Sunday, September 7, 2009
Like it or not, the "interesting times" have arrived. With this weekend’s nationalization of Fannie and Freddie, and other such bailouts of a financial industry beset with self-inflicted wounds (actions I predicted some 4 years ago), we have now crossed a line.
Given that our entire banking system is insolvent, there are no financial solutions to this crisis, only political ones. The question before us now is both simple and stark: “Who is going to be left holding the bag?” This weekend, we found out with the nationalization of Fannie (FNM) and Freddie (FRE) that there is strong political, bipartisan support for making current and future taxpayers the ultimate recipients of the bag.
At times like this, I feel the need to back way up and take in the big picture, because the details are too slippery and too numerous to grasp.
For example, consider this proposal on how the government should structure the FNM/FRE bailout, by
Pershing Square Capital Management
The issuance of senior sub debt is permitted under the GSE legislation and under the existing terms of the outstanding debt and equity securities of the two entities (please see the attached memo for further details). As a condition of Treasury’s purchase of senior sub debt, the GSEs would defer the interest payments on the outstanding sub debt (which can be deferred for as much as five years), and the dividend payments on preferred and common stock. All of the Subordinate Securities would continue to remain outstanding according to their existing terms.
The new senior sub debt should have a market-based coupon and Treasury should receive low-strike price warrants (penny warrants) for a substantial portion, i.e., 49% of the two companies.
Say what? I cannot figure out what that means to me, individually, or to my country collectively. I just have no idea. Which means it is time to back up and take in a wider view.
The bailout of Fannie and Freddie was necessitated by the fact that they are insolvent. They have been claiming to be solvent right up to this weekend, but according to their former overseer, Armando Falcon of the OFHEO, a “more accurate accounting of their assets and liabilities… would show them to be insolvent.”
Worse, in a brilliant weekend article in the NYT, Gretchen Morgenson revealed that when Morgan Stanley auditors pored through the books of Fannie and Freddie, they found that both had systematically and willfully cooked their books to make themselves appear healthier than they really are.
