I've spent the morning talking to traders about the Fannie/Freddie issue, specifically about whether the government should essentially take the companies over.
Most traders are emphatically against this idea. They point out that the U.S. government currently has roughly $9 trillion in debt (which includes the Social Security obligations). Taking on $5 trillion in Fannie/Freddiedebt (even with the understanding that there are underlying assets) would:
1) drop the dollar further;
2) cause mortgage rates to go up, perhaps significantly; and
3) almost certainly cause taxes to go up.
So what else could be done? OFHEO has publicly stated that both GSEs currently have adequate amounts of capital. Freddie has consistently said they plan to pursue their $5.5 billion commitment to raise new capital. Will that be enough? No one knows, but the Street clearly thinks it will not be enough, and that is the source of the current problem.
Remember, common equity holders are at the bottom; their equity will essentially be zero if this dilution continues.
The Street is coming to believe that an even more massive preferred offering convertible into common at an extraordinary rate (10 percent, perhaps) could be coming down the road. How big does it need to be? Nobody knows, but a lot of people think both will end up more than doubling the shares outstanding.
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