New Documents Give Hope to Fannie Shareholders Seeking RedressBy
Shareholder attorney says new documents prove government theft
Ex-Treasury, White House officials dispute characterization
Shareholders of Fannie Mae and Freddie Mac say a trove of documents they have obtained bolsters their case that the government lied when it decided to take all of the mortgage companies’ profits.
Investors have filed dozens of lawsuits in courts across the country over a 2012 government decision to replace Fannie and Freddie’s 10 percent dividend to the U.S. Treasury with a new one equal to almost all of their profits. At the time, officials said the change was made to hasten the companies’ wind down and avoid the need for bailout money to pay dividends, a process known as a “circular draw” or “death spiral.”
A victory in any of the cases could earn shareholders billions of dollars in profits and also influence the future of the housing-finance system, which has remained in limbo for nearly nine years. Congress and the Trump administration are working on what to do about the mortgage companies at the heart of the housing market, and shareholders have struggled to influence the debate.
The documents, which include emails and memos from the months preceding the government’s final decision, may be used in a suit filed by Fairholme Funds Inc. and other shareholders, said Pete Patterson, an attorney in that case. In one email, a Treasury official writes that Fannie and Freddie’s regulator told Treasury Secretary Timothy Geithner the companies “will be generating large revenues over the coming years, thereby enabling them to pay the 10% annual dividend well into the future.”
Fannie and Freddie rallied this week after the release of the documents, with common shares up about 4 percent and classes of some preferred shares up more than 10 percent. Patterson said on a call with investors and reporters on Tuesday that the documents “show unequivocally” that the Federal Housing Finance Agency, which controls Fannie and Freddie, and Treasury “understood that there was no threat of a death spiral at the time the net worth sweep was adopted.” The rally was short-lived, with the shares declining on Thursday.
In interviews this week, former Obama White House and Treasury officials also rejected the shareholders’ characterization of the material, standing behind their long-stated reasoning for the so-called “sweep” of the companies’ profits to the Treasury.
The government took over Fannie and Freddie in 2008, eventually injecting $187.5 billion in bailout funds. In return, the government received warrants to acquire nearly 80 percent of the companies’ common stock as well as “senior” preferred shares that originally paid a 10 percent dividend.
After the government in 2012 changed the dividend to take all profits, Fannie and Freddie’s fortunes shifted, and their earnings increased. To date, they’ve paid the government about $271 billion.
Shareholders including Fairholme and Perry Capital sued, alleging the government’s profit sweep was illegal. So far, courts have rejected their arguments and several cases have been dismissed. In one case, a judge allowed for limited discovery and the unsealed documents were uncovered.
It’s not yet clear whether the new evidence will help the shareholder cases, said Bloomberg Intelligence senior litigation analyst Elliott Stein. In a Thursday note, Stein said similar documents had come out earlier but courts still dismissed the lawsuits.
Former White House and Treasury officials also disputed that the documents showed what the shareholders claimed.
“There’s nothing ever that I was even remotely part of that saw this as a windfall,” said former Obama White House and Treasury housing adviser Michael Stegman, who authored the email summarizing the discussion between Geithner and former FHFA Director Edward DeMarco.
Stegman said that in 2012, the Treasury Department hoped to persuade DeMarco to allow Fannie and Freddie to reduce mortgage principal balances of underwater homeowners, an effort DeMarco had resisted and ultimately rejected. “It was clear from that meeting that what DeMarco was saying was essentially if Treasury were to insist on that he would rethink the urgency” of the dividend change, Stegman said.
In another document meant to explain the reasoning for the sweep, a Treasury official wrote, “Within the context of the Administration’s goal of winding down the GSEs, we began exploring alternatives to the 10 percent dividend, knowing that the 10 percent dividend was likely to be unstable as the businesses were reduced.” GSEs, or government-sponsored enterprises, is shorthand for Fannie and Freddie.
Former Treasury official Benson Roberts, in an internal mark-up, wrote “Doesn’t hold water. Their business won’t reduce in the immediate future.” Shareholder attorneys said Roberts’s comment showed that the government didn’t actually believe there was the threat of a death spiral.
Roberts said in an interview that his comment was really about the contention that Fannie and Freddie’s primary businesses of financing mortgages would be reduced in the short term. “I never changed my view. As far as I knew, it was a death spiral. Second, I never heard anybody suggest otherwise,” Roberts said.
Patterson, who helps represent the shareholders for Cooper & Kirk, said that he felt his interpretation of the documents was fair and that other documents released this month and earlier also supported the contention that the government lied.
The battle over Fannie and Freddie is unlikely to end soon. Fairholme manager Bruce Berkowitz said in a Bloomberg interview last month that the legal fight, barring a settlement, could take another five years.