Loading ...GSE Fraud - And YOU Are About To Get The Bill!
http://market-ticker.denninger.net/
Then, last week, advisers from Morgan Stanley hired by the Treasury Department to scrutinize the companies came to a troubling conclusion: Freddie Mac’s capital position was worse than initially imagined, according to people briefed on those findings. The company had made decisions that, while not necessarily in violation of accounting rules, had the effect of overstating the companies’s capital resources and financial stability.
Indeed, one person briefed on the company’s finances said Freddie Mac had made accounting decisions that pushed losses into the future and postponed a capital shortfall until the fourth quarter of this year, which would not need to be disclosed until early 2009. Fannie Mae has used similar methods, but to a lesser degree, according to other people who have been briefed.
You got that?
Fannie and Freddie both said they had “more capital than any other time” and they were “well-capitalized” - this is from their CEOs - as recently as a month ago.
They lied.
They both engaged in accounting gimmicks to intentionally understate their losses, refusing to recognize them until either 4th quarter or 2009, thereby making them look stronger than they really were.
This was the triggering event for Paulson’s “Bazooka” and how, given the restrictions in HR.3221 along with the previous public law (which, by the way, is controlling until October), he can come in and involuntarily place the companies into conservatorship.
Now folks, go read the previous ticker I wrote earlier today.
Contemplate it.
Contemplate what you just read up above.
These two gigantic hedge funds intentionally manipulated their accounting to show a capital position that was stronger than reality, by pushing forward losses instead of recognizing them as they occurred.
While not illegal, it had the effect of lying to the markets, which put both firms at risk of all-on collapse.
Now the government proposes to bail them out at your expense and risk the collapse of the government’s funding, instead of indicting the executives of these firms and placing them into rundown, forcing the losses to be taken by the people who profited from the gains during the “salad years.”
And once again, I reproduce the specific language on the front of a July 2008 Fannie Mae “passthrough” debt certificate:
I didn’t make this up folks. It is on the face of every single debt prospectus issued since these firms were public companies - thirty years worth of time.
In other words every single holder of current debt issued by these firms has this on the face of their prospectus. Every single one. All of the GSE debt outstanding is 30 years or less in duration; ergo, every single person who has ever purchased any of this debt is well-aware of the risk involved in doing so.
Period.
Now we find out that the essence of the “bailout” is that these gigantic hedge funds did once again what they did in the 2003 time frame - that is, they overstated earnings and understated losses to make their books look better than they actually are.
They reported these “facts” to the public - and I put “facts” in quotation marks because they were, even though legal, casting the status of these firms in an intentionally false light.
So what we have now is that Morgan Stanley and Deloitte and Touche, the latter being accountants who’s job it is to certify the correctness of one’s financial condition, found that this was in fact not the case. That the picture was overly-rosy compared to reality.
In fact, it was “overly-rosy” enough that the government was able to declare these firms critically undercapitalized and thus force them into conservatorship - that is, they have been effectively declared bankrupt.
So let’s see if we get this right:
- Phoney and Fraudie (which now appears were EARNED names) intentionally stated their “earnings” in such a fashion as to conceal by pushing forward losses into Q4 and 2009 that in fact had already occurred.
- Phoney and Fraudie then both stood on national television and proclaimed to be “well-capitalized” and “in great shape” financially, having plenty of “excess capital.” I saw it on CNBC and so did millions of others.
- In fact, Phoney and Fraudie had nothing of the sort, and when audited by Morgan Stanley and Deloitte and Touche, were found to have committed this act, which while not illegal, had the effect of overstating their capital position. Given the leverage these firms have and use, even a small overstatement is the difference between being solvent and insolvent (that is, bankrupt.)
- This caused Paulson and Bernanke no end of consternation, and they (along with Lockhart) have decided to intervene, placing the firms in conservatorship.
Now we get down to brass tacks.
- Why should the FCBs, or anyone else, get a full guarantee on this debt? They bought it with the disclaimer on the face and furthermore, knowing full well these firms were geared at 80:1 or more. There was no “bamboozling” or “coercion” - it was bought for one purpose and one purpose only - to get another 50 bips (roughly) of yield compared to Treasuries. And get it they did - to the tune of five hundred billion dollars over the last 10 years.
