Commentary

Hank to the Rescue

Treasury Secretary Hank Paulson mounted his white stallion
named “Sucker” and rode to the rescue of central banks from
Berlin to Beijing on Sunday morning by placing US mortgage
giants Fannie Mae and Freddie Mac under direct government
control. The implied government guarantee of their debt has
now been made quite explicit. This means that shareholders
will be practically wiped out and their criminally incompetent
management teams shown the door- which is a small, but
welcomed dose of justice.

Along with guaranteeing the debt issued by this dull-witted
duo, the Treasury will make an equity infusion of $1 billion in
each entity that can rise to $100 billion under this plan. Yes,
Hank is using taxpayer money to rescue Fannie and Freddie, and
that is why his horse is named Sucker. (At the time of Bear
Stearn’s rescue, I was quite sure of the government’s need to
save the financial markets, but as the mess grows ever larger,
my confidence in that position is starting to fade a bit.)

By taking the reins, Hank saved numerous central bank accounts
and hundreds of domestic bond and money market funds that
own Fannie and Freddie’s senior debt from heart-stopping losses.
According to Marketwatch, the Treasury’s takeover is already
nudging mortgage rates lower. Hopefully, it will bring a
renewed sense of confidence to the mortgage lending market,
and provide some help to the chronically ill housing sector.

During the great American property bubble, central banks in
Europe and Asia, bought a mountain of senior debt issued
by these two depression era institutions. Much of this paper
was purchased by huge exporters like China- they had to
do something with all the surplus greenbacks they received
for the goods they sold us. And, in a quest for slightly higher
yields, countless domestic bond and money market funds
followed the central bankers’ lead, scooping up top-rated
IOUs from Fannie and Freddie with glee.

Barron’s Randall Forsyth noted that Hank’s plan has already
led major bond ratings agencies to maintain the highest credit
ratings on Fannie and Freddie’s senior debt. Forsyth also notes
that the rescue will also help prop up the value of the
approximately $5 trillion in mortgage backed securities that
they own or guarantee. It looks as if financial Armageddon was
postponed again, but Sucker may run out of patience before
the race is over.

©Greg Strid 2008

© 2008 Splendid Marbles.