Answering the call for private capital November 15, 2013 at 7:10 pm
Matt Levine, unexpectedly, is too generous. He suggests that the Fairholme Capital Management proposal to privatize Fannie Mae and Freddie Mac is pretty good. Not so much, Matt, unless you like the idea of the state handing billions of dollars to a bunch of hedge funds for no readily obvious reason. What Frannie needs is a whole bunch of new capital: not the $52B of Fairholme’s proposal, but hundreds of billions. This is because we simply cannot tolerate a repeat of 2008, so the new companies *must* be able to stand on their own feet, even in a severe downturn. My gut feel starting point is $200B of total capital for New Frannie as a whole, but I could be persuaded higher.
How can we get there? First, the pref holders should be converted into equity then massively diluted in stages – no single IPO could raise that much without a huge discount, so it makes sense to privatize New Frannie gradually. Perhaps one company per FED district would work: start with Kansas New Frannie, say, covering Colorado, Kansas, Nebraska, Oklahoma, Wyoming, and some corners of other states, capitalised at $12B, and work up to the bigger districts from there.
It is worth point out, BTW, that having the New Frannies be insurance companies represents a significant regulatory arbitrage, as Fairholme well know: the capital it would require for the same business if they were banks would be much higher. Indeed, whatever the status of the New Frannies, deeming them all systemic and imposing a supplemental leverage ratio would not be a bad plan.