My High Dividend Stocks Blog

My High Dividend Stocks
This is my high dividend stocks site where I help site members find high dividend stocks with earning power and strong balance sheets.

High dividend stocks – Terminate Fannie Mae and Freddie Mac

I don’t like government intervention in any markets.  Fannie Mae and Freddie Mac represent massive government intrusion into the mortgage markets since the 1930s.  Without government life support they would go out of business.  The US federal government will be on life support itself in the next few years due decades of ever increasing deficit spending.  The congress will pull the life support away from Fannie and Freddie in order to save their own careers when they can no longer kick the can.  It is a question of when - not if.
So what happens to AGNC’s common stock price when that happens?  We’ll have to really scrutinize its earning statements and balance sheets to understand how exposed they are to these two GSEs.  My guess is very exposed.  We don’t have to play the game when we know it is rigged.

I think you will like this article by Michael Rozeff from www.lewrockwell.com.  I'm pretty sure it was written in late 2008 which was just after AGNC's IPO in May 2008.

Terminate Fannie Mae and Freddie Mac
by Michael S. Rozeff

I am a minority of one, or a very small number, in thinking that the failures of Fannie Mae and Freddie Mac are good news.

These two companies should not exist. No private companies should have lines of credit to the U.S. Treasury, that is, U.S. taxpayers. No private companies should be linked to a government mandate that they facilitate affordable housing by buying up mortgages. No private companies should issue debts that investors believe may have an implicit guarantee provided by taxpayers.

The only bad thing about these failures is what the Federal government may do next to keep them alive. The only bad thing is that the Federal government will probably make matters worse.

This is a golden opportunity to end these enterprises once and for all. And doing that is incredibly simple! Any Wall Street investment bank can, in short order, produce a plan to restructure these companies and charge the appropriate (high) fees for carrying out that plan. The possible ways to restructure include sales of the assets, creating subsidiaries and selling them, spinning off subsidiary companies, and breaking up the company into several companies. Fannie Mae and Freddie Mac could also put their entire companies up for sale.

Such restructurings are Wall Street’s bread and butter. The equity values of these companies have already fallen considerably. Their value in a restructuring may be quite small, but control does have a non-negligible value. The markets are already pricing the debts of these two giants at less than face value, despite the chance of an implicit guarantee or a taxpayer bailout. The debt-holders took a chance buying this paper. They should bear the consequences. Restructuring will reveal the true worth of these debt securities.

Investors in these enterprises, both debt and equity holders, should not be bailed out by the taxpayers. These two companies made bad investments by buying mortgages that have gone bad. These two companies also issued too much debt to finance these investments, which gave them very shaky financial structures. The worth of their assets is less than the worth of their liabilities, which makes them insolvent. They are not yet bankrupt. They still have the cash to service their debts. These debts are by no means worthless. About 11.6 percent of money market funds are invested in agency debt. At current prices of these debts, news of money market troubles has not surfaced. If those prices fell by 10 percent, the money market losses would be a modest 1 percent.

Any restructuring presumes what is not in evidence, which is that the Federal government has to sever completely its relationships with housing markets and specifically with Fannie Mae and Freddie Mac. There’s the rub. Congress won’t do this, unless seized by some unforeseen miracle of rationality.

There are millions of Americans who may fear the dissolution of these companies. They will wonder where they will get mortgages from. There are hundreds of columnists who share this fear. Some will pretend to hold their nose while supporting a government bailout. Some will want to maintain the government’s interference in housing markets or even expand it as a matter of public policy.

There is nothing to fear. The amount of money on the sidelines that is available for funding mortgages is tremendous. It can be coaxed into mortgages if the interest rates paid are high enough. A free market in mortgages will easily provide capital to creditworthy borrowers. But that too is the rub. The government wants to keep mortgage rates low so as to keep the housing industry going and to satisfy the voters who take out mortgages. The government does not want a free market in mortgages, and that is because neither voters nor the housing industry want a free market in housing. As long as there is a government that is empowered to interfere, the pressure to interfere will overcome the free market.

