Judges on the U.S. Court of Appeals for the Fifth Circuit were not buying what the government was selling at a hearing last week. That might be very good news for shareholders in the government sponsored enterprises (GSEs) Fannie Mae and Freddie Mac.
In an Investors Unite teleconference hosted by founder and Chairman Tim Pagliara on January 31, David Thompson, an attorney for shareholders in several suits arising from the Net Worth Sweep, recapped the hearing on one of those cases, Collins v. Mnuchin. In that suit, a group of shareholders contend the decision by the Federal Housing Finance Agency (FHFA) to implement the NetWorth Sweep of Fannie and Freddie’s revenues violates the relevant statute and also that FHFA’s almost complete lack of accountability makes the agency unconstitutional in its design and its actions illegal.[REITs]
Here are ten reasons for renewed hope that justice will prevail:
One, federal circuit courts rarely agree to en banc consideration. En banc proceedings involve getting all the judges on a circuit to convene and consider a previous ruling by a smaller panel of that court. It takes a majority of the judges – in this case 9 of the16 judges – to be persuaded an en banchearing is warranted.
Two, the judges on the Fifth Circuit lean toward strict interpretation of statutes and the U.S. Constitution. They don’t like bureaucrats wandering into their own interpretations to fit political or ideological positions. They don’t like judge-made law.
Three, in this case the words of the statute leave little, if any, room for interpretation. The Housing and Economic Opportunity Act (HERA)does not merely require the conservator, FHFA, to restore the GSEs to a “sound and solvent” condition. It defines “sound and solvent” as having adequate capital. Also, HERA says FHFA “shall conduct operations of the companies in a manner to maximize the profits of any disposition of assets” – shall, not may. It is hard to square that explicit language with raiding the net worth of the GSEs. The statute is “not at war with itself” Thompson said. Therefore, only the most adventurous interpretation of HERA could lead one to conclude that “siphoning off” the capital of the GSEs quarter after quarter would be consistent with the statute.
Four, on the eve of the hearing, the acting director of FHFA, Joseph M. Otting, instructed FHFA’s attorneys to drop the defense of the constitutionality of FHFA’s structure. This was likely a matter of principle. Because FHFA’s director is out of the reach of president’s authority to dismiss, it relies on no Congressional funding to operate, and even seems immune from the courts, it is Frankenstein’s monster free to lumber about doing what it wants. It is likely without precedent for a government agency to be so unaccountable and the Trump Administration is not a fan of this kind of arrangement.
Five, the FHFA-director designate, Mark Calabria, is on the record, unequivocally and authoritatively, explaining that the Sweep is an “egregious” violation of the terms of HERA. As a Senate staffer, Calabria helped draft the law. It was based on existing laws regarding distressed financial institutions. None of that body of law sanctions a conservator using the institution entrusted to it as a piggy bank for the government. Whether Calabria is confirmed next week or next year, his views are clear.
Six, pointed questions and body language of the judges revealed “hostility” toward the government. “A majority of the judges were not buying what the government was selling,” Thompson said.
Seven, in a worst case – and very unlikely – scenario, a slim majority of the judges agree with the government. However, expect robust dissents and an appeal to the U.S. Supreme Court, now populated with a majority of strict constructionists. “We welcome that,” Thompson said. “We think this is a good court for us.”
Eight, there is no disagreement on what the remedy is if the Net Worth Sweep is found to be in violation of HERA: The quarterly confiscation of revenues ends and the GSEs start building capital. At that point, the Treasury can make accounting adjustments and establish a credit of about $16 billion that would be paid directly to shareholders or revert back to Fannie and Freddie. The former is the preferred option.
Nine, the government is on the record saying this remedy is workable. Whether the statute is amended so FHFA is more accountable to the president is a sideline matter in terms of remedy.
Ten, the case can only go up the judiciary structure, not down. If the government thought it best to remand back to the trial court because the remedy shareholders seek is unworkable, it would have said so in its 100-page brief. If the Fifth Circuit ends up siding with the government, it is on to the U.S. Supreme Court.
“The bottom line is we felt very good going in. We have strong textual arguments; the type of court, the type of judges who care about text, who care about the rule of law,” said Thompson. “And we thought we’d have a good chance going in given that it required nine of them to take the case and going out we felt even better.”
Look for a decision in the next four to six months.
To listen to the full teleconference here.
Article by Investors Unite