by Calculated Risk on 9/08/2008 11:59:00 AM

Via MarketWatch:

WaMu also announced that it has entered into a Memorandum of Understanding (MOU) with the Office of Thrift Supervision (OTS) concerning aspects of the bank's operations, principally in several areas of its risk management and compliance functions, including its Bank Secrecy Act compliance program. In addition, WaMu has committed to provide the OTS an updated, multi-year business plan and forecast for its earnings, asset quality, capital and business segment performance. The business plan will not require the company to raise capital, increase liquidity or make changes to the products and services it provides to customers.

This might have contributed to the CEO's ouster.

by Anonymous on 9/08/2008 11:12:00 AM

Paul Krugman would like us all to get straight on the difference between "nationalization" and "deprivatization."

I wish Professor Krugman well in his endeavor, but I'm still waiting for the mainstream press to get clear on the difference between an "asset" and a "liability." Here's USA Today, headlined "Taxpayers take on trillions in risk in Fannie, Freddie takeover":

Freddie Mac and Fannie Mae combined own or guarantee $5.4 trillion in outstanding mortgage debt. The government's decision to place both agencies into a conservatorship — in essence, taking on responsibility for that debt by wresting control from the corporations — is an historic move.

I'm sure some regular readers of this blog think it's silly to be concerned about the level of ignorance and inanity appearing in USA Today, but I'm guessing that most voters get their information about things like the Fannie/Freddie deprivatization from headlines in the mainstream press, not the Financial Times or the Wall Street Journal. So the claim that $5.4 trillion in mortgages represent net liabilities of Fannie and Freddie, instead of assets, and that these are now liabilities of the taxpayers, is going to become one of those things that a lot of people "know" and quite possibly the only thing they "know" about this subject. Eradicating that "knowledge" is going to be tough.

by Calculated Risk on 9/08/2008 09:24:00 AM

Floyd Norris wonders in the NY Times which master the new Fannie and Freddie will serve: The Dilemma of Fannie and Freddie

In recent months, Fannie and Freddie raised the fees they charged to purchase or guarantee loans. ... Now the new managers of Fannie and Freddie will have to decide how they want to run enterprises controlled by the government.

Lowering fees and buying large numbers of mortgages would serve as an economic stimulus, but could increase the ultimate cost to the government if the housing market gets worse. Raising fees, and being cautious in lending, could prolong the housing slump. Being generous in restructuring loans could help borrowers, but cost the enterprises money.

Henry M. Paulson Jr. ... tried to assure the public that the enterprises would follow both courses, an indication that the need to serve multiple masters remains. On one side, he promised that “the primary mission of these enterprises now will be to proactively work to increase the availability of mortgage finance, including by examining the guaranty fee structure with an eye toward mortgage affordability.”

On the other side, he said Fannie and Freddie “will no longer be managed with a strategy to maximize common shareholder returns, a strategy which historically encouraged risk-taking.”

It may not be easy to take less risk while lending more and charging lower fees.

For a discussion of how GSE MBS works (and g-fees) see Tanta's MBS for UberNerds I: GSE Pass-Throughs

by Calculated Risk on 9/07/2008 10:18:00 PM

In three parts (all about 10 minutes each).

"Our economy and our markets will not recover until the bulk of this housing correction is behind us."
Treasury Secretary Hank Paulson, Sept 7, 2008 (see part 2)

by Calculated Risk on 9/07/2008 08:46:00 PM

From the WSJ: Washington Mutual Forces Out CEO

[CEO Kerry] Killinger's departure after 18 years of running the nation's largest savings and loan is scheduled to be announced Monday morning before the market opens.

by Calculated Risk on 9/07/2008 06:28:00 PM

When the Paulson Plan was announced in mid-July, my initial reaction was:

It seems the plan is bad for equity holders, but good for debt holders ... and potentially bad for taxpayers ...

Nothing has changed.

Although the common shares will continue to trade, they are further behind with new senior preferred shares being issued to the Treasury. And even if the common is worth something again someday (more than the option value they will trade at soon), the Treasury received warrants that will significantly dilute the common.

Warrants for the purchase of common stock of each GSE representing 79.9% of the common stock of each GSE on a fully-diluted basis at a nominal price

On the other hand, the debt holders should see a rally tomorrow since the Treasury has guaranteed they will provide enough capital such "that each enterprise maintains a positive net worth".

Those are the easy calls.

The bigger questions are (in no particular order): 1) How much does this cost taxpayers (if anything)? 2) What happens to treasuries? 3) What happens to the existing preferred? 4) What happens to FDIC insured banks that hold the existing preferred? 5) What happens to the stock market? 6) What happens to mortgage rates? 7) What happens to the housing market and the economy?

These are some of the questions we will be discussing.

Just like with the common, the existing preferred will continue to trade (although the dividend is eliminated).

"The common stock and preferred stock dividends will be eliminated, but the common and all preferred stocks will continue to remain outstanding."

This will have a significant impact on some banks, as the FDIC noted earlier today. Many banks will have to take write-downs (as they mark to market), and some smaller banks will probably fail.