Democracy just does not work, my friends! Sooner or later, in this case 70 years later, 70 years after Fannie Mae began, the system starts to break down. Call it what you will, democratic socialism or democratic fascism or both, democracy does not work. It doesn’t work in agriculture, in the military, in the space program, in the banking system, or in any other part of an economy. Sooner or later, depending on various particulars, blowups occur.

Without the government in the picture, there is no way that Fannie Mae and Freddie Mac could ever have grown so large. Their balance sheet assets (and liabilities) total about $1.6 trillion. They have off-balance liabilities of another $3.5 trillion or so. How big is $5 trillion? The national debt of the U.S. is $9.5 trillion!

It is almost unbelievable that these two companies could have run up debts that are more than half the size of the country’s national debt. But that is inherent in the chemistry of government + housing + debt guarantees. The housing market is huge, especially over time as the housing stock accumulates. By giving Fannie Mae and Freddie Mac an advantage in issuing debt, these companies came to dominate the housing finance market. There is no better time than now to end this absurdity.

Freddie Mac faces huge losses, as much as $775,000,000. Its equity can easily be wiped out. That means bankruptcy. That is nothing to fear, either. That means that restructuring will be forced upon the company. The point is to let it happen and happen quickly and get the government out of the picture altogether.

Naturally, this has not been what the government has been doing. Instead, it has done the opposite so far. Congress has passed a bill that awaits the President’s signature or veto. There will be a deal. The bill increases mortgage loan limits drastically. Smart move, guys. Pelosi wants them even higher, $730,000 instead of $625,000.

Mr. Corruption himself, Chris Dodd, is the lead sponsor of the bill. Even as the stocks of these two companies approach $0, he reassures the public that the CEOs of Fannie Mae and Freddie Mac and Ben Bernanke tell him that they are not at risk of default. This is a bald-faced lie. Failure to face and state truths is a national addiction. The predilection to lie in the face of bad news is so ingrained that our leaders no longer can even detect the difference between what is true and what is false. They lie and they know they lie. But they also believe their lies because they believe their lies to be political necessities.

Can liars even begin to think straight about what should be done that is in the long-run interest of the American public? If they could think straight, could they summon the courage to act? Democracy encourages lies, liars, and cowardice in the face of voters and payoffs. Democracy just does not work, my friends.

Terminate Fannie Mae and Freddie Mac. Sever the relations with the government and let Wall Street, or investment bankers in San Francisco or Austin or Boston or Tallahassee do what they know best, which is restructure these companies. All the mortgages held or guaranteed by them will still be held and serviced, but by new companies and new investors. Problem solved.

July 16, 2008

Michael S. Rozeff [send him mail] is a retired Professor of Finance living in East Amherst, New York.

Be seeing you!

Fannie and Freddie

August 24th, 2010

You can listen to this article on your smart phone or computer.  This is perfect for drive time. 

We have been analyzing American Agency Capital Corp. (AGNC) for the past few articles at www.myhighdividendstocks.com .  AGNC purchases mortgage-backed securities and collateral debt obligations from Fannie Mae and Freddie Mac.  So we must understand what Fannie and Freddie are and how the make/lose money.  For those of you who don’t know – Fannie and Freddie are government sponsored enterprises.  That means they have special privileges that other corporations don’t.  They buy mortgages in the secondary market, repackage them into securitized products, and guarantee the principal and interest payments on those securitized products.  They are colossal failures and have to be subsidized by the federal government almost yearly to keep operating.  Ron Paul spoke before the House Financial Services Committee years before the housing crisis and the financial crisis.  He understands that government intervention in markets distorts the allocation of capital in those markets.  The mortgage market is no exception.  This is a concise explanation of how the markets are distorted by congress’ subsidies to Fannie and Freddie.  AGNC’s dependence on Fannie, Freddie, and Congress is a huge risk that you must understand before investing in this stock yielding 20%.

