Bruce Berkowitz-led Fairholme Capital Management has offered to buy the insurance businesses of Fannie Mae / Federal National Mortgage Association (OTCBB:FNMA) and Freddie Mac / Federal Home Loan Mortgage Corp (OTCBB:FMCC). Berkowitz sent a letter to the U.S. Treasury late Wednesday, saying that he plans to infuse $52 billion of fresh capital in the insurance businesses of the government-sponsored enterprises (GSEs).
Fairholme’s financing plan
Fairholme’s financing plan includes $34.6 billion in exchange for the Fannie Mae / Federal National Mortgage Association (OTCBB:FNMA) and Freddie Mac / Federal Home Loan Mortgage Corp (OTCBB:FMCC) preferred stock owned by a group of hedge funds, and $17.3 billion that will be raised from preferred shareholders in a rights offering. Fairholme said it will lead the group of private investors that own preferred shares.
Fairholme Capital’s proposal would clear up some uncertainty about the future of the government-controlled enterprises. Fairholme Capital is the largest holder of Fannie and Freddie preferred stock with $3.5 billion face value. The preferred shares are trading well below 40 cents on the dollar. But Berkowitz has proposed to convert them into common equity at 100 cents on the dollar.
Fannie Mae / Federal National Mortgage Association (OTCBB:FNMA) and Freddie Mac / Federal Home Loan Mortgage Corp (OTCBB:FMCC) jointly guarantee or own at least 85% of the U.S. home loans. The government seized control over them after infusing $187 billion during the financial crisis. Private investors including Fairholme Capital began accumulating preferred shares in 2010 at dirt cheap prices. As housing markets improved, the mortgage insurers began to post record profits.
Fairholme may drop the names Fannie and Freddie
However, lawmakers are pitching to wind down the companies and create a new mortgage finance system. Fairholme Capital said that its proposal will help the government liquidate Fannie and Freddie without diminishing the value of assets that are crucial to the housing market. According to Fairholme’s proposal, it won’t pay any dividends for the first five years, and get rid of the names Fannie Mae / Federal National Mortgage Association (OTCBB:FNMA) and Freddie Mac / Federal Home Loan Mortgage Corp (OTCBB:FMCC).
Berkowitz said that he would need the backing of the U.S. Treasury, Federal Housing Finance Agency (FHA) and other investors in the GSEs. That could be a difficult part as every stakeholder has a different stance about the role of Fannie and Freddie.
In July, Fairholme Capital sued the government for changing the bailout terms of the mortgage financiers. As the government saw them posting record profits, it changed the bailout terms. Previously, the government would receive only 10% of their earnings as dividends. But the changed terms allowed it to snatch all their profits.
Fairholme Capital has returned 31% this year so far, according to data compiled by Bloomberg.