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Bank Stocks: Fed Timing Losers

Freddie and its sister mortgage giant Fannie Mae (FNMA) were taken under government conservatorship in September 2008. Under the modified terms of the bailout agreement, the two companies - known as the government-sponsored enterprises, or GSEs - must pay all profits as to the government, save minimal capital buffers of $3 billion for each company.

The government's preferred state in Freddie Mac totals $72.3 billion, and once the September dividend is paid, Freddie will have paid the Treasury roughly $41 billion in cash dividends.

Fannie Mae hasn't yet announced its second-quarter results. The company in May announced pre-tax earnings of $8.1 billion for the first quarter, but the recapture of a $50.6 billion deferred tax valuation allowance brought net earnings up to $58.7 billion. That set up a $59.4 billion dividend to the Treasury. The government's preferred stake in Fannie is worth $117.1 billion, and Fannie has paid the Treasury cash dividends totaling $95.0 billion.

Under the modified bailout agreement, neither Freddie Mac nor Fannie Mae are allowed to repurchase any of the government-held preferred shares, no matter how profitable the GSEs become and no matter how much in dividends the government receives.

Non-government investors have expressed their irritation with the modified bailout agreement through a series of lawsuits with the hope of recapturing some value, the remote possibility of the government's preferred stake being converted to common shares, as was successfully done as part of the epic bailout of American International Group (AIG). That bailout resulted in a profit to U.S. taxpayers of $22.7 billion, according to the Treasury.

President Obama in a speech on Tuesday broke years of silence on the GSEs to call for the wind-down of Fannie Mae and Freddie Mac, while still providing a limited government backing for mortgage loan securitization.

This is essentially the approach favored by senators Mark Warner (D. Va.) and Bob Corker (R., Tenn.). The senators in June introduced legislation to wind-down Fannie and Freddie over five years, privatize most of the U.S. mortgage market, while putting in place a limited government backstop in the form of a "Federal Mortgage Insurance Corporation (FMIC), modeled in part after the FDIC." The Federal Deposit Insurance Corp. insures bank deposits by charging premiums to all U.S. banks and savings and loan associations.

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