot of their profits due to the massive amount of shares issued to jr pref.  There's a reason imo the ratio has hovered around 3 jr pref / common for the past year -- it's what Moelis 2 suggested.  And yes, given the complexity, size, and economic / forbearance resolution uncertainty -- I do not believe a re-IPO is feasible in 2020 or probably also 2021.

[Luke 532]

https://www.wsj.com/articles/fannie-freddie-regulator-moves-to-ease-cash-crunch-at-mortgage-servicers-11587475780

WASHINGTON—A top U.S. regulator took a step to help struggling mortgage lenders contend with a cash crunch as millions of Americans suspend monthly payments on their home loans. The Federal Housing Finance Agency said Tuesday it would cap at four months the period of time mortgage companies are on the hook to make monthly payments on behalf of borrowers who are in arrears.

 

 

[Luke 532]

https://www.fhfa.gov/Media/PublicAffairs/Pages/FHFA-Addresses-Servicer-Liquidity-Concerns-Announces-Four-Month-Advance-Obligation-Limit-for-Loans-in-Forbearance.aspx

[investorG]

can FnF pref trade negative? asking for a friend.  kidding (i think)...good luck everyone. 

[Luke 532]

FHFA has told Fannie and Freddie that loans in forbearance due to the coronavirus can be kept in MBS pools as long as forbearance lasts, and that once a servicer misses 4 months of payments, it will no longer be obligated to pay investors.