Investing

Freddie Mac, Fannie Mae Stocks Pop on Capitalization Proposal

Paul Ausick

Published: May 21, 2020 2:12 pm

Federal Housing Finance Agency (FHFA) director Mark Calabria announced Wednesday that the agency is going ahead with a plan on creating a new capital framework for Fannie Mae (FNMA) and Freddie Mac (FMCC). The announcement is seeking comments on a notice of proposed rulemaking first published in July 2018.

A new capital framework for the two government-sponsored enterprises (GSEs) will include “risk-based capital and leverage ratio requirements, with capital buffers on certain of these requirements.”

In a background fact sheet also released Wednesday, the FHFA noted that it had not taken a position on housing finance reform in 2018. That proposal also did not include plans to recapitalize the GSEs or to release them from FHFA conservatorship.

Fannie and Freddie were placed under FHFA conservatorship in 2008, following a $190 billion bailout to keep the two GSEs from failing during the financial crisis. Since being placed into conservatorship, the two GSEs have returned more than $300 billion in dividend payments to the U.S. Treasury.

The proposed rule addresses the quality as well as the quantity of the GSEs’ capital. The proposed rule would set a risk-weight floor of 15%. The operational risk requirement would be increased from the suggested level of 0.08% in the 2018 proposal to 0.15% of a GSE’s adjusted total assets. Under current regulations, U.S. bank holding companies with assets greater than $500 billion are required to hold a minimum of 0.69% in operational risk capital.

Backstop leverage requirements would be set at a minimum of 2.5% of a GSE’s adjusted total assets with an additional leverage buffer of 1.5% as a ” risk-insensitive credible backstop to risk-based measures that are subject to significant model and other risks.”

There are more details about risk requirements in the fact sheet but the salient point that sent shares in Fannie and Freddie up sharply Thursday was the FHFA’s comment that the proposed rule “is a critical step in furtherance of FHFA’s stated intention to responsibly end the conservatorships.”

Investors also interpret that to mean that FHFA is going to keep pushing a public offering of stock in Fannie and Freddie. Ultimately, the Trump administration wants to privatize the GSEs.

The administration’s plan calls for returning Fannie and Freddie to private control after recapitalizing them. In order to do that, Congress must explicitly establish a federal guarantee of the mortgage-backed securities issued by the two GSEs. Third, any privatization of the GSEs must create more private companies to compete with Fannie and Freddie for mortgage purchases.

Shares also got a bit of a boost from an announced plan to hire a financial advisor to FHFA to help the agency develop and implement a plan to recapitalize the GSEs.

In the mid-afternoon Thursday, Fannie Mae stock traded up about 16.4% at $2.28 in a 52-week range of $1.26 to $4.23. Freddie Mac shares traded up more than 19% at $2.24 in a 52-week range of $1.90 to $2.74.

Investors are gambling that a public offering of stock (when it comes) will be accompanied by a plan to buy out existing shareholders at something above current low share prices.