In the latest chapter of the Fannie Mae (NASDAQOTH:FNMA) and Freddie Mac (NASDAQOTH:FMCC) saga, fund manager Bill Ackman recently made some of his more bullish comments yet on the stocks of these companies. And these comments come just a month after a Federal judge dismissed several shareholder lawsuits, and just days after Ackman himself voluntarily dropped one of his.
So, why does Ackman think the shares could be worth so much that he's willing to bet tens of millions on a favorable legal outcome? And if he's so convinced he's right, why did he drop one of his lawsuits against the government?
Fannie Mae could be worth how much?
Other than the U.S. Government, Ackman's Pershing Square hedge fund is the single largest holder of Fannie Mae and Freddie Mac's common stock. So, obviously he thinks there is value in the companies. However, even the most bullish of shareholders may not quite share his latest sentiments.
Speaking at the Invest for Kids Conference in Chicago, Ackman said the shares could be worth $40-$50 if the government allows the agencies to begin distributing profits to shareholders. (Both companies' stocks trade in the low $2 range right now.) He also called Fannie and Freddie the "most interesting risk/reward of anything we own."
He seems to be so convinced that shareholders will ultimately prevail because the government's seizing of Fannie and Freddie's profits is an example of the government taking private property. And he finds it inconceivable that such an action could hold up in court.
Why would he drop the lawsuit?
It's impossible to know for certain, but many speculate that it's a part of a bigger strategy.
Ackman dropped his suit in U.S. District Court, the same court that recently dismissed several other shareholder lawsuits. His lawsuit would have been presided over by the same judge, and there's no reason to believe that the same judge would reach a different ruling on what is essentially an identical lawsuit.
With all of the attention shifted toward those cases and their ongoing appeals, lawyers from the Justice Department argue that those plaintiffs' other lawsuits should be put on hold until the appeals process plays out. Who knows how long that might take.
However, Ackman's other lawsuit, in the Court of Federal Claims, is still ongoing. And by dropping his case in the U.S. District Court, it could prevent the Justice Department from imposing a similar delay on him.
What's next, and should you join in?
Is there any reason to believe that the Court of Federal Claims lawsuits will work out any differently than those in the District Court?
Maybe there is. After all, the two sets of lawsuits are claiming different violations of shareholder rights. The U.S. District Court lawsuits violated the Administrative Procedures Act by overstepping its authority. On the other hand, the claims court lawsuits claim that the full income sweep by the Treasury violates the Takings Clause.
Finally, it's tough to make the case that shareholders don't have a good argument just on the principles of the situation. The fact is that the government continued to allow the companies' shares to trade when they didn't have to do so, especially if there was no chance of future profitability, ever. As of the companies' just-announced earnings, the government has been paid back every dollar of its more than $188 billion bailout, plus another $37 billion or so on top of it.
How much will be enough? Under the current arrangement, all of this money has been collected as "dividends," and has not paid down the principal at all. That's a pretty strong dividend to receive during a short time period. Not many investors get a 115% return on investment in five years. Investors' claims that something is a little "off" seem to be accurate.
Still, any stock that trades for $2 and "could" be worth $50 should raise some serious red flags. Something with that kind of near-term payoff sounds more like a lottery ticket than an investment, and should be treated as such. Approach with caution, and realize that you're taking a serious gamble if you buy in.
Matthew Frankel has no position in any stocks mentioned. 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.