UPDATE: From Fitch: Fitch Affirms Fannie Mae & Freddie Mac's 'AAA' IDR; Lowers Pfd Stock; Sub Debt on Watch Evolving

Fitch has also downgraded FNM and FRE's preferred stock to 'C/RR6' from 'BBB-'. The downgrade of the preferred stock reflects the subordination of the preferred to any Treasury interest and interest payments are unlikely to resume in the foreseeable future. Thus, any recovery is expected to be minimal.
emphasis added

As far as treasuries, I expect a sell-off. This is uncertain, but it would seem investors have a choice between Fannie and Freddie debt and Treasuries (although treasuries are state tax free). The Ten Year closed on Friday with a yield of 3.66%; I expect a sell-off.

I suppose mortgage rates will decline as Fannie and Freddie's borrowing costs decline. Also the Treasury will be buying GSE MBS and that should push down mortgage rates:

Treasury will begin later this month by investing in new GSE MBS, which are credit-guaranteed by the GSEs. Additional purchases will be made as deemed appropriate. Treasury can hold this portfolio of MBS to maturity and, based on mortgage market conditions, Treasury may make adjustments to the portfolio.

I suppose the stock market will rally tomorrow. See Bloomberg Stock Futures. But this is just short term. Longer term, investors will look at the impact of the economic slowdown on earnings - and that picture is still grim.

The cost to taxpayers is also very unclear. It is possible that taxpayers will not be negatively impacted in the long run. This depends heavily on the losses in the retained portfolios of Fannie and Freddie, and the cash flow from the good portion of the portfolio, and also on future defaults and house prices. Even if the Treasury has to purchase $50 billion or $100 billion in senior preferred shares to maintain the positive net worth of Fannie and Freddie, the Treasury will own the first equity in line to be paid off from future profits (assuming future profits). This makes the losses very unclear.

For housing, this doesn't change anything. Housing fundamentals remain the same: excess supply (especially distressed supply), tighter lending standards, and prices are still too high compared to incomes and rents. The possible slightly lower mortgage rates are almost inconsequential compared to supply and price issues.

And the economy is still in recession that will linger for some time.

And finally how, when, and into what do Fannie and Freddie eventually transition? This will be a huge issue for some time.

Just some thoughts ... I'm very open to alternative questions and outcomes.

by Calculated Risk on 9/07/2008 01:40:00 PM

From the FDIC: The Federal Banking Agencies React to Takeover of Fannie Mae and Freddie Mac

The federal banking agencies have been assessing the exposures of banks and thrifts to Fannie Mae and Freddie Mac. The agencies believe that, while many institutions hold common or preferred shares of these two government-sponsored enterprises, a limited number of smaller institutions have holdings that are significant compared to their capital.

The Federal Reserve Board, the Federal Deposit Insurance Corporation, the Office of the Comptroller of the Currency, and the Office of Thrift Supervision are prepared to work with these institutions to develop capital-restoration plans pursuant to the capital regulations and the prompt corrective action provisions of the Federal Deposit Insurance Corporation Improvement Act.

All institutions are reminded that investments in preferred stock and common stock with readily determinable fair value should be reported as available-for-sale equity security holdings, and that any net unrealized losses on these securities are deducted from regulatory capital.
emphasis added

Expect more bank failures ...

by Calculated Risk on 9/07/2008 11:08:00 AM

From Treasury: Statement by Secretary Henry M. Paulson, Jr. on Treasury and Federal Housing Finance Agency Action to Protect Financial Markets and Taxpayers

Conservatorship

Preferred Stock Purchase Agreements

Treasury has taken three additional steps to complement FHFA's decision to place both enterprises in conservatorship. First, Treasury and FHFA have established Preferred Stock Purchase Agreements, contractual agreements between the Treasury and the conserved entities. Under these agreements, Treasury will ensure that each company maintains a positive net worth.
...
With this agreement, Treasury receives senior preferred equity shares and warrants that protect taxpayers. Additionally, under the terms of the agreement, common and preferred shareholders bear losses ahead of the new government senior preferred shares.
emphasis added

Important for some FDIC insured institutions:

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

Secured Lending Facility.

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

Treasury to buy GSE MBS

Treasury is initiating a temporary program to purchase GSE MBS.

Fact Sheets from Treasury:

FHFA Director Lockhart Remarks on Housing GSE Actions
Fact Sheet: FHFA Conservatorship
Fact Sheet: Treasury Preferred Stock Purchase Agreement
Fact Sheet: Treasury MBS Purchase Program
Fact Sheet: Treasury GSE Credit Facility

by Calculated Risk on 9/07/2008 10:38:00 AM

From WSJ: Treasury to Outline Fan-Fred Plan

U.S. Treasury Secretary Henry Paulson and Federal Housing Finance Agency Director James Lockhart are expected to release details of the planned conservatorship of Fannie Mae and Freddie Mac at an 11 a.m. press conference in downtown Washington.

by Calculated Risk on 9/07/2008 09:52:00 AM

While we wait for more on Hurricanes Fannie and Freddie, here is an update on Hurricane Ike.

Ike is now a category 4 hurricane on the Saffir-Simpson Scale and has already caused extensive damage in the Turks and Caicos islands.

Right now Ike appears to be headed towards Cuba and then into the GOM (although south Florida isn't in the clear yet).



Here are some excellent sites to track hurricanes:
National Hurricane Center
Weather Underground Note: See Jeff Master's blog.