The US government's move to take control of mortgage finance companies Fannie Mae and FreddieMac led to a surge in world stock markets today.
On Wall Street, the Dow Jones opened up almost 3%, while European markets closed 3% to 4% higher this evening. Dublin's ISEQ was even stronger, closing up 6.7% with the financial stocks all recording good gains.
Yesterday, US authorities launched what could be the country's biggest federal bail-out in a bid to support the US housing market and ward off more global financial market turbulence.
Officials were concerned about mounting losses at the two companies, which own or guarantee almost half of the country's $12 trillion in outstanding home mortgage debt. The losses threatened to undermine the two companies at a time other sources of housing finance have largely run dry.
US President George Bush said the action was necessary because the troubles at Fannie Mae and Freddie Mac posed 'an unacceptable risk to the broader financial system and our economy'.
'Our economy and our markets will not recover until the bulk of this housing correction is behind us,' US Treasury Secretary Henry Paulson said at a news conference yesterday. 'Fannie Mae and Freddie Mac are critical to turning the corner on housing,' he added.
The two companies, which are publicly traded but also serve a US government mission to support housing, were put in a conservatorship. This allows their shares to keep trading but puts common shareholders last in any claims.
Their top executives were ousted. Freddie Mac chief executive Richard Syron and Fannie Mae's CEO, Daniel Mudd, were replaced by David Moffett, a former top official at US Bancorp and Herb Allison, formerly with Merrill Lynch and pension fund TIAA-CREF.
In addition, the US Treasury will immediately take a $1 billion equity stake in each company in the form of senior preferred stock and if needed could inject up to $100 billion into each firm.
These government-owned shares will rank above both existing preferred and common shares and will carry warrants that could give the government an ownership stake of 79.9%.
The US Treasury also set up a programme under which it would buy mortgage-backed securities currently held by Fannie Mae and Freddie Mac to pump fresh funds into the mortgage market. It said it would begin buying these later this month, and it would have the authority to keep making such purchases to the end of next year.
Mr Paulson said Fannie Mae and Freddie Mac were so large that 'a failure of either of them would cause great turmoil in our financial markets here at home and around the globe'. Several analysts said the move should help instill some confidence in shaky credit markets and lower mortgage costs.
The Treasury Department said the plan to shore up the finances of the two government-sponsored enterprises, which have $1.6 trillion in debt outstanding, should not cost US. taxpayers money in the long run and could even return cash to the government coffers eventually.
The companies have suffered combined losses of nearly $14 billion in the last four quarters and large holders of their debt, including overseas central banks, have begun to show signs of increasing nervousness over their financial health.
Worries over their shrinking capital position led their regulator, the Federal Housing Finance Agency, to place them in conservatorship. 'As house prices, earnings and capital have continued to deteriorate, their ability to fulfill their mission has deteriorated,' FHFA Director James Lockhart told the news conference. He said the companies lacked sufficient capital to continue taking losses while supporting the housing market at the same time. FHFA will run the companies until they are stabilised
Federal Reserve Chairman Ben Bernanke said in a statement that he 'strongly' endorsed the action, as it would help to strengthen the US housing market and promote stability in the financial markets.