This weekend’s announcement that the Treasury Department and the Federal Reserve will take steps to shore up Fannie Mae and Freddie Mac put a stop, for now, to the rapid decline of the shareholder-owned/government-sponsored entities (GSEs). Yet the nature of the federal intervention is raising questions about whether different groups of stakeholders are getting equal protection.
The greatest tension is between those who hold shares in Fannie and Freddie and those who hold bonds. In theory, the intervention would help both groups by allowing the GSEs to borrow more from the federal government, which would also, if necessary, purchase equity positions in the firms. Yet these capital infusions are being viewed more as a boon to existing bondholders by reducing the odds of a default while doing little to directly help shareholders whose stock has fallen in value by about 90 percent over the past year. The Wall Street Journal’s Deal Journal blog website argued today that the bailout of Fannie and Freddie, like that of Bear Stearns earlier this year, “leaves shareholders starving.” The Journal itself reported on Saturday that Treasury Secretary Henry Paulson (photo, taken earlier) was adamant about not bailing out shareholders.
Apparently, helping shareholders creates a “moral hazard” (de-sensitizing them to risk) while protecting bondholders is considered essential to protecting the financial system. There may be practical reasons why creditors have to be given preference over investors, but it’s instructive to see who comes out ahead or behind with that approach.
According to Fannie Mae’s most recent proxy statement, its largest shareholders are two money managers: Capital Research Global Investors (12% of shares) and Capital World Investors (11.3%). The two are both arms of Los Angeles-based Capital Research and Management, which oversees investments for the huge American Funds family of mutual funds.
According to the subscription service Vicker’s Stock Research, which assembles data reported by institutional investors, many of the other largest investors in Fannie and Freddie are mutual funds and their parent companies—including Fidelity, Vanguard and Lord Abbett. Vickers also shows that public pension funds, which provide retirement benefits to state and local government employees, are also big investors in Fannie and Freddie. For example, the New York State Common Retirement Fund had holdings worth a total of about $93 million in the two GSEs as of its most recent quarterly report.
Getting information on Fannie and Freddie’s bondholders is not quite so easy. But the Council on Foreign Relations has found that a massive amount of such debt is held by foreign central banks—especially those of China and Russia, with about $512 billion between them.
So this is what it has come to: the federal government will do whatever it takes to protect the “confidence” of foreign central banks while allowing the retirement savings of working Americans to be ravaged by the market.