- Why should any equity investor get a nickel? Preferred or otherwise? They bought this paper and have been able to see the financials too. Overstated or not, they knew there was risk.
What Paulson and Treasury had better do is the following:
-
Place the firms in Conservatorship.
- Partition the firms - we draw a line down the balance sheet and P&L. For all intents and purposes, they open Monday as new companies.
- For the new firms, their debt issue is backed by the full faith and credit of the US Government. The new firms buy only mortgages backed by 20% down, with a maximum 36% DTI. No games, no BS, no nothing. The business opens Monday under these terms and starts issuing debt as required.
- Do not guarantee existing debt. The “old firm” is run off as its debt matures. If there are losses, they are taken as the debt runs off. Allow that debt to trade at the market, whatever it is. These losses will not be catastrophic and those who claim it will be are LYING. Even if the ALT-A and Subprime part of the portfolio experiences losses that are as bad as other issuers over the last few years, the total loss on the portfolio will be in the range of 5%. This is absolutely manageable for the debtholders and we the taxpayer should not get a $250 - $500 billion bill for this mess that was caused by the intentional acts of these firms!
- The preferred stock has preference in the capital structure to common, but not to debt. Lock it up at ~4 quarters of dividend, declining to termination. This allows the impact of that shortfall to be taken over the next year, and preserves some value, eventually removing it from the capital structure. The common will trade for pennies immediately.
- If and only if the new firm generates a profit, use that profit to “shore up” the old firm’s coupon and principal payments during rundown, proportionately.
- WHEN the existing portfolio is completely run down, then and only then spin off the new firms to the public, regulating their capital levels as if they are banks, under explicit Congressional authority.
The results of this action would be to:
- NOT cause an immediate credit event on CDS related to them. If individual issues default on coupon, they will trip events as they do, but it won’t do it immediately.
- NOT result in placing $7 trillion on the US Balance sheet. It is absolutely critical that this not occur, either in fact or by implication. If it does we are all screwed.
- NOT collapse the housing market. Fannie and Freddie will, Monday, be open for business with an explicit government guarantee on all debt going forward. It will also immediately stop the stupid loans - all of them - that may still exist in the marketplace. You will be able to get a mortgage, and the spread will come in significantly. You do not need to guarantee the existing debt to cause spreads to come in going forward, and in fact guaranteeing existing debt causes Treasury yields to rise so the “spread narrowing” happens in that case but there is no benefit. If you do it as outlined above, there is immediate and significant benefit.
- NOT reward the speculators, including Bill Gross and Foreign Central Banks, who made arbitrage bets and then crowed to Paulson to make them good. Bill Gross in particular bought a buttload of GSE paper and shorted Treasuries, with the explicit intention of profiting should treasury rates rise and GSE spreads fall. It is absolutely necessary that he not be permitted to profit from this trade as half of his profit was intended to come from you getting hosed as Treasury rates went parabolic! Doing the above will make his trade not pay off, but also not ruin him. This is as it should be.
- PROVIDE a safe, government-guaranteed place for FCBs and others, including PIMCO, to buy safe, secure, sound mortgage-backed debt instruments going forward, thus guaranteeing a liquid mortgage market for the future.
- PROVIDES strong and continuing oversight for these firms in the future so they cannot pull this garbage and play hedge fund a second time.
- PROTECTS THE TAXPAYER.
Folks, get off your duffs right now and fax this Ticker to Henry Paulson, George W. Bush and your Congressfolk. Post this Ticker to every blog, every chat room, everywhere. Do it now while there is still time.
Henry Paulson’s Fax number is 202-622-6415.
George W. Bush’s is 202-456-2461.
I’m sure there are people in BOTH offices right now.
Make government work for us, not them.
Disclosure: Not long or short Fannie, Freddie, or any debt issued by either. Not long or short any form of Treasury debt except for a rolling position in 4-week T-bills that would not be impacted (other than very small changes in coupon paid) in any way, shape or form irrespective of what Treasury does. That is, unlike everyone else, I am not talking my book.
