Editor's note: Our new "On the Brink" series will provide daily insight into the financial firms facing capital shortfalls and the growing pressure from short sellers in the market.
The time seems right for
( FRE) to raise the minimum $5.5 billion in capital that its regulator requires, but the window of opportunity may close quickly if the company doesn't act soon.
The past week has brought a dramatic shift in sentiment about the viability of Freddie Mac and its fellow government-sponsored entity
( FNM) as analysts asserted that the mortgage giants have enough capital to wade through the housing and credit muck at least until next year. The stocks responded accordingly, with Fannie up about 50% at $7.55 and Freddie up 85% at around $5.20 this week alone.
But the shift also highlights the reality of a volatile market in which the GSEs' stocks have traded from lows in the $3 range to highs above $65 over the past year -- with fluctuations likely exacerbated by an uptick in short-selling activity.
Fannie and Freddie shares have recently fluctuated with rumors and speculation over whether or not a government bailout was
-- a development that would likely wipe out shareholders. Now that those fears have abated, it might be a perfect opportunity for Freddie to fulfill the commitment it made to the Office of Federal Housing Enterprise Oversight and raise some capital.
"Strike while the iron is hot," says Celent Senior Analyst Walter O'Haire. "Put it this way: If they're going to raise the money and it's just a question of when, given the volatility in the markets, with big price swings and a kind of a yo-yo sentiment, why not shore up when you have an opportunity?"
Executives from Freddie and Fannie have stressed that their capital levels exceed the minimum requirements, and regulators and lawmakers have issued statements backing the companies' viability.
Representatives from Freddie and OFHEO declined to comment for this article, directing
to earlier statements from executives and OFHEO Director James Lockhardt.
As part of an agreement outlined in March, OFHEO, which oversees Fannie and Freddie, agreed to cut its capital requirement for both firms to 20% above the minimum statutory capital requirement from the previous 30% and removed portfolio caps to allow them to provide additional liquidity in the mortgage markets. In return, the GSEs were required to raise "significant capital," which Fannie Mae did in May with a $7.4 billion offering.
Freddie Mac has pledged to raise at least $5.5 billion in fresh money but has yet to do so. During its earnings call, executives said the company was advised to complete its
Securities and Exchange Commission
first, which it accomplished on July 18.
Regulators have been fairly accommodative of financial firms this year in the hopes of avoiding any further market disruptions. OFHEO is unlikely to push Freddie to raise funds as it tries to regain its footing amid the housing- and credit-market fallout.
That means it will largely be up to Freddie to decide upon the timing, price, amount and mix of securities that will be offered.
Some analysts are wondering what the holdup is.
In a recent note, FBR analyst Paul Miller said Freddie's delay is hurting investors and the broader mortgage market alike. While the company cut its dividend and has slowed its portfolio's growth to conserve capital, those measures are not enough, Miller said. As the second-largest buyer of mortgages, Freddie's slowing down its purchases might keep mortgage rates elevated and delay a housing market improvement.
Freddie needs to raise capital today, not wait and hope for a chance to raise cheaper capital in the future," writes Miller, who estimates that the firm needs closer to $10 billion.
have been advising the firm on its decision, and a company spokesman told
The Wall Street Journal
last week that it was lobbying a "wide array" of potential investors.
However, some argue that the swinging pendulum of market sentiment is exaggerated and that major investors who would be able to cough up the kind of cash Freddie needs just don't have enough faith in the company. For instance, Warren Buffett recently told
that he declined to offer any assistance when the GSEs petitioned him because "the scale of help is such that I don't think it can come from the private sector."
Furthermore, Freddie is seeking out more capital than its entire market value, which now stands below $3.5 billion. An offering of that sort would significantly dilute existing shareholders, says Piper Jaffrey analyst Bob Napoli, who thinks it would be "pretty tough, if not impossible to raise equity" now anyway, due to current credit conditions.
"It's obviously a lot better today than a week ago -- the stock's up (nearly) 100% in a week," says Napoli. "But I would say that it's still premature."
Comparing the capital levels of Freddie and Fannie -- and their share performance -- shows that Freddie's delay could cause more pain. Napoli notes that Freddie has only $2 billion in excess capital, while Fannie has $10 billion of wiggle room, mostly because of its $7.4 billion offering earlier this year. Those figures rise to $7 billion and $15 billion when excluding the additional "penalty" capital that OFHEO requires due to the accounting scandals that came to light in 2003.
Since the start of June, the top investors in Fannie and Freddie have increased their holdings in one of the firms. Those include Capital Research Global Investors,
( AXA) and Dodge & Cox, all of which hold more than 5% of either firm. Freddie could also seek out cash from other private-equity funds, hedge funds, pension funds, value investors or sovereign funds as well.
During a conference call on Aug. 6, Freddie CEO Richard Syron said the company is "prepared to go as early as today to raise that money, but we think, and have been advised, that that is not the right thing to do," adding that the capital raise would take place "at a more propitious time."
If that time does not come soon, Napoli expects regulators to go easy on the firms' capital requirements until the housing and credit storms calm down. He expects conditions to be better in "a couple of quarters," though he adds, "I don't know if they can wait that long."