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What would have been your strategy? What do you say to the board of directors. What should the shareholders say/do?
A coop in our neighborhood recently sent a letter to all shareholders and related: the following.
All of our reserve funds in our account are currently invested in fully insured CDs and US government guaranteed bonds, all of which are backed by the full faith and credit of the United States. They are invested in a laddered strategy with staggered maturities which matches our projected future cash requirements which will allow them to be held to maturity thus maximizing income without subjecting us to interest rate fluctuation or liquidity risks.
In May and June of 2008, when Federal National Mortgage Association (FNMA) and FHLMC preferred stock were rated by all rating agencies as AAA institutional quality investments, we invested $396,458.16 in these securities; employing a well accepted diversification strategy to increase yield, while trying to minimize risk. Unfortunately, in August, 2008 these investments in Fannie May and Freddie Mac, (as these organizations are better known), were unexpectedly and unpredictably impacted by the general financial situation and, as of October 31, 2008 these securities have combined current market values of $27,920.00.
This segment of the investment is FNMA and FHLMC preferred preferred stock. There is no "maturity value". As far as I can tell these securities are virtually worthless or at the most nil in value.
Wow - a very expensive mistake but they had no choice but to be honest with the shareholders and I would give them credit for the honesty. They must now develop and implement a strategy for rebuilding their reserve funds. We have about $1.5M in our reserve account but have never invested in stocks of any kind. We do have GNMA bonds which are guaranteed, unlike their stock. The rest is all in T-Bills & Notes which are paying very little but the principal is guaranteed. The first item in any board's investment strategy must be to preserve principal - it's much more important in the long run than a potentially higher return.
You don't indicate the size of the co-op or the amount of reserve funds, both of which are relevant. The portion of total reserves which were moved into these securities is critical.
Does the statement "All of our reserve funds in our account are currently invested in fully insured CDs and US government guaranteed bonds" refer to when this announcement was made, or to the time immediately preceding the securities purchase?
If all or most of the co-op's reserves were moved from CDs & bonds into the securities described, then the decimation of reserve funds calls for a lot more than candor: these Board members should apologize to their neighbors & resign. While the law allows Boards to gamble with co-op funds, few shareholders would condone any investment philosophy or action which puts principal at risk.
This presumes that shareholders were not polled on investment strategies, & that these decisions were by Board members alone. If so, they've proven themselves unworthy to exercise their judgment in the common good.
[...and what is your interest, if this is "a co-op in the neighborhood?"]
I'm on the board of my own building and we never ever invest in stocks. A few of my friends are shareholders in the building that dissipated the reserve funds and asked my advice.
Then you know what to tell them: approach the Board members individually & discreetly, suggesting they step down, thereby avoiding the unwelcome fuss of a recall campaign. There's no forgiving an error this big, but avoid any discussion or threat of accountability; on this front, they'll fail [& only create a worse atmosphere than they already suffer].
We are in the process of doing a story on laddering investment, and would love to include this example as a cautionary tale (and also what boards should do). Can you contact me for further discussion?
This is a horrific story, and underscores the fact that Boards should stick with risk-free investments.
It's especially troubling that these investments were made in May and June of 2008. Fannie Mae had reported a loss of $2.2 billion for 1Q08, and the stink was already in the air:
Reuters, Tue May 6, 2008
Fitch Places Fannie Mae's Preferred Stock On Rating Watch Negative
http://www.reuters.com/article/pressRelease/idUS200843+06-May-2008+BW20080506
What led this Board to invest in FNM preferred stock at such a time?
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These are bonds and CDs. You don't expect to cash them in early anyway, and when they reach their due dates, you'll get the full amount. The value of the present yield is meaningless.
I applaud the board for letting share holders know, though I might have added the preceding point.
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