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The 4 Men Trying to Save Fannie and Freddie Shareholders

By Alexander MacLennan – Feb 11, 2014 at 1:00PM

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The uncertain fate of the mortgage GSEs has lead to an unlikely alliance.

Restoring value to the shares of Fannie Mae (FNMA -3.09%) and Freddie Mac (FMCC -2.30%) is a politically unpopular position. With so much emphasis on the roles of these government sponsored enterprises (GSEs) in the housing crash, talks of housing reform almost always include the replacement of Fannie and Freddie.

But out of this comes a motley cast of characters, each with their own reason for ensuring Fannie and Freddie's survival. Here are a few of them and the actions, if any, they're taking.

Fairholme Fund
Bruce Berkowitz, manager of the Fairholme Fund, is no stranger to contrarian investments in the financial industry. Among the funds largest holdings are American International Group and Bank of America; two stocks hit hard by the financial crisis. Fairholme has mostly invested in these companies through large equity stakes and continues to hold them today. The fund is nearly 50% weighted in AIG shares and nearly 15% weighted in Bank of America shares. Needless to say, when Berkowitz makes a bet, he bets big.

Fairholme is pursuing Fannie Mae and Freddie Mac as its next contrarian financial investments. The fund has taken a positions in preferred stock from both GSEs.

Right now, Berkowitz is taking a two-pronged approach to realizing value on the GSE investments. The first is in the form of a lawsuit challenging the legality of the "Sweep Amendment" that causes all of Fannie and Freddie's excess profits to be swept into the Treasury. The lawsuit calls for an end to the "Sweep Amendment" which would then make it feasible for the GSEs to begin buying back the Treasury's senior preferred stock.

Berkowitz also submitted a plan that would split the GSEs' into two parts each. The old legacy assets would be wound down with proceeds going to the Treasury and common stockholders. Meanwhile, a rights offering would recapitalize the new Fannie and Freddie and preferred shares would receive full value. This plan has since been rejected by the White House and stands little chance in Congress and it remains unclear what, if anything, Berkowitz will do with this plan for the future.

Perry Capital
Hedge fund firm Perry Capital, founded by Richard Perry, has grabbed a lot of attention for the firm's lawsuit against the U.S. Treasury. Unlike some other lawsuits that challenge the initial takeover of Fannie and Freddie in 2008, Perry Capital's lawsuit targets the "Sweep Amendment" and asks for the court to declare it illegal and stop it from being carried out.

Like Fairholme, Perry Capital is also a substantial holder of GSE preferred stock and could see massive returns if successful in the courts.

Pershing Square
Pershing Square, headed by activist investor Bill Ackman, has taken a bet on the GSEs unlike those of Fairholme and Perry Capital. Ackman chose to acquire common shares of Fannie and Freddie and purchased nearly 10% of the publicly available shares of each GSE.

Ackman's investment is a bit of a mystery. He chose the common stock over the slightly less risky preferred stock and has not launched a high-profile lawsuit like some other GSE investors. Anyway, the investment certainly seems to have piqued Ackman's interest as he noted in a Bloomberg Television interview "This is the most interesting investment I've seen since my investment in General Growth." Ackman's work may be done more behind the scenes through talks with officials and investors.

Ralph Nader
There are few people considered as different from hedge funds as consumer advocate Ralph Nader. But in the case of shareholders of Fannie and Freddie, Nader has their back.

Nader, who owns shares of the GSEs himself, has two other reasons to fight for Fannie and Freddie shareholders. The first reason comes from Nader's goal to ensure investors can still be heard in large public corporations. He discussed this view of Fannie and Freddie in a 2011 New York Times article called The Great Fannie and Freddie Rip-Off.

But the second reason comes from the abilities of the GSEs to provide affordable housing. Recently, Nader has been trying to build public support for Fannie and Freddie by rallying community-based affordable housing groups; groups that have more public appeal than hedge funds.

A motley alliance
Finding popular support for the restoration of value to Fannie and Freddie shares is difficult. Yet, an alliance between the most powerful of hedge funds and one of the nation's top consumer advocates forms the basis for those trying to preserve the GSEs.

While the common and preferred shares both remain risky there's one thing to be sure of: The story of Fannie Mae and Freddie Mac is far from over.

Alexander MacLennan owns shares of Freddie Mac (common stock), AIG warrants, and Bank of America Class B warrants. He also has the following options: long January 2015 $20 calls on Bank of America. This article is not an endorsement to buy or sell any security and does not constitute professional investment advice. Always do your own due diligence before buying or selling any security. The Motley Fool recommends American International Group and Bank of America. The Motley Fool owns shares of American International Group and Bank of America and has the following options: long January 2016 $30 calls on American International Group. 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.

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Stocks Mentioned

Fannie Mae Stock Quote
Fannie Mae
FNMA
$0.43 (-3.09%) $0.01
Freddie Mac Stock Quote
Freddie Mac
FMCC
$0.42 (-2.30%) $0.01

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