PIMCO’s Bill Gross Softens Fannie/Freddie Rhetoric

Maria Bartiromo interviewed PIMCO’s Bill Gross Friday (8/15/08) on CNBC. Gross’s tone was decidedly less abrasive when questioned about Fannie Mae (FNM) and Freddie Mac (FRE). Gone was the anger and disgust that had been amplified by PIMCO’s consultant and spokesman former Federal Reserve Chairman Alan Greenspan. There was no talk of insolvency and systemic financial risk emanating from the failure of the GSEs.

Instead, Bill Gross seemed to be asking for our sympathy. He started his argument for government aid to the GSEs by saying the banking system will not be stabilized until housing prices are stabilized, in sync with Greenspan’s mantra. Gross then went on to say that housing prices will never be stabilized with 7% 30-year fixed rate mortgages. He explained that the reason for the large spread between the 2% Fed funds rate and 7% 30-year fixed rate mortgages is due to lack of investor confidence in the GSEs. Gross cited Fannie’s and Freddie’s stock prices as evidence.

Gross wants the Treasury to insert $15B each in new capital to Fannie and Freddie, for a total of $30B. He now says the most likely method would be for the Treasury to purchase preferred shares. PIMCO and the shorts appear to be diverging. PIMCO does not need nationalization to win. Unlike the shorts, PIMCO has multiple paths to victory.

I believe Gross has read the tea leaves, and realizes that nationalization is unlikely. He needs to update Greenspan with the new game plan. PIMCO’s new plan is to motivate the Treasury to strengthen the GSEs in their present structure so that their outstanding debt is more valuable. Gross is trying to gather a constituency to press for lower mortgage rates through a better capitalized Fannie and Freddie.

A better capitalized Fannie and Freddie would be able to demand lower interest rates on its debt through higher investor confidence. More capital would also allow the GSEs to expand their owned mortgage portfolios, thereby increasing the supply of mortgage money. Both would increase the value of PIMCO’s GSE debt portfolio.

Gross’s new tenor brings complications to Greenspan’s life, at an age when he should be retired. The 82 year old still has clients that will only win if Fannie and Freddie are nationalized or severely diluted.

Disclosure: Author is long FNM and FRE.

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