By Nick Timiraos 

Hours after being announced as President-elect Donald Trump's nominee for Treasury secretary on Wednesday, Steven Mnuchin sent shares of Fannie Mae and Freddie Mac way up after he said government control of the companies should end.

One beneficiary of the rally: John Paulson, who has been a Trump donor and adviser, as well as a business partner of Mr. Mnuchin. His hedge-fund firm, Paulson & Co., is invested in the two mortgage firms' preferred shares, according to a person familiar with Mr. Paulson's firm.

Fannie and Freddie don't make mortgages but insure them against default. The government took over the companies through a process known as conservatorship in 2008 amid concerns the companies might fail and spark a broader financial panic.

For years, the Paulson firm has lobbied for the government to end the arrangement by which the Treasury Department collects the companies' profits as dividends to compensate the U.S. for its 2008 backstop of the companies, which Mr. Paulson says tramples on investors' rights.

The president-elect himself may benefit if the firms' stocks move. According to a financial disclosure form filed in May, Mr. Trump has invested between $3 million and $15 million in three funds run by Mr. Paulson.

Various classes of preferred shares of Fannie Mae and Freddie Mac have posted gains of more than 33% since Mr. Mnuchin said Wednesday he would seek to end government control of the mortgage companies, a reversal of policy from the Obama administration, which has opposed returning the companies to private control. The companies' common stock rose as high as 60% in trading Wednesday before paring those gains, ending the week up around 20%.

Mr. Paulson was an investor in OneWest Bank alongside Mr. Mnuchin, a banker who served as Mr. Trump's campaign finance chairman. Mr. Paulson co-hosted a fundraiser for Mr. Trump in Manhattan in June and interviewed him in a "fireside chat" on economic policy after Mr. Trump spoke at the Economic Club of New York in September.

"I have not, nor has anyone at my firm, had discussions with Donald Trump or Steven Mnuchin on Fannie and Freddie," Mr. Paulson said in a statement issued in response to questions for this article about his investment.

"Aside from restoring investor rights, we have not taken a position on the future role of Fannie or Freddie."

A Trump transition official, asked for comment, issued a statement about housing finance policy, but didn't address the question of how a Trump policy might benefit advisers like Mr. Paulson.

"Government ownership of these entities creates a systemic risk by encouraging and subsidizing risky behavior on Wall Street and distorting market forces," the official said in a statement. The Trump administration will work "with both parties on reforms that protect taxpayers."

Shares of Fannie and Freddie have nearly doubled since Mr. Trump's election, a sign that investors believe Mr. Trump's administration will be more sympathetic to the shareholders than has President Barack Obama.

"We've got to get Fannie and Freddie out of government ownership. It makes no sense that these are owned by the government and have been controlled by the government for as long as they have," said Mr. Mnuchin in an interview Wednesday with Fox Business Network.

Mr. Mnuchin downplayed skepticism over the challenges involved in returning two companies with around $5 trillion in liabilities back to private ownership. For the Obama administration, "it hasn't been a priority," he said. "Our administration, it's right up there in the top 10 list of things we're going to get done."

Since 2008, the U.S. has injected $188 billion into the companies, receiving a special class of stock in exchange that pays quarterly dividends. The companies' regulator barred them from paying dividends to shareholders.

In 2012, the Obama administration revamped the bailout arrangement with the companies, replacing a fixed 10% dividend on that stock with one that requires most of the firms' profits to go to the Treasury. Several investors, including Fairholme, have sued to reverse that arrangement.

The U.S. has collected $256 billion in dividends since 2009 and has warrants to acquire up to 79.9% of the firms' common shares, worth billions more. Under the existing arrangement, the companies can draw on up to $258 billion in additional capital from the Treasury if needed.

While several lawsuits are still working their way through the courts, the Treasury has significant latitude to revisit the terms of the 2008 conservatorship, including revising the controversial 2012 amendments. The Mnuchin comments suggesting the next Treasury might use that latitude to help shareholders have helped lift the firms' shares.

Allowing the companies to retain more of their earnings could pave the way for striking a deal where the government sells its stakes in the companies, creating a windfall for investors who wagered that the Obama administration and Congress wouldn't ever follow through on the administration's calls to refashion the companies.

Write to Nick Timiraos at nick.timiraos@wsj.com

(END) Dow Jones Newswires

December 02, 2016 20:27 ET (01:27 GMT)

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