The Greatest Government Bailout of All Time

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Martin D. Weiss, Ph. D. takes a closer look at the recent chain of events that's been leading to the greatest government bailout of all time. In this issue of Money and Markets, Dr. Weiss discusses how a Fannie Mae and Freddie Mac bailout may give temporary relief to some investors, but it will merely spread chaos among most others.

There has been a recent chain reaction of events that's leading to the greatest government bailout of all time. First, in the mortgage market nearly half of all subprime loans issued in 2006 are now delinquent, late payments on mid-quality Alt-A mortgages have soared 41.5% and delinquencies on prime mortgages are up a staggering 55.2% in the past 6 months. Second, Fannie Mae and Freddie Mac's losses are mounting so quickly that even their supposedly safer preferred shares are crashing in value. Finally, financial institutions across the country are seeing devastating losses in Fannie Mae and Freddie Mac paper and are ripping through balance sheets.

  • It's been revealed that Sovereign Bank, the third largest savings and loan in the United States, has a $632 million stake in Fannie Mae and Freddie Mac preferred shares, the same shares that have lost about two-thirds of their value just since May 15.
  • Hundreds of other banks and thrifts were encouraged by banking regulators to buy billions of dollars in similar Fannie Mae and Freddie Mac preferred shares. In fact, the regulators thought these investments were so reliable, they let the banks use them for capital that's required as a cushion against loan losses. They even allowed banks to take a tax break on 70% of these securities.
  • Some U.S. brokerage firms, life and health insurers, property and casualty insurers are in good shape, but many have loaded up with similar investments.
  • Major financial institutions overseas.

All assumed these shares were safe. All believed they were getting something akin to a government guaranteed investment and all could be severely disappointed when they discover the truth. At Fannie Mae and Freddie Mac, high-ranking company officials denied they were asking for a government bailout. At the Treasury Department, officials denied they were providing one. And everywhere, the more they denied, the more it was obvious that a bailout was both inevitable and imminent.

The big dilemma: In any federal bailout of this nature, if the government uses taxpayer dollars to support the value of high-ranking securities, it simultaneously destroys the remaining value of the lowest-ranking securities. This is because the kind of government bailout that's expected is, in itself, a tacit recognition that the companies are bankrupt. And if the companies are bankrupt, it means that, by definition, the shares in the company are worthless.

However, in order to bail out Fannie Mae and Freddie Mac's senior debt holders will be such a massive undertaking for the government, it's hard to imagine that there will be much money left over for preferred shareholders. Moreover, given the magnitude of the collapse in the preferred shares that has taken place just since May 15, even if the government bails them out, it will hardly be enough to make up for all the losses they've already suffered in their Fannie Mae and Freddie Mac preferred shares. The end result: A Fannie Mae and Freddie Mac bailout may give temporary relief to some investors, but it will merely spread chaos among most others.

Even with a government rescue, Fannie Mae and Freddie Mac bond investors are still in grave jeopardy. The quantities of Fannie Mae and Freddie Mac bonds outstanding and needing government support are so massive. These agency- and GSE-backed debts are held so widely around the world, no one in government can control who dumps what, how much, or when. U.S.

Commercial banks hold $1 trillion; insurance companies own another $518 billion; brokers and dealers own $268 billion; and foreign investors hold a whopping $1.5 trillion. Federal bailouts will sink the wobbly market for U.S. Treasury bonds. When private companies are failing, investors rush to the safety of the U.S. Treasury securities. But when the Treasury throws their money into failing companies, investors rush the other way. The result being that the degree to which the government bails out Fannie Mae, Freddie Mac, Wall Street, or anyone else, investors in Treasury securities will rebel, dump their own holdings and drive the value of Treasury bonds into a tailspin like none other in history.

"So, yes, right now, the U.S. Treasury may come to the rescue of Fannie Mae and Freddie Mac debt holders, and these investors will rejoice. But ultimately, in order to avoid a collapse in U.S. Treasury bonds themselves, the U.S. government will have to draw a line beyond which no more government rescues will be possible and let some of America's largest banks, brokers and other companies fail, liquidate their assets, and fade into history. The government will even have to abandon prior rescue efforts for the sake of saving the one institution it must keep solvent and liquid at all costs, the United States Government itself," Weiss states.

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Martin D. Weiss, Ph.D., founder and president of Weiss Research, Inc. and a leading advocate for investor safety, is a nationally recognized expert on domestic and international financial markets. With more than 35 years of experience, including many years in Latin America and Asia, Dr. Weiss has helped empower millions of investors to make better financial decisions through his monthly Safe Money Report and daily Money and Markets.

Dr. Weiss' keen understanding of foreign markets and the global economy has earned him a reputation for thoughtful, in-depth analysis that investors can rely upon to make informed financial decisions. Regularly called upon by the media for his independent investing guidance, he has been featured in publications nationwide, including The Wall Street Journal, The New York Times, Chicago Tribune, Investor's Business Daily, and Forbes and has also appeared on CNN and CNBC.

Throughout his career, Dr. Weiss has been an advocate for consumers and investors in the insurance, banking and brokerage industries, dedicating his time and resources providing analysis and data for Congressional testimony, constructive proposals for reforms in the securities industry and legislation for full financial disclosure as well sound accounting and fiscal policy. In November 2004, he launched the Sound Dollar Committee, a nonprofit organization dedicated to building a network of investors seeking to protect the nation's future by demanding honesty in government accounting, a balanced budget and sound economic policy.

Dr. Weiss is author of The New York Times best-seller, The Ultimate Safe Money Guide, which gave baby boomers a road map to grow their wealth safely. It was listed on the New York Times Business, Wall Street Journal, and BusinessWeek best-seller lists, as well as the Barron's Roundup for 2002.

Dr. Weiss holds a bachelor's degree from New York University, a Ph.D. from Columbia University and is fluent in eight European and Asian languages.

Money and Markets ( is a free daily investment newsletter from Dr. Martin Weiss and Weiss Research analysts offering the latest investing news and financial insights for the stock market, including tips and advice on investing in gold, energy and oil. Weiss Research, Inc. is located in Jupiter, Florida. For more information about our editors, or to set up an interview, please contact Jennifer Moran at 561-627-3300 or visit


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