Fannie and Freddie Ride Again: Financial Winners

NEW YORK ( TheStreet) -- Fannie Mae ( FNMA) and Freddie Mac ( FMCC) were again huge winners on Friday.

Shares of Fannie Mae were up 41% to close at $2.97, while Freddie Mac was also up 41% to close at $2.81, after Ralph Nader in an op-ed piece in the Wall Street Journal said the two companies' common shareholders should fight against the federal government's "great Fannie and Freddie rip-off.".

The two mortgage giants together are known as the government-sponsored enterprises, or GSEs, and were taken under government conservatorship in September 2008.

As part of its bailout agreements with Fannie and Freddie, the government was handed warrants to purchase just under 80% of the common shares of the two GSEs at a strike price of $0.00001 per share.

"The zombie common shareholders have no rights or remedies against Fannie and Freddie, both operationally active companies, or their regulator--the Federal Housing Finance Agency," Nader wrote. "FHFA ordered the Fannie and Freddie boards and executives to suspend communications with shareholders and abolish the annual stockholders meeting."

With the Obama administration expected soon to offer a proposal for the future of Fannie and Freddie, Nader wrote that "the common shareholders of Fannie and Freddie need to organize and make their voices heard in Washington. Clearly, they should have a say in how Fannie and Freddie are managed--in the board room and in Congress--from here onward."

GSEs Ladle Senior Preferred Government Gravy

As part of the massive bailout of the GSEs, the U.S. Treasury holds $117.1 billion in Fannie Mae senior preferred shares and $72.3 billion in Freddie Mac senior preferred shares. After determining it would be able to recapture most of its valuation allowance for deferred tax assets (DTA) at the end of the first quarter, Fannie Mae announced on May 9 that it would pay the Treasury a second-quarter dividend of $59.5 billion.

Freddie Mac announced on May 8 that it would pay a dividend of $7 billion to the Treasury in June.

Following the announced June dividend payments from Fannie Mae and Freddie Mac, the government will have received dividends totaling $131.6 billion on its combined GSE preferred investment of $189.4 billion.

That's a pretty fat return on investment. To put that in terms of an annualized dividend yield using a conservative back-of-the envelope calculation, dividends totaling $131.6 billion on an investment of $189.4 billion over a period of five years, would equal a dividend yield of 13.90%. The government's yield on the bailout is actually higher, since the senior preferred investments grew over a period of several years.

Then there's the amazing potential return on the common-share warrants.

Meanwhile, there is still no mechanism for either GSE to repurchase any government-held preferred stock.

What's Good for the Common is Good for the Junior Preferred

Dividend payments on junior preferred shares of Fannie Mae and Freddie Mac were suspended when the GSEs were taken under conservatorship in September 2008, instantly sinking in price to pennies on the dollar.

But with the profitable Fannie May having $3.2 trillion in total assets, while it profitable sister firm Freddie has $2.0 trillion in assets, junior preferred shareholders -- and obviously common shareholders -- see plenty of wealth to go around.

GSE junior preferred shares also popped on Friday. Here are our usual two examples:

Fannie's preferred series E shares, with a coupon of 5.10% and a par value of $50.00, closed at $14.00 Friday, rising 59% for the day. The shares trade under the ticker FNMFM and have risen 775% from $1.60 at the end of 2012

Freddie's preferred series Z shares, with a coupon of 5.375% and a par value of $25.00, closed at $6.49 Friday, rising 11% for the session. The shares trade under the ticker FMCKJ and have risen 271% from $1.75 at the end of last year.

There's no telling what presumably ridiculous way forward the Obama administration and Congress may plot for the GSEs, but their junior preferred and common shareholders could be gearing up for a nasty fight. And with the earnings continuing to flow, the junior preferred dividends could be restored.

Fannie's preferred series E shares are supposed to pay annual dividends of $2.25 a share. If the dividend were restored, an investor who went in at Friday's close would see a dividend yield of 16.07%.

Freddie's preferred series Z shares are supposed to pay annual dividends of $1.34 a share. If the dividend were restored, an investor who purchased the preferred Z shares at Friday's close would see a dividend yield of 20.65%.

Of course, if the junior preferred dividends were to be restored, the shares would likely bounce right up to par, leaving investors free to book massive profits, or reap very high dividends, assuming they went in at deep discounts.

-- Written by Philip van Doorn in Jupiter, Fla.

>Contact by Email.

Philip W. van Doorn is a member of TheStreet's banking and finance team, commenting on industry and regulatory trends. He previously served as the senior analyst for TheStreet.com Ratings, responsible for assigning financial strength ratings to banks and savings and loan institutions. Mr. van Doorn previously served as a loan operations officer at Riverside National Bank in Fort Pierce, Fla., and as a credit analyst at the Federal Home Loan Bank of New York, where he monitored banks in New York, New Jersey and Puerto Rico. Mr. van Doorn has additional experience in the mutual fund and computer software industries. He holds a bachelor of science in business administration from Long Island University.

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