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Fannie Mae and Freddie Mac: MAXIMIZING VALUE FOR ALL STAKEHOLDERS
Fannie Mae and Freddie Mac: MAXIMIZING VALUE FOR ALL STAKEHOLDERS
Executive Summary
This paper discusses the potential privatization of Fannie Mae and Freddie Mac and proposes a contingent capital structure, which we feel would equitably and optimally address key stakeholders. The suggested Contingent Capital Commitment Facility (CCCF) would provide assurance to Agency MBS investors while protecting U.S. taxpayers and maximizing the value of Treasury’s investment. The CCCF mechanism balances the needs of all stakeholders and offers a viable path forward if and when the GSEs are released from conservatorship.
By: Ray Wicklander, CFA®, CPA
Managing Director, Portfolio Manager & Senior Equity Analyst,
Great Lakes Advisors
Recent comments from Treasury Secretary Bessent, FHFA Director Pulte, and more recently by President Trump, suggest that systemically-important mortgage guarantors Fannie Mae and Freddie Mac (the “GSEs”) may be privatized and released from government conservatorship. This is a politically sensitive issue with many important stakeholders – primary of which are U.S. taxpayers, mortgage borrowers, mortgage-backed securities (MBS) investors, and, by extension, the U.S. housing market
and economy.
Fannie Mae and, to a lesser extent, Freddie Mac are well capitalized today. Fannie Mae has over $90bn in capital, roughly three times the amount as 2007, which is likely sufficient to withstand the most severe credit stress tests. The problem is, greater than 100% of Fannie Mae’s capital is in the form of Senior Preferred stock, owned by the Department of the Treasury, leaving common equity – the highest quality form of capital for a financial institution – negative, and deficient compared to “well capitalized” core capital standards.
To equitably balance the interests of all stakeholders and address the (significant) issue of government guarantees of Agency MBS, the liquidation preference of the government’s Senior Preferred stakes (for Fannie Mae, just over $200bn, as of 3/31/2025) could be replaced, nearly dollar-for-dollar, with a new, unfunded facility from Treasury to the GSEs: a Contingent Capital Commitment Facility (CCCF). Were the GSEs’ capital levels to ever breach a well-capitalized minimum standard, the CCCF would convert into new common equity at a predefined (and highly dilutive) price. This would give one of the GSEs’ primary stakeholders – Agency MBS owners – contractual assurance that Fannie and Freddie will always be capitalized beyond reproach, effectively closing the debate around implicit or explicit government guarantees of Agency MBS .[1]
For the US taxpayer, who currently sits in a “first loss” position in the GSEs, a structure like the CCCF would move the taxpayer to a “risk-remote” position, and, like any unfunded commitment, the CCCF should carry a fee, to provide Treasury and US taxpayers with a stream of annuity-like fee income from the (hopefully perpetually) undrawn commitment. More importantly for taxpayers, certainty about the capital structure and shares outstanding would maximize the value of Treasury’s 79.9% warrants in each GSE. In Fannie Mae’s case, the value of the warrants should ultimately be worth well over $100bn, and the capitalized value of the commitment fee around $60bn, providing a highly competitive outcome for taxpayers, on top of what has already been paid to Treasury[2].
Finally, to further upgrade and simplify the GSEs’ capital structure, Junior Preferred shareholders could be offered the option to convert from preferred stock into common stock, at a preferential price. Common Equity Tier 1 capital is the highest-quality capital for a financial institution, and a conversion option for the Junior Preferreds would incentivize Common Equity Tier 1 build, further reducing risk to taxpayers.
Incentives matter. These structural changes would provide strong, positive motivation to GSEs’ management to underwrite conservatively, and allocate capital appropriately, as well as reward efforts to curb mortgage fraud and operate efficiently. The benefits of a safe, liquid, well-capitalized mortgage market inure to the US housing market, US mortgage investors and borrowers, and by default, the entire US economy. And a structure like this for the GSEs upon release of conservatorship would effectively balance and maximize the interests of all stakeholders.
[1] A $200bn contingent capital commitment would equal about 15% of Fannie Mae’s risk-weighted assets, around twice what would be considered adequate levels of capital, and this amount should be tied to risk-weighted assets to account for future growth
[2] It is my opinion that replacing c. $200bn of value that is illiquid and risk-proximate (Senior Preferred) with c. $160bn of liquid (warrant intrinsic value) and risk-remote (CCCF capitalized fee value) consideration is a competitive and fair outcome for taxpayers.
Ray Wicklander, III is a Portfolio Manager on the Fundamental Equity Team for our Strategic Large Cap Value and Global and International Value strategies. Ray has 18 years of international investment experience, and he is also a member of our Multi-Asset Strategy investment team. Ray holds a BBA from the University of Notre Dame and an MSc from the London School of Economics. He also holds the CPA (registered CPA, state of Illinois) and CFA® designations. Ray is a member of the Finance and Investment Committees of the Board of Trustees of Fenwick High School, an Advisory Board and Investment Committee member at Misericordia Home and Foundation, and a board member at DePaul University’s Institute for Business & Professional Ethics.
Manager commentary represents an assessment of the market environment at a specific point in time and is not intended to be a forecast of future events, or a guarantee of future results, and is for illustrative purposes only. This information should not be relied upon by the reader as research or investment advice. The opinions expressed are those of Ray Wicklander and may not be representative of other Great Lakes Advisors’ (“GLA”) Portfolio Managers and Analysts. The views stated are for general information only and are not intended to provide specific advice or recommendations. The information contained herein has been obtained from sources believed to be reliable. GLA does not represent that it is accurate or complete, and it should not be relied on as such. Actual client portfolios may or may not hold the same securities depending on the guidelines, restrictions, and other factors for the specific portfolio. GLA affiliates may hold these securities in their portfolios.
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