Comments on: Fortune magazine and the N-word

By: Valuethinker

Valuethinker — Tue, 15 Jul 2008 14:10:13 +0000

John

You are confusing debt and equity.

Wiping out the equity shareholders of Northern Rock, or Fannie Mae or Freddie Mac at this point will cost very little money (less than $20bn in the case of the latter 2).

The problem is the debt. 6 trillion worth, where a default could paralyse the US housing market for years, cause a run on the US dollar etc.

Now it may be that the debt holders will have to take a haircut. The debt yield did not fully reflect the risk of the enterprise.

5% say would be $300bn. But how do you ram that down the debtholders’ throats without causing a full run collapse. What if the haircut is 10% or 20%? $600bn or $1.2trn?

To add to this, you have the systemic effects. The outcome of Freddie and Fannie will have a big impact on US housing prices, and therefore the actual recoveries from their Mortgage Backed Securities. The potential for a large negative feedback loop exists. (as it does for NR—1/12th of all British mortgages, and 1/5th of all mortgages in H1 2007).

We are in very treacherous waters. Fannie and Freddie will be creeping nationalised, what is at stake is the very confidence of the financial system in US mortgage backed securities, and therefore the ability of the US home lending system to function.

By: John Quiggin

John Quiggin — Mon, 14 Jul 2008 11:15:06 +0000

I agree that there’s nothing unique about it. It’s just an obvious feature of the way in which a workout ought to proceed.

On your second para, if the benefits of the guarantee were greater than the expected cost of the implied terms of the workout when the guarantee is exercised, then the net benefit would be incorporated in the share price. So the shareholders have no reason to complain when the guarantee is called on and they are wiped out.

By: Tom T.

Tom T. — Mon, 14 Jul 2008 00:02:33 +0000

The shareholders of these companies have been happy to accept the higher returns associated with an implicit government guarantee and they should pay the price when the guarantee is needed.

I don’t understand this point. Nationalization in this context is simply another form of insolvency workout, and that’s a risk faced by shareholders in any company. The Government guarantee doesn’t make that situation unique.

And as for the higher returns associated with the guarantee, presumably those were incorporated into the share price, so I don’t understand why those shareholders should be treated different from shareholders in any other company in that regard.

By: annie

annie — Sun, 13 Jul 2008 06:41:23 +0000

realize that if fanny and freddy are taken over by the gov (they will probably be subsumed into something like ginniemae) shareholders will get nothing. stocks go to zero. it’s the bondholders (lenders) who will be paid. many pension plans, mutual funds, as well as foreign governments own these shares soon worth zero. and taxpayers will end up with the $5 trillion debt though the gov will not put it this way.
a few people have seen this coming but most politicians left and right are clueless—this includes dodd and frank, chairmen now of the banking committees. if one person should be blamed it would be serial bubble-blower greenspan, but of course the enabler was simply enabled. the pols understand nada. the banks have run amok.

By: virgil xenophon

virgil xenophon — Sat, 12 Jul 2008 09:21:50 +0000

For what it’s worth, most of the major players at Fannie and Freddy were Clinton appointees and it was their policy actions that set these agencies on a course of action that has ended up where we are today.

By: Joshua Holmes

Joshua Holmes — Sat, 12 Jul 2008 01:09:47 +0000

One of the many question for the post mortem will be how private companies ended up with such dominant positions in securitisation.

Because they’re chartered by the US, and investors have (probably correctly) worked under the assumption that the US would bail them out.

By: Tom

Tom — Fri, 11 Jul 2008 18:28:22 +0000

Technical note: US Treasury debt is not “AAA”, it is better than AAA, it is the risk-free debt that AAA and lesser quality debt is priced off of.tt

By: Dave

Dave — Fri, 11 Jul 2008 07:46:17 +0000

So do these entities have these stupid and frankly infantile names to distract the public from the fact that they represent a vast state intrusion into the market, or what?

By: a

Fri, 11 Jul 2008 05:12:17 +0000

“But the implicit guarantee that Fannie and Freddie have should already be factored in to the US sovereign credit rating.”

Don’t think so. It’s a bit like saying that Enron’s off-balance sheet items were factored into Enron’s credit rating.

By: gandhi

gandhi — Fri, 11 Jul 2008 01:23:11 +0000

Perhaps Alan Greenspan and his friends in the White House could be persuaded to prop up these failing companies with their own personal savings, which I believe are quite considerable.

I’m sure the board members of the Carlyle Group would be happy to provide further assistance if needed. Swell guys and true patriots, so I am told.

By: P O'Neill

P O'Neill — Fri, 11 Jul 2008 01:17:21 +0000

Nuking the shareholders gets you nowhere. It’s precisely the thin capital base that is part of the problem. One of the many question for the post mortem will be how private companies ended up with such dominant positions in securitisation.

By: Bonapart O Cunasa

Bonapart O Cunasa — Thu, 10 Jul 2008 22:45:01 +0000

But the implicit guarantee that Fannie and Freddie have should already be factored in to the US sovereign credit rating. It’s just not – and never has been – a credible threat to let them fail.

By: abb1

abb1 — Thu, 10 Jul 2008 21:44:51 +0000

Nationalization, the way it’s done these days, is not really that exciting: rebuilding the company with public funds and then throwing it back to hyenas for next to nothing. What’s the point.

By: Walt

Walt — Thu, 10 Jul 2008 21:14:01 +0000

There’s an exciting alternative to bankruptcy, one that alluded to in the post: it’s called nationalization.

By: a

Thu, 10 Jul 2008 20:54:55 +0000

“A bankruptcy of these two company mean the end of Real Estate at least for some years.”

Choose your poison. The real-estate system in America is built on a house of cards. There isn’t any solution that’s going to make it solid.