Feedback on Potential Housing Bailout Programs

Don't you always wonder how much the guys standing at the stoplights take home, tax-free? It is a little farcical, but: HowMuchTaxFree?

A doctor examining a woman who had been rushed to the Emergency Room took the husband aside and said, "I don't like the looks of your wife at all." "Me neither doc," said the husband. "But she's a great cook and really good with the kids." Life often involves dealing with misunderstandings and confusion, and the rumors surrounding a mass refi plan certainly fit into that category. In general markets trade off of future prospects and the prospects of a huge government-sponsored refi plan is roiling the markets. (I even set out some more in-depth thoughts at MassRefi.) Any plan must help a broad group of homeowners, stimulate the economy, and cost next-to-nothing.

One trader mentioned that, "after HAMP and HARP the U.S. is now ready to launch a new program called Helping Underwater Mortgage Performance" and that the market "went toxic after it heard that Obama was getting "REFI.GOV" vanity plates for his new limo." As one would expect, the prices of premium/older production are suffering compared to current/rate-sheet production. Yesterday, for example, Fannie 6's (containing 6.25-6.625% 30-yr mortgages) were down .5 in price versus Fannie 4's which improved nearly .250.

One proposal would allow millions of homeowners with government-backed mortgages to refinance them at today's lower interest rates, which in turn would lower their mortgage bills and, in theory, help the economy since they'll take the money and spend it elsewhere. Homeowners who have been unable to refinance their loans either because they owe more than their houses are now worth or because of bad credit. Other suggestions include a large-scale home rental program that would keep foreclosures off the market. What is lacking, of course, are any concrete details about any of this. Items such as how delinquent borrowers would be treated versus on-time borrowers, who would administer the program, and how would investors be made whole are immense issues.

In the meanwhile teams of researchers at all the investment banks are sending out educated guesses as to the pros and cons of various plans. (I bet this is what they really live for!) How are reps and warrants for existing loans handled? What about non-government loan borrowers? If borrowers who have their loans modified, or refinanced, stop making their payments, can investors go back to originators under buy back provisions? When did HARP become a verb? ("If you HARP these seasoned loans you are exposed to new put-back risk. If these borrowers default in their current form, it is very difficult for the agencies to put them back given servicers can argue the loans have been paying for 3+ years and therefore were issued as clean loans. However, once its HARPed that argument is no longer applicable and they are exposed to new put-back risk.") And with Republican control, what are the odds of anything like this happening?

It seems that conjecture is focusing on basic plans. One is to make a low mortgage rate available to all borrowers. Another is a blanket settlement between originators and FHFA that settles all existing and future reps and warranties liabilities, and the originators will just be agents for the GSEs and will not be responsible for the credit performance of HARP refied loans. Another option is an expansion of HARP which will remove the origination date restriction for HARP eligible loans, thus allowing borrowers to do HARP multiple times and will make recent production HARP eligible. And the last seems to be implementing parts or all of the changes in Senator Boxer's bill.

An analyst wrote, "I'm not sure I understand the economics/logic of a streamline refinance program. Assume for the moment that borrowers with high LTV's, i.e., LTV's >100%, a result of home price decline, could do a rate and term refinance from say 6% to 4.25%. Assuming an average remaining term of 25 years, the monthly P&I payment would drop by 16%. So, in real economic terms, how worse off is FNMA or Freddie? Before the rate/payment drop, the lender/investor has a loan on the books that is underwater and at high risk of default. After the drop, while the loan is underwater by the same amount, cash flow has dropped but the probability of default has arguably declined. Now I know that studies show that negative equity is the key driver of default, but I would argue that although the borrower's equity position has not change the borrower's perception of the situation has. Once a borrower is in a deep negative equity position, they probably view their monthly payments (after tax) as rent, not as payments on an investment. So, a drop in monthly payments is like a drop in rent which improves their likelihood of continuing the lease. Does the reduced likelihood of default compensate for the reduced cash flow? I haven't analyzed this but I bet it's significant and for some borrowers actually increases the economic value of the loan. And, the same argument would apply to loans in securities."

Yesterday's commentary discussed HUD's note about the implementation of UAD. I should clarify that this is from HUD (mostly FHA), not Fannie & Freddie. I received a few notes: "In the newsletter you mention that UAD has been pushed back to Jan 1, 2012 per HUD mortgagee letter 2011-30.  Although HUD has pushed the implementation to 1/1/12, to the best of my knowledge FNMA and FHLMC are still implementing UAD as of Sept 1, 2011." "The UAD implementation date for the GSE's is still September 1, 6 days from now.  Everyone managing this process, including the aggregators, has been waiting on HUD's policy concerning UAD.  The word from HUD was that they were going to adopt UAD requirements, but didn't specify when.  The mortgagee letter addresses HUD's acceptance of UAD and their requirement for appraisals with a case number assignment date of January 1, 2012.  This doesn't push back the GSE implementation date."

Yesterday the commentary noted a memo from Flagstar regarding 4506-T requirements. In turns out that Flagstar sent out another memo: "Effective with underwriting submissions on or after September 1, 2011 the 4506-T Execution Criteria have been updated for conventional loans to reflect that one year of tax transcripts results are required, or the most recent two years results if required per AUS findings. For Delegated underwriting customers, these requirements are for all loans delivered on or after September 12, 2011. Please note this excludes Freddie Mac Relief Refinance, Doc. #5354, which does not require results."

But while we're on Flagstar, it announced that on August 18 the NYSE provided notice to the Company that it did not satisfy one of the NYSE's standards for continued listing applicable to the Company's common stock. More information on the status, and how it can be repaired, can be found at: NYSEFlagstar.

The stock and bond markets had plenty to chew on yesterday, between Steve Jobs leaving, Berkshire Hathaway's purchase of $5 billion of BofA equity, and the conjecture on everyone with a government loan suddenly ratcheting down their mortgage rates. (Would we be talking about this if the employment picture was better? MBA's chief economist Jay Brinkmann stated in a press call on Monday that increasing employment was the most important thing that the government could do to help the housing market.) Thursday we were reminded that hedging "like for like" makes sense: Fannie 3.5's were better by about .375 in price, but Fannie 4's (with 4.25-4.625% 30-yr mortgages) were only better by .125. The 10-yr ended the day around 2.22%.

You're An EXTREME Redneck When... (Part 1 was yesterday; part 2 today)

9. Your junior prom offered day care.

10. You think the last words of the Star-Spangled Banner are, "Gentlemen, start your engines."

11. You lit a match in the bathroom and your house exploded right off its wheels.

12. The Halloween pumpkin on your porch has more teeth than your spouse.

13. You have to go outside to get something from the fridge.

14. One of your kids was born on a pool table.

15. You need one more hole punched in your card to get a freebie at the House of Tattoos.

16. You can't get married to your sweetheart because there's a law against it.

17. You think loading the dishwasher means getting your wife drunk.

If you're interested, visit my twice-a-month blog at the STRATMOR Group web site located at www.stratmorgroup.com . The current blog takes a look at the recent news sweeping the MBS investor market regarding a new mass refi plan by the government. If you have both the time and inclination, make a comment on what I have written, or on other comments so that folks can learn what's going on out there from the other readers.