PrefBlog

We may be nearing the point of crisis.

Accrued Interest is getting panicky:

Unfortunately, the panic is legitimate. No one knows what a GSE bailout will look like.
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There are also rumors that PIMCO and SAC were not trading with Lehman. Both PIMCO and SAC have denied the rumor. Worth noting that PIMCO was one of the first to stop trading with Bear Stearns.
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The more panicky things get, the more likely we get a relief rally after bank earnings are out. Odds are good that it will be a mixed bag, with some banks looking particularly ugly (Wachovia this morning warned of a huge loss) and others will be bad but not that bad.

What’s all this about? The GSEs are looking sick … very sick indeed:

Chances are increasing that the U.S. will bail out Fannie Mae and Freddie Mac because they don’t have enough capital to weather the worst housing slump since the Great Depression, former St. Louis Federal Reserve President William Poole said in an interview. Freddie Mac owed $5.2 billion more than its assets were worth in the first quarter, making it insolvent under fair value accounting rules. The fair value of Fannie Mae assets fell 66 percent to $12.2 billion, data provided by the Washington- based company show, and may be negative next quarter, Poole said.

“Congress ought to recognize that these firms are insolvent, that it is allowing these firms to continue to exist as bastions of privilege, financed by the taxpayer,” Poole, 71, who left the Fed in March, said in the interview yesterday.

There are soothing words from the administration:

U.S. Treasury Secretary Henry Paulson said he’s been assured by the regulator for Fannie Mae and Freddie Mac that the two government-chartered mortgage companies have enough capital.

The Office of Federal Housing Enterprise Oversight “has made clear that they are adequately capitalized,” Paulson told the House Financial Services Committee.

… but as of noon:

Freddie Mac (FRE US) sank 16 percent to $8.57, a 16-year low. UBS AG analysts cut their price target on the second-largest mortgage-finance company to $10 from $28, citing growing credit losses and problems raising capital.
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Fannie Mae slumped 5.2 percent to $14.52, the lowest since July 1991. MGIC Investment Corp. (MTG US), the largest U.S. mortgage insurer, lost 17 percent to $5.55.

… even while the implicit guarantee became a whole lot more explicit …

Fannie Mae and Freddie Mac, the largest buyers of U.S. home loans, are too big for the government to let them fail, leading Republican and Democratic lawmakers said.

The government-chartered companies, which own or guarantee about half the $12 trillion of U.S. mortgages, can count on a federal lifeline, said Republican Senator John McCain of Arizona and Democratic Senator Charles Schumer of New York.

The remarks by the presumptive Republican presidential candidate and the head of the congressional Joint Economic Committee followed a slide in the firms’ shares to the lowest level since 1991. They indicate Congress would push the administration to use government funds to prevent the companies failing and threatening a deeper housing recession.

Naked Capitalism reviews media stories on disaster planning

I said it most recently on May 2:

The GSEs have to start being regulated like banks; there’s no question in my mind about that.

If Congress wants to cut a special deal with them to achieve politically favourable goals, it should simply buy a preferred share – with cash – make it puttable to the company unless the company does A, B and C, and write a specific exclusion to the capital rules allowing this to be Tier 1 capital. Then … walk away and let the regular regulators do as they please.

Yet another thoroughly appalling day, with PerpetualDiscounts getting absolutely hammered. The average yield of 6.34% is equivalent to 8.88% interest (with a conversion factor of 1.4x), representing a spread of about 278bp over long corporates.

You know … I’m not worried about myself so much (I’m fairly phlegmatic about market prices), and I’m not worried about the fund so much (while it’s underperforming due to PerpetualDiscount exposure, it’s executing a steady stream of little income-enhancing trades that will eventually pay off), and I’m not worried about the market so much (all we have to fear is defaults, and none of those are even on the horizon, for instruments I hold. None of this excitement is showing up in the Canadian bond market at all.), but I am worried about retail. This is the type of environment where even very reasonable people might panic – or, worse, indulge in a little market timing – and these investors could hurt themselves badly.

There were eightteen other index-included $25-pv-equivalent issues trading over 10,000 shares today.

This entry was posted on Thursday, July 10th, 2008 at 9:08 pm and is filed under Market Action. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.