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Holly LaFon
Holly LaFon
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Bruce Berkowitz Comments on Fannie Mae and Freddie Mac

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January 31, 2017 | About:

Odds favor Fannie Mae (FNMA) or Freddie Mac (FMCC) helped your parents and you obtain a first home, and that the same will be true for your children and grandchildren. Fannie Mae and Freddie Mac guarantee the timely payment of principal and interest demanded by lenders. Investors just like you own and fund their operations. Yet, we fight an expropriation of our principal by the government. Here’s where we stand: prosperity exists in a capitalist society only when contracts are honored. The rule of law must be respected and cannot be eliminated by fiat. If you disagree, just see the despair in Venezuela. We look forward to a decision from the United States Court of Appeals for the District of Columbia Circuit that protects and preserves our investments in Fannie Mae and Freddie Mac. Signs indicate that we are nearing the end of our “Alice in Washington” journey.

Our three appellate court judges (Janice Brown, Doug Ginsburg, and Patricia Millett) published a separate decision (Heartland Plymouth Court MI, LLC v. National Labor Relations Board) that we believe is instructive to their eventual ruling in our case. Writing for the majority, Judge Brown stated:

As this case shows, what the [National Labor Relations Board (“NLRB”)] proffers as a sophisticated tool towards national uniformity can just as easily be an instrument of oppression, allowing the government to tell its citizens: “We don’t care what the law says, if you want to beat us, you will have to fight us” … We recognize the [NLRB’s] unimpeded access to the public fisc means these modest fees can be dismissed as chump change. But money does not explain the Board’s bad faith; “the pleasure of being above the rest” does. See C.S. Lewis, MERE CHRISTIANITY 122 (Harper Collins 2001). Let the word go forth: for however much the judiciary has emboldened the administrative state, we “say what the law is.” Marbury, 5 U.S. (1 Cranch) at 177. In other words, administrative hubris does not get the last word under our Constitution. And citizens can count on it.1

In another decision (DirecTV, Inc. v. National Labor Relations Board), Judge Brown was even more direct about the perils of unchecked executive action when she noted that: “Judicial review should mean more than batting cleanup for the administrative state.”2 If applied in equal measure, these sentiments bode well for our case.

Finding no clear reason in favor of extraordinary secrecy, U.S. Court of Federal Claims Judge Margaret Sweeney (Fairholme Fund (Trades, Portfolio)s v. United States, No. 1:13-cv-00465-MMS) recognized that the government’s attempt to hide thousands of documents is unjustifiable, for the work of our government must withstand public scrutiny. Judge Sweeney issued a court order directing the Obama Administration to produce scores of documents that were improperly withheld based on assertions of deliberative process privilege, bank examiner privilege, and presidential communications privilege. Her decision was largely upheld upon review by the U.S. Court of Appeals for the Federal Circuit. In due course, we expect further proof that Obama Administration officials violated laws established by our founding fathers to prevent such unfettered discretion. Alexander Hamilton said it best:

The nature of the contract in its origin is, that the public will pay the sum expected in the security, to the first holder, or his assignee. The intent, in making the security assignable, is, that the proprietor may be able to make use of his property, by selling it for as much as it may be worth in the market, and that the buyer may be safe in the purchase. Every buyer therefore stands exactly in the place of the seller, has the same right with him to the identical sum expressed in the security and having acquired the right, by fair purchase, and in conformity to the original agreement and intention of the government, his claim cannot be disputed, without manifest injustice.3

We are frequently asked (i) why we own the preferred stock of Fannie Mae and Freddie Mac instead of common shares, and (ii) how this story ends. Our answers are simple: the provisions of the preferred stock contracts that we own provide us with greater security and certainty than the common stock and, as you know, we are not speculators. In this instance, we have invested in two superb insurance companies with unparalleled brand recognition, talented human capital, proprietary information technology infrastructure, and robust industry relationships. Fannie Mae and Freddie Mac are quintessential examples of what Warren Buffett (Trades, Portfolio) would describe as “economic castles protected by unbreachable moats.” As interest rates rise, Fannie Mae’s and Freddie Mac’s portfolios become even more valuable – and we anticipate that Q4 2016 results will reflect this positive impact. Allow me to emphasize a few points that you may have heard before:

Any intellectually honest observer would proffer that the rational steps for resolution are: (i) halt the payment of any further monies to the United States Treasury; (ii) permit the companies to retain capital in order to protect taxpayers; (iii) transform the companies into low-risk, public utilities with regulated rates of return, just like your local electric company; and (iv) eventually release them from the shackles of a perpetual conservatorship so they can help more low- and moderate-income families move up the economic ladder. Only the disingenuous would assert that recapitalization of these companies would take decades and come at taxpayers’ expense, as if retaining earnings precluded the ability of each company to raise equity from private investors. Only those beholden to special interests would ignore the substantial reforms implemented at Fannie Mae and Freddie Mac over the last eight years and pretend the companies are somehow doomed to repeat the past upon release from conservatorship. And only those who oppose the dream of homeownership for America’s middle class would attempt to dismantle two publicly traded, shareholder-owned companies that have singlehandedly provided over $7 trillion in liquidity to support our mortgage market since 2009. We are optimistic that the indispensability of Fannie Mae and Freddie Mac to affordable homeownership eventually overpowers the taboo imposed upon them by the previous Washington establishment.

From Bruce Berkowitz (TradesPortfolio)'s Fairholme Fund (TradesPortfolioannual shareholder letter 2016.


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