Trump Team’s Final Act on Fannie-Freddie Leaves Fates to Biden

The Trump administration is poised to unveil last-minute changes to Fannie Mae and Freddie Mac that would allow the mortgage giants to retain significantly more capital, while leaving many of the thorniest issues on releasing the companies from federal control to President-elect Joe Biden, said four people familiar with the matter.

The revisions -- expected to be announced as soon as Thursday -- would modify the contracts that govern taxpayers’ backstopping of Fannie and Freddie. They fall far short of freeing the companies from their government conservatorships, something Treasury Secretary Steven Mnuchin vowed to accomplish after President Donald Trump’s 2016 election win.

Shares of both companies fell on the news. Fannie declined 4.4% to $1.97 at 10 a.m. in New York. Freddie dropped 5% to $1.92.

Treasury Department officials have already started briefing lawmakers on the tweaks, which are the result of an agreement between Mnuchin’s agency and the Federal Housing Finance Agency -- Fannie and Freddie’s regulator. While the revisions have been presented as if a deal has been finalized, they could still change before they are publicly released.

The actions will lock-in several policies the companies are already subject to under FHFA Director Mark Calabria, said the people who asked not to be named to discuss the matter before the changes are announced. They include ensuring big lenders don’t get advantages unavailable to smaller ones when doing business with Fannie and Freddie and limiting the amount of higher-risk mortgages that the companies can guarantee.

Most significant, Fannie and Freddie won’t have to pay their profits to the government until they have much bigger capital buffers to protect the companies against losses. Right now, Fannie and Freddie combined can’t hold more than $45 billion in capital, after which they must pay their entire net worths to the U.S. Treasury.

Controversial Policy

People briefed on the plans said it wasn’t clear how much capital the companies will be permitted to keep but said the changes were framed as an end to the so-called net-worth sweep, a controversial policy implemented during the Obama administration that requires they send their earnings to the Treasury.

However, Treasury opposes reducing the government’s ownership stake in Fannie and Freddie, a longtime goal of the companies’ private shareholders. Whether to modify the Treasury’s senior preferred stake is under consideration at the White House, said one person familiar with the matter. If Treasury’s position holds, Biden will be guaranteed a strong say in the companies’ futures. Unlike the current White House, the incoming administration is seen to be in no hurry to re-privatize the companies, the people said.

A Treasury spokeswoman declined to comment, while an FHFA spokesman had no immediate comment.

Fannie and Freddie don’t make mortgages. They buy them from lenders, wrap them into securities and guarantee to investors the repayment of principal and interest. The government took them over in 2008, as billions in loans soured during the financial crisis, eventually injecting them with $187.5 billion in bailout money.

Since then, two presidential administrations and Congress have tried and failed to replace Fannie and Freddie with a new housing-finance system. Most recently, Calabria has vowed to lead the companies out of conservatorship, rapidly publishing new rules for the companies on products, capital and liquidity, while setting prerequisites for leaving government control.

Calabria’s Push

In recent months, Calabria tried to garner support for releasing Fannie and Freddie before they have built up large capital cushions, an effort meant to lock-in their eventual release before Biden took the reins. That push ended up being a bridge too far for Mnuchin.

Calabria won’t have to leave after Biden is sworn in because he is serving out a term that extends into 2024. That said, Biden would likely seek to replace the FHFA chief if he tries to quickly release the companies or put them into receivership, people familiar with the matter have said.

With the agreement, the Treasury and FHFA plan to set out recommendations for what needs to happen before Fannie and Freddie are freed. But the suggestions won’t be binding for Biden’s Treasury, the people said. That means the changes effectively amount to a blueprint for eventually making Fannie and Freddie fully privatized companies.

One of the thorniest issues that Treasury intends to leave unresolved will be the government’s stake in Fannie and Freddie, a position that now exceeds $220 billion in senior preferred shares as well as warrants to acquire nearly 80% of the companies’ common stock.

Private shareholders of Fannie and Freddie, including hedge funds, have desperately hoped that the Trump administration would at least reduce its stake. That would allow investors to again receive dividends or mitigate how much they would be diluted if the companies raise capital in the private market.

Pending Case

Shareholders have also sought redress in the courts, claiming the 2012 decision by the Obama administration to sweep nearly all of Fannie and Freddie’s profits was illegal. The Supreme Court heard that case in December and legal analysts expect them to issue a ruling this year.

The same case could determine what happens to Calabria, who is an independent regulator insulated from the White House. The Supreme Court could decide that Biden should be allowed to fire Calabria at any time for any reason, further jeopardizing efforts to release the companies.

©2021 Bloomberg L.P.

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