This article appeared on www.LewRockwell.com way back in September 2003

Fannie and Freddie

by Rep. Ron Paul, MD
by Rep. Ron Paul, MD

Ron Paul in the House Financial Services Committee, September 10, 2003

Mr. Chairman, thank you for holding this hearing on the Treasury Department's views regarding government sponsored enterprises (GSEs). I would also like to thank Secretaries Snow and Martinez for taking time out of their busy schedules to appear before the committee.

I hope this committee spends some time examining the special privileges provided to GSEs by the federal government. According to the Congressional Budget Office, the housing-related GSEs received $13.6 billion worth of indirect federal subsidies in fiscal year 2000 alone. Today, I will introduce the Free Housing Market Enhancement Act, which removes government subsidies from the Federal National Mortgage Association (Fannie Mae), the Federal Home Loan Mortgage Corporation (Freddie Mac), and the National Home Loan Bank Board.

One of the major government privileges granted to GSEs is a line of credit with the United States Treasury. According to some estimates, the line of credit may be worth over $2 billion. This explicit promise by the Treasury to bail out GSEs in times of economic difficulty helps the GSEs attract investors who are willing to settle for lower yields than they would demand in the absence of the subsidy. Thus, the line of credit distorts the allocation of capital. More importantly, the line of credit is a promise on behalf of the government to engage in a huge unconstitutional and immoral income transfer from working Americans to holders of GSE debt.

The Free Housing Market Enhancement Act also repeals the explicit grant of legal authority given to the Federal Reserve to purchase GSE debt. GSEs are the only institutions besides the United States Treasury granted explicit statutory authority to monetize their debt through the Federal Reserve. This provision gives the GSEs a source of liquidity unavailable to their competitors.

The connection between the GSEs and the government helps isolate the GSE management from market discipline. This isolation from market discipline is the root cause of the recent reports of mismanagement occurring at Fannie and Freddie. After all, if Fannie and Freddie were not underwritten by the federal government, investors would demand Fannie and Freddie provide assurance that they follow accepted management and accounting practices.

Ironically, by transferring the risk of a widespread mortgage default, the government increases the likelihood of a painful crash in the housing market. This is because the special privileges granted to Fannie and Freddie have distorted the housing market by allowing them to attract capital they could not attract under pure market conditions. As a result, capital is diverted from its most productive use into housing. This reduces the efficacy of the entire market and thus reduces the standard of living of all Americans.

Despite the long-term damage to the economy inflicted by the government's interference in the housing market, the government's policy of diverting capital to other uses creates a short-term boom in housing. Like all artificially-created bubbles, the boom in housing prices cannot last forever. When housing prices fall, homeowners will experience difficulty as their equity is wiped out. Furthermore, the holders of the mortgage debt will also have a loss. These losses will be greater than they would have otherwise been had government policy not actively encouraged over-investment in housing.

Perhaps the Federal Reserve can stave off the day of reckoning by purchasing GSE debt and pumping liquidity into the housing market, but this cannot hold off the inevitable drop in the housing market forever. In fact, postponing the necessary, but painful market corrections will only deepen the inevitable fall. The more people invested in the market, the greater the effects across the economy when the bubble bursts.

No less an authority than Federal Reserve Chairman Alan Greenspan has expressed concern that government subsidies provided to GSEs make investors underestimate the risk of investing in Fannie Mae and Freddie Mac.

Mr. Chairman, I would like to once again thank the Financial Services Committee for holding this hearing. I would also like to thank Secretaries Snow and Martinez for their presence here today. I hope today's hearing sheds light on how special privileges granted to GSEs distort the housing market and endanger American taxpayers. Congress should act to remove taxpayer support from the housing GSEs before the bubble bursts and taxpayers are once again forced to bail out investors who were misled by foolish government interference in the market. I therefore hope this committee will soon stand up for American taxpayers and investors by acting on my Free Housing Market Enhancement Act.

Dr. Ron Paul is a Republican member of Congress from Texas.