Fannie, Freddie See Rally Fizzle; Questions Linger On

Is the Paulson/Bernanke plan enough? Stock market investors surely didn’t seem to think so on Monday, with an early rally in shares on battered housing finance giants Fannie Mae (FNM) and Freddie Mac (FRE) fizzling and shares in both companies resuming their downward slide Monday afternoon. On Sunday, both the Treasury and the Federal Reserve released plans to backstop the ailing giants by providing access to the Fed’s discount window, as well as asking Congress to expand a credit line from the Treasury and seeking the authority to buy up equity in either company should market conditions warrant it. It’s the last part of that plan that clearly did little to help assuage equity investors’ concern. The message that the government would backstop the ailing housing giants had very different implications for equity investors — who were left see-sawing Monday on what the government strategy would really mean for share in the battered mortgage industry giants. In particular, investors zeroed in on the potential for the Treasury to step in an buy shares of either Fannie or Freddie should market conditions warrant. “We are deeply concerned that a potential equity investment by the Treasury would severely dilute current shareholders,” wrote Kevin Cole, an analyst at Standard & Poor’s Equity Research, in a note to clients on Monday that was reported by MarketWatch. That looked almost bullish next to the sentiment of David Ader, head of government bond strategy at RBS Greenwich Capital. “We assume their stock prices will go to zero — the government won’t pay to buy them,” he wrote in a note clients. Wow. Others weren’t so sure of that sort of dire assessment, and if anything, sources told HW that the lack of clarity embedded in Paulson’s statement on Sunday left shareholders in “a Jeckyll-Hyde scenario, a limbo.” “Will they or won’t they? That’s the question nobody has the answer to,” said one source, a bank executive that asked not to be named. Should the Treasury jump in and buy shares, Congressional Democrats including House Financial Services Committee chairman Barney Frank (D-MA) said Monday that the government interest would likely wipe out existing shareholders — but he also said that such an investment was “unlikely.” The confusion in the markets led Freddie to close at $7.11, off 8.26 percent from Friday; Fannie closed at $9.73, off a little over 5 percent on the day. Disclosure: The author was long FRE and held no other positions of relevance when this story was originally published. HW reporters and writers follow a strict disclosure policy, the first in the mortgage trade.