MBS MID-DAY: Path of Least Resistance

(WSJ) - The International Monetary Fund Wednesday forecast a slow pick up in U.S. growth over the next half-decade, with continuing housing market woes, high unemployment and its budget problems weighing on the economy. In the fund’s annual review of the U.S. economy, the IMF also warned the U.S. risks losing credibility in the debt markets, potentially causing a sudden spike in the cost of debt and a downgrade by rating agencies. “Fiscal policy consolidation needs to proceed as debt dynamics are unsustainable and losing fiscal credibility would be extremely damaging,” the IMF cautioned. Besides reining in entitlement spending and reducing tax expenditures, the fund also proposes that the U.S. raise revenues through a national tax. In addition to the impasse on debt talks, the risks of the housing market and persistently high unemployment undermining a weak recovery have also increased since last year, the IMF said. Fund staff said there is the possibility of further house-price declines, said there is merit for further policies to ease the housing-market adjustment. Options recommended by the fund include allowing the terms of residential mortgages to be changed in courts and encouraging the government’s housing programs to participate in principal write-downs. Unemployment is expected to slowly fall, from 8.9% this year to 8.4% in 2012 and 7.7% in 2013. The fund said the protracted high unemployment calls for a re-examination of the existing job-training programs, warning that with more than 40% of the unemployed out of work for six months or more, there is a good chance of permanent loss of work skills. The IMF said the Federal Reserve‘s extraordinary monetary policy accommodation will likely remain appropriate for “quite some time,” but cautioned the central bank needed to be prepared to act fast in response to unhealthy inflation moves.

Investors paid little attention to this report, Greece headlines and the quarter-end are the main focus of market participants right now..... Pending home sales rose more than expected in May with all regions experiencing gains from a year ago. The Pending Home Sales Index, a forward-looking indicator based on contract signings, rose 8.2 percent to 88.8 in May from an upwardly revised 82.1 in April and is 13.4 percent higher than the 78.3 reading in May 2010. Economists surveyed by Reuters were expecting home resale contracts to rise by 3.8 percent in May. The data reflects contracts but not closings, which normally occur with a lag time of one or two months. This is the first time since April 2010 that contract activity was above year-ago levels, and the monthly gain was the strongest increase since last November when the index rose 10.6 percent. Lawrence Yun, NAR chief economist, said the improvement bodes well for home prices. “Absorption of inventory is the key to price improvement, and this solid gain in contract signings implies that home values in many localities are or will soon be stabilizing as inventories get absorbed at a faster pace,” he said. “Some markets have made a rapid turnaround, going from soft activity to contract signings rising by more than 30 percent from a year ago, including areas such as Hartford, Conn.; Indianapolis; Minneapolis; Houston; and Seattle.”

(Reuters) - Greek Prime Minister George Papandreou won a parliamentary majority in favor of a five-year austerity plan on Wednesday, clearing a major hurdle in Greece's bid to win access to international funding to avoid default. With voting still continuing, Papandreou's Socialist government had already reached the 151 votes it required in the 300-seat chamber to secure the passage of the framework law. It must now win approval on Thursday for legislation detailing specific implementation measures for the 28 billion austerity package.

If Greek headlines are confusing you, don't worry, our brains hurt too. This is what we know...Greek Parliament is preparing to vote on whether or not they'll take another vote tomorrow. Basically what today's vote represents is a broad acceptance of a medium-term austerity plan. If it passes, which most expect it to even though many Greek lawmakers dislike it, Parliament will begin voting on individual clauses and the implementation strategy tomorrow. While the market has clearly baked in a "yes" vote today, tomorrow is a little less certain but it does appear we'll see another yes vote once all is said and done. This should give the EU, ECB, and IMF enough confidence to free up the 5th installment of Greece's bailout funds. Default avoided for now....but Greece is still "kicking the can down the road". The chance of a Greek default is not gone with two yes votes over the next two days.These votes simply cover short-term funding shortages. However, until these bailout funds are paid back, without a huge uptick in GDP growth, their solvency is still up in the air...and so is the potential for default. With many Greek lawmakers muttering under their breath about how unfair these austerity measure are...political gridlock is going to be an issue the next time Greece needs to pay the piper.

(WSJ) - Bank of America Corp. agreed Wednesday to pay $8.5 billion to settle claims by a group of high-profile investors who lost money on mortgage-backed securities purchased before the U.S. housing collapse. The payment will be the largest such settlement by a financial-services company to date, exceeding the total profits of the Charlotte, N.C., bank since the onset of the financial crisis in 2008. The settlement ends a nine-month fight with a group of 22 investors who hold mortgage-backed securities originally valued at $105 billion, including the giant money manager BlackRock Inc., the insurer MetLife Inc. and the Federal Reserve Bank of New York. The deal could embolden mutual-fund managers, insurance companies and investment partnerships to seek similar settlements with other major U.S. banks by arguing that billions of dollars in loans they bought before the housing collapse didn't meet sellers' promises or were improperly managed. The dispute between Bank of America and the mortgage investors began last fall when they alleged in a letter to the bank that securities they scooped up before the financial crisis from Countrywide Financial Corp. were full of loans that didn't meet sellers' promises about the quality of the borrowers or the collateral. The investors also alleged Countrywide failed to maintain accurate files while managing the loans. Bank of America purchased Countrywide in 2008 for $4 billion. Bank of America will hand $8.5 billion in cash to Bank of New York Mellon Corp., which acted as the trustee for the bondholders and will distribute the funds to the investors. Bank of America will take a corresponding pretax charge against earnings for the second quarter. The after-tax cost to the bank will be roughly $5 billion. The charge will increase the chances that Bank of America will report a loss in the second quarter.

(Reuters) - Applications for home mortgages slipped last week as demand waned, even as mortgage rates dropped, an industry group said on Wednesday. The Mortgage Bankers Association said its seasonally adjusted index of mortgage application activity, which includes both refinancing and home purchase demand, fell 2.7 percent in the week ended June 24. The MBA's seasonally adjusted index of refinancing applications fell 2.6 percent, while the gauge of loan requests for home purchases lost 3.0 percent. The refinance share of mortgage activity increased to 69.5 percent of total applications from 69.2 percent the week before. Fixed 30-year mortgage rates averaged 4.46 percent in the week, down from 4.57 percent.