Financial Repair Continues

Our two mortgage giants, Fannie Mae and Freddie Mac, have been in the news this month with positive comments. Their stocks and other securities have responded with a sharp jump, indicating hope that we will return to a healthy mortgage market and get the government largely out of the mortgage business. The securities are officially worthless but speculators are betting that they will be worth a lot when they return to the public markets. What are Fannie and Freddie indicating to individual investors?

Many ways to benefit

Fannie and Freddie and all their issues are still highly speculative. There is no indication that financial repair is imminent. These fundamental changes take time – measured more in years, not quarters. Investment patience pays off despite the fear or exuberance that follows each piece of news. The short-term up and down trading patterns of the last several years may continue.

Other financial healing

Since the beginning of the year, four top-ranked and well-endowed US universities have issued 100-year bonds. The cost is roughly 3.5%. These universities know that the cost of very long-term money for them could go down – even as low as 2% in a panic – but that the more likely path is more expensive money for these universities. It seems that this current 3.5% rate is a satisfying place for them to start the long term capital raise.It may not be a great deal for the buyer but any match between buyer and seller over 100 years demonstrates trust and healing.

The end of limbo

One day the aftermath of the financial crisis will be solved. We’ll be able to write a complete history of the mortgage market and how it eventually recovered. In my view, that time is coming sooner rather than later. I don’t think a recession will have any effect on the outcome because the demand for housing and the money to buy it with a mortgage is high and fairly constant, even when economic growth recedes.

The catalyst

A large group of regulators, politicians and private investors will have to come to an agreement that Fannie and Freddie must be freed from the government to operate in the public markets. No one is advocating they stay in the government permanently. The main sticking point is “who profits,”in other words, who gets all the financial benefit of fully public Fannie and Freddie companies. Right now, only profits lie ahead. All the losses have been reimbursed to the government and the losses by individuals are written off. That’s not fair, but it is a reality.

Investment stance

Fannie and Freddie securities are too speculative to be a core part of Osbon Capital portfolios. For one thing, there are no dividends! Juicy dividends at some point in the future seem likely, but factually if there are no dividends then there must be a compelling growth story. For diversified investors, I suggest paying attention to all the financial healing going on in this country: job growth, tax cuts, insatiable demands for yield. The return of Fannie and Freddie to the markets will signal yet another financial obstacle overcome, one that was once thought impossible.

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