Securities Law Prof Blog

Editor: Eric C. Chaffee
Univ. of Toledo College of Law

Monday, September 8, 2008

Treasury Places Freddie and Fannie in Conservatorships to Support the Housing Market

Treasury Secretary Paulson announced on Sunday that Fannie Mae and Freddie Mac are being placed in conservatorships.  According to the press statement this action is necessary "to protect the financial system, to support the housing market, and to protect the taxpayers." New CEOs supported by new non-executive Chairmen have taken over management of the enterprises. While conservatorships do not eliminate the existing preferred and common stocks, they place common shareholders last, and the preferred shareholders next to last, in terms of claims on the assets of the enterprises.

Depository institutions are encouraged to contact their primary federal regulator if they believe that losses on their holdings of Fannie Mae or Freddie Mac common or preferred shares, whether realized or unrealized, are likely to reduce their regulatory capital below "well capitalized." The banking agencies are prepared to work with the affected institutions to develop capital restoration plans consistent with the capital regulations.

The primary mission of these enterprises now will be to work to increase the availability of mortgage finance, including by examining the guaranty fee structure with an eye toward mortgage affordability. To promote stability in the secondary mortgage market and lower the cost of funding, the GSEs will modestly increase their MBS portfolios through the end of 2009. Then, to address systemic risk, in 2010 their portfolios will begin to be gradually reduced at the rate of 10 percent per year, largely through natural run off, eventually stabilizing at a lower, less risky size.

Treasury has taken three additional steps: First, Treasury and FHFA have established Preferred Stock Purchase Agreements between the Treasury and the conserved entities. Under these agreements, Treasury will ensure that each company maintains a positive net worth through its purchase of senior preferred equity shares and warrants.  According to the press statement, these investments were necessary because of "the ambiguities in the GSE Congressional charters" that led to investors' perceptions that the securities were "virtually risk-free."

Second, Treasury is establishing a new secured lending credit facility which will be available to Fannie Mae, Freddie Mac, and the Federal Home Loan Banks. This facility is intended to serve as an "ultimate liquidity backstop," implementing the temporary liquidity backstop authority granted by Congress in July, and will be available until those authorities expire in December 2009.

Third, Treasury is initiating a temporary program to purchase GSE MBS so that mortgages will become more affordable. Treasury will begin this new program later this month, investing in new GSE MBS, and additional purchases will be made as deemed appropriate.  This program will also expire with the Treasury's temporary authorities in December 2009.

Additional information about the government's actions is posted on the Treasury website.

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Do you think that current shareholders have any legal standing against the Feds to claim this is some sort of federal taking? The fed's claim that this was agreed to voluntarily by the GSEs is not strictly true, the feds basically threatened to change the rules on how to calculate the capital requirements until the GSEs were officially underwater so that they had the authority to take them over. It was essentially an offer they couldn't refuse.

Posted by: Keith Wright | Sep 8, 2008 7:36:25 AM

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