My thesis for Fannie Mae is predicated upon a successful outcome to one of many lawsuits filed against the Federal Housing Finance Agency (FHFA), in which the plaintiffs argue that Fannie Mae should be removed from conservatorship, emerge from conservatorship fully capitalized and returned to shareholders hands.
Since Aug. 13, 2012, the announcement date of the infamous “Net Worth Sweep” scheme by the FHFA, many lawsuits were filed in protest of the constitutionality of a government body unilaterally confiscating shareholder value of a publicly-traded enterprise under the dubious protection of conservatorship laws, in this case, most likely were abused.
Essentially, at that time in 2012, the FHFA insisted the purpose of the “Sweep” was to prevent a “death spiral,” according to details of the announcement. And as late as June 2017, documents submitted to the Eighth Circuit Court of Appeals reveal that the US Treasury concurs with the FHFA. So, after five years of thinking over the government’s case, the explanation provided by the government for usurping shareholder rights is to save FNMA.
But documented evidence supporting the plaintiff’s case against the FHFA, in which the plaintiff asserts that the FHFA conspired to confiscate future earnings of FNMA while ‘winding down’ the enterprise, has emerged. The plaintiff in this particular case against the FHFA is Fairholme Funds.
Of all the lawsuits filed against the FHFA, the one filed by Fairholme Funds appears to offer the most damaging arguments against the government’s contention that placing FNMA into conservatorship was necessary to save the institution. Though Fairholme owns a substantial stake of FNMA preferred stock, the evidence presented to refute the FHFA decision to “save” FNMA seems very damaging.
On Aug. 14, 2012, just weeks following the FHFA ‘Sweep’ scheme, an email between FHFA officials was entered into evidence with the court which contained wording regarding an accounting provision relating to deferred assets used by the FHFA as a way of painting a picture of dire financial conditions—as alleged by the plaintiff—also contained an insight into the FHFA’s thinking regarding Fannie Mae’s outlook at that time.
The smoking gun text of the email is as follows:
“…re-recording certain deferred tax assets that had been written off based on the view that [the Companies] were going to be profitable going forward.”
This text contradicts the FHFA, who asserts that the Agency planned to discuss a “wind down” at a future date and had been in their thinking of the FHFA leading up to the decision to institute a ‘Sweep’ to justify this allegedly planned wind down.
Since this revelation, more documents supporting Fairholme have emerged. In an article, entitled, ‘More Documents, More Proof of a Scheme to Illegally Pilfer Fannie and Freddie’, other documents generated by the FHFA, Treasury and White House counsel support the ‘smoking gun’ email that heavily implies that the Sweep was a ruse to rob FNMA shareholders.
Okay, as I stated in the opening paragraph of this note to you, my thesis for holding FNMA is predicated upon a successful outcome to the Fairholme case. With the Trump victory in November, the President’s Secretary of Treasury, Steven Mnuchin, was chosen for the job to resolve FNMA in favor of stockholders, was, and still is, my expectation and understanding of Trump’s ideological fabric of his administration. As a natural and avowed proponent of the free enterprise system, the President is expected to bypass lengthy court trials and execute his own plan to restore shareholder rights to FNMA.
How the President’s plan will ultimately look is not clear, but taking a stake in an enterprise that trades at a laughable $2.9 billion while knowing that FNMA has sent the US Treasury a total of $160 billion of earning from the ‘Sweep’ is a fantastic risk/reward bet that some or all of those earnings will come back to shareholders as these cases become resolved. With no way for the government to really justify yanking shareholder Constitutional rights, and then continue to justify its actions founded upon lies, it’s hard for me to conceive that President Trump can save face by allowing FHFA to prevail. And that’s what this stake in FNMA all boils down to. Whether I make a good profit, or a profit of a lifetime, FNMA is the most interesting and exciting trade I’ve come across in a very long time.
Looks like patience may be warranted with this one JB even after the nice runup this week due to the wording suggesting this issue would be more front and center come 2018, would you agree with that? I can’t agree more though with your thesis and have what I consider to be a small position in FNMA for many of the reasons you suggest in your article, thanks for as always your great insight!
Timeline will continue to be tricky on this one which is why I’m opting to go long-term with it.