So, what's it gonna be: Are Fannie Mae (NASDAQOTH:FNMA) and Freddie Mac (NASDAQOTH:FMCC) on the brink of being wound down or are they going to continue to be valid pillars of the U.S. mortgage finance system?
According to shareholders, Fannie Mae and Freddie Mac will stay around and continue to provide credit and liquidity to the U.S. housing market. This can easily be seen by the whopping increase in Fannie Mae's and Freddie Mac's common share price over the last year.
Fannie Mae's common shares have returned 139% and Freddie Mac's common shares 145% over the last twelve months as investors bet that the two government-sponsored entities will be returned to shareholders. In 2014, both common stocks are still up approximately 30%.
What's the fuss all about?
Ever since the federal government stepped in during the U.S. real estate crisis and recapitalized the two companies in order to prevent a collapse of the U.S. mortgage finance system, investors hoped that Fannie Mae and Freddie Mac would be released from the grip of the Federal Housing Finance Agency.
After receiving $187 billion worth of bailout funds, the two GSEs have been placed into conservatorship of the FHFA and were required to fork over all future profits as part of a 'net sweep agreement'. The money now goes right into the coffers of the U.S. Treasury while payments are considered dividends and are not applied against the bailout balance.
Investors have been betting on two things
Investors pretty much have been betting on two things in 2013 and 2014:
1. Fannie Mae and Freddie Mac will not be wound down as suggested by the Johnson-Crapo reform bill. The bill ultimately failed to attract enough votes and appears to be pretty much dead in the U.S. Senate.
2. Fannie Mae and Freddie Mac will indeed be returned to shareholders which means the common stock will not be worthless.
Since shareholders were starting to sue the government in order to have the net sweep agreement overturned, more and more investors piled into the common stock of the two GSEs and pushing up their prices over the last six months.
Bruce Berkowitz of Fairholme Funds, Bill Ackman of Pershing Square Capital Management and, most recently, activist investor Carl Icahn have all established positions in Fannie Mae's and Freddie Mac's preferred and common stock whereas the trend has been to invest in the common stock.
Add to that, the two GSEs have now repaid more than $200 billion to the government, an amount exceeding the bailout funds which further gives credibility to the argument, that Fannie Mae and Freddie Mac should be set free.
Though Fannie Mae and Freddie Mac have made some progress over the last couple of years in regaining their profitability, their fate remains uncertain.
Unfortunately, it looks as if investors will have to wait a while until they get some clarity with respect to the future of Fannie Mae and Freddie Mac as their fate will most likely only be determined in court. Given the complexity of the issue, this is a fight that could drag on for years.
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Kingkarn Amjaroen owns shares of Fannie Mae. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.