WSJ Opinion: The Great Fannie and Freddie Rip-Off
I have long fought against the systemic disempowerment of investors in large public corporations, but the mistreatment of the Fannie Mae and Freddie Mac shareholders, including me, is uniquely reprehensible. For decades Fannie and Freddie behaved like other large, publicly held financial corporations. They were profit-seeking companies, listed on the New York Stock Exchange (NYSE). They displayed an unfettered drive for greater sales, profits, executive bonuses and stock options for the top brass. Their shareholders received dividends and rising stock values.
These so-called government sponsored enterprises (GSEs) dominated the secondary mortgage market. The implied government backstop slightly lowered their borrowing costs in return for a poorly enforced obligation to facilitate a mortgage market for lower-income home buyers. Otherwise, the GSE moniker meant little, since everybody knew that, like Citigroup, Goldman Sachs and other Wall Street giants, Washington viewed them as “too big to fail.”
With the onset of the subprime mortgage collapse, Fannie and Freddie went down with the rest of the financial industry. The federal government moved into high bailout gear during the latter half of 2008 with three distinct rescue models for Wall Street and Detroit.
One model provided capital and credit lines to Bank of America, Citigroup, Morgan Stanley, J.P. Morgan Chase and AIG, leaving their shareholders beaten down but intact to start recovering value.
The second model dispatched General Motors into a well-orchestrated, stunningly quick bankruptcy process. While the bankruptcy court treated the common shareholders like flotsam and jetsam, GM emerged well subsidized and tax-privileged with a clean balance sheet under temporary ownership by the U.S. and Canadian governments and the United Auto Workers.
The third model placed Fannie and Freddie under an indeterminate conservatorship scheme that kept but abused its common shareholders, who had already lost up to 99% of their investment. Neither vanquished nor given an opportunity to recover, the institutional and individual shareholders are trapped in limbo.
Here is how the scheme congealed. In return for providing an open credit line, the government received warrants to buy up to 79.9% of the GSEs’ common stock for $0.00001 per share. The government’s share stayed under 80% to avoid forcing the liabilities of these two behemoths onto the government’s books. Treasury achieved this by having the common shareholders nominally own the other 20%.
Here’s the rub: The zombie common shareholders have no rights or remedies against Fannie and Freddie, both operationally active companies, or their regulator—the Federal Housing Finance Agency. FHFA ordered the Fannie and Freddie boards and executives to suspend communications with shareholders and abolish the annual stockholders meeting.
In 2008, then-Treasury Secretary Henry Paulson and Federal Reserve Chairman Ben Bernanke told Fannie and Freddie investors that the companies “are adequately capitalized.” Moreover, another regulator, the Office of Federal Housing Enterprise Oversight (Ofheo), assured investors—including many mutual funds, pension trusts and small banks—of the soundness of their investment.
Fannie Mae’s then-Senior Vice President Chuck Greener, backed by his then-CEO Daniel Mudd, said, “We are maintaining a strong capital base, building reserves for credit losses and generating solid reserves as our business continues to serve the market.” That was on July 11, 2008.
These former officials (both have since left Fannie Mae) should have known better. On Sept. 8, 2008, when Treasury announced the conservatorship, the GSEs’ common stock dropped to pennies and the shareholders realized they were misled.
Such statements by private executives controlling a publicly traded corporation should have prompted a Securities and Exchange Commission investigation. Such was the betrayal of trust of investors who were told for years that putting their money in these GSEs was second only to investing in Treasury bonds.
Still, some faithful shareholders, including me, held on, believing that they might have a chance to recover something—as did their counterparts in Citigroup, AIG and the rest of the rescued.
Then came the cruelest and most unnecessary diktat of all. On June 16, 2010, the FHFA directed Fannie and Freddie to delist their common and preferred stock from the NYSE. The exchange did not demand this move. True, Fannie had dropped slightly below the $1 per share threshold stipulated by NYSE rules, but the Big Board is quite flexible with time either to get back over $1 or to allow companies to offer a reverse stock split. Freddie was comfortably over the $1 level. Why delist with one irresponsible stroke of the government’s pen and destroy billions of dollars of remaining shareholder value? This move took the shares down to the range of 30 cents, chasing away many institutional holders.
FHFA Director Edward J. DeMarco said: “A voluntary delisting at this time simply makes sense and fits with the goal of a conservatorship to preserve and conserve assets.” What nonsense! Real people were affected. As always, shareholders were powerless to challenge management practices, and they were treated like bureaucratically useful apparitions whose last clinging value could be shredded arbitrarily without due process.
In the next few weeks, the Obama administration is sending Congress its proposals regarding the future of the GSEs. The common shareholders of Fannie and Freddie need to organize and make their voices heard in Washington. Clearly, they should have a say in how Fannie and Freddie are managed—in the board room and in Congress—from here onward. It would be the equitable thing to do given the unprecedented delisting, political manipulations and discriminatory abuses heaped on GSE investors. Mr. Nader is a consumer advocate and the author of “Only the Super-Rich Can Save Us” (Seven Stories Press, 2009).