Fannie, Freddie bailout offers bank stocks reprieve

NEW YORK (Reuters) - Financial stocks may rise on Monday after the U.S. government took over troubled mortgage companies Fannie Mae and Freddie Mac, but this may be only a temporary reprieve given the long list of woes banks are currently battling.

Financial firms have posted over $500 billion in credit losses and write-downs since credit markets seized up a year ago and their holdings of complex debt instruments tied to mortgages plummeted in value.

Although the immediate concern that Fannie and Freddie might fail and trigger a wider financial market collapse has been eliminated, the government's rescue of the companies may take a long time to help stop house prices from falling or the economy from slowing.

"This is a stop-gap measure," said Peter Kenny, managing director of Knight Equity Markets in Jersey City. "It's not going to address the credit crisis."

In the short term, the U.S. government's action should buoy financial stocks by lifting concerns that Fannie and Freddie could be left insolvent, analysts said.

The government action also reassures banks that trade with the companies that their trading agreements and debt will be honored.

In the longer term, however, many banks that are preferred shareholders in Fannie Mae and Freddie Mac could lose out under the terms of the takeover.

The significance of the takeover on preferred shareholders in Fannie and Freddie was not immediately clear on Sunday but banks holding these shares have already warned of potential credit losses.

JPMorgan Chase & Co said late last month that the market value of its investments in Fannie and Freddie preferred stock dropped by half to $600 million this quarter, and the decline will affect its earnings.

And investment bank Keefe, Bruyette & Woods published research last month warning that while large-capitalization banks do not hold much of the government sponsored enterprises' preferred shares, regional banks including Gateway Financial Holdings, Midwest Banc Holdings and Sovereign Bancorp Inc have significant exposure.

LEHMAN BROTHERS AND OTHER PROBLEMS

Beyond worries about Fannie and Freddie's declining preferred shares, banks are also facing wider problems.

Capital raising difficulties have bankers and investors worried another bank could be forced to sell itself at a fire-sale price, as happened with Bear Stearns Cos in March, after concerns over its mortgage exposure effectively triggered a run on the bank.

Lehman Brothers, for example, has seen its shares fall by over 75 percent this year and the company is struggling to raise capital to reinforce its balance sheet ahead of earnings this quarter.

And Goldman Sachs analyst William Tanona on Friday placed Merrill Lynch & Co Inc on the firm's sell list, warning it could see further write-downs this quarter beyond $5 billion it has already announced as a result of selling a $30 billion portfolio of toxic debt to Lone Star Funds.

But the government's efforts to support Fannie and Freddie are being interpreted as a small step in the right direction.

"Hopefully the capital injection will allow (Fannie and Freddie) to get out there and buy mortgages and create some liquidity," said Peter Goldman, principal at Front Barnett Associates, which manages about $600 million in Chicago.

"That could help the housing market put a bottom in, which would put one stable leg back into the economy."

But Goldman noted the outcome for Fannie's and Freddie's equity holders is still murky and it is unclear the effect the government takeover will have on equity markets longer term.

Most fund managers concluded the announcement will temporarily buoy equities, but it is unlikely to dispel clouds hanging on the horizon.

"It's not going to address the credit crisis, it's not going to address declining home prices and I'm not sure that in the long run it's going to be looked at as the most efficient way of solving those problems," said Kenny.

(Reporting by Elinor Comlay)