Fannie Mae's latest financial disclosures belie the SEC's allegations against former company executives. The government lawsuit claims that the company understated its "true," holdings in subprime and Alt-A mortgages back in 2007-2008. Yet four years later, Fannie still refuses to change the way that it calculates and reports its exposure to subprime and Alt-A mortgages.
Go to the Fannie Mae website if you want to see a slap in the face to the SEC.
As you may remember, the securities regulator caused a big stir last December when it filed lawsuits alleging securities fraud committed by former Fannie Mae and Freddie Mac executives. According to the complaints, these executives directed the companies to understate their "true" exposure to subprime and Alt-A loans. At the same time, Fannie and Freddie had signed Non-Prosecution Agreements, which were viewed by some as an admission of culpability.
In a nutshell, the SEC alleges that for year-end 2007, Fannie falsely represented its subprime loan total as $5 billion, when the actual number was closer to $48 billion. And it falsely represented its Alt-A total as $311 billion, when in fact it the true number was more like $634 billion.
What went largely unnoticed at the time is that the non-prosecution agreements imposed no requirement that the companies restate or change the manner in which they present their subprime and Alt-A exposure. In other words, the SEC is pursuing several lawsuits, which consume scarce resources and may drag on for years, but it took no steps to protect the investing public from any continued dissemination of these so-called falsehoods.
So yesterday Fannie Mae released its financial results for the year, with its usual press release, 10-K, and Credit Supplement. Check out pages 5, 6, and 9 from the Credit Supplement, and you'll see that Fannie's methods for calculating its subprime and Alt-A exposure have not changed in the least. Investors holding trillions in Fannie Mae bonds are still being "deceived" in the same way that they were in prior quarters and prior years. (Compare the Credit Supplement issued for the prior quarter, or any other quarter, to validate this point.)
One of the fatal flaws in the SEC's lawsuit was best described by U.S. District Court Judge Paul Crotty, in a ruling wherein he dismissed most, but not all, of the causes of action against Fannie its senior management. The private lawsuit alleged similar, but not identical, violations of securities law. Judge Crotty wrote, "A plaintiff cannot state a claim by citing snippets of corporate disclosures and alleging it is misleading; rather, such disclosures must be 'read as a whole.'"
Since the financial filings use definitions for subprime and Alt-A that are not precise and exact, the investor must read everything in the public disclosures. If the critical information is stated in a different way, or in a footnote, so that the investor can figure out what's going on, he cannot allege that he has been harmed by securities fraud.
As it happens, Judge Crotty will preside over the SEC's case against the Fannie Mae executives.
A Possible Backstory To The Lawsuit
So why is the SEC proceeding with such a flimsy case? My guess that the true motivation was political, as a sop to the Republican members of Congress who are doing everything they can to slow down agency's efforts at policing the markets. Consider Darrell Issa's "inquiries," into the timing of the SEC lawsuit against Goldman Sachs, into the timing of the the settlement with Goldman Sachs, whether S.E.C. regulations are too burdensome.