How Basel III Impacts Mortgage Prices; More Stress Testing for US Banks; 9% Approval Rating for Congress

"Well it's been ten years and a thousand beers, and look at the mess I'm in -
A broken nose and a broken heart, and an empty bottle of gin.
Well I sit and I pray, in my broken down Chevrolet,
While I'm singing to myself, 'There's got to be another way.'"

Caroline Baum with Bloomberg wrote, "It took a fictional jury of '12 Angry Men' 96 minutes to agree on a verdict of not guilty. It took "12 good people," as supercommittee co-chairman Jeb Hensarling referred to them, three months and countless hours to produce ... nothing. Just to put things in perspective, the Joint Select Committee on Deficit Reduction was charged with finding a minimum of $1.2 trillion in savings over 10 years. These wouldn't have been cuts in the normal sense. A salary cut means my paycheck is smaller each month. A deficit cut, in federal budget speak, isn't a reduction in the deficit. The only thing being cut is the rate at which the deficit is growing. Had the supercommittee fulfilled its mission, the U.S. would face cumulative deficits of $3.5 trillion over the next 10 years, compared with $4.7 trillion without cuts, according to projections by the Congressional Budget Office. The deficit grows. The debt grows. Nothing gets cut. Now that the supercommittee has declared defeat, automatic spending cuts (again, in the projected growth of spending) of $1.2 trillion are to kick in starting in 2013."

She continues, "Congress is already busy hatching schemes to prevent this "sequester" from actually happening. Committee members were out in force on the Sunday talk shows, pointing fingers at one another. The good news is, Congress's approval rating (9 percent in one poll) can't go much lower. Come November 2012, the American public may just decide to give incumbents that small share of its vote. While direct blame rests with supercommittee, there's more than enough to go around (in Congress)...If lawmakers had spent as much time considering the Simpson-Bowles Commission's deficit-reduction plan as they do meeting with lobbyists, they wouldn't have had to pass off their work to a supercommittee."

The Federal Reserve plans to stress-test Bank of America, Citigroup, Goldman Sachs, JPMorgan Chase, Morgan Stanley and Wells Fargo against a worsening of Europe's sovereign debt crisis and other hypothetical global market shocks. The central bank plans to publish the results next year. They are clearly worried about the issue of Europe. At least commercial banks and savings institutions insured by the FDIC are making money: they reported an aggregate profit of $35.3 billion in the third quarter of 2011, an $11.5 billion improvement from the $23.8 billion in net income the industry reported in the third quarter of 2010. This is the ninth consecutive quarter that earnings registered a year-over-year increase. "Ongoing distress in real estate markets and slow growth in jobs and incomes continue to pose risks to credit quality," Acting Chairman Gruenberg said. "The U.S. economic outlook is also clouded by uncertainties in the global economy and by volatility in financial markets. So even as the banking industry recovers, the FDIC remains vigilant for new economic challenges that could lie ahead." As was the case in each of the last eight quarters, lower provisions for loan losses were responsible for most of the year-over-year improvement in earnings.

For the geographically challenged, Basel, Switzerland, is in Europe. The Basel Committee on Banking Supervision is a committee of banking supervisory authorities that was established by the central bank governors of several large countries in 1975. It provides a forum for regular cooperation on banking supervisory matters. Its objective is to enhance understanding of key supervisory issues and improve the quality of banking supervision worldwide. The Committee also frames guidelines and standards in different areas. "Under the global Basel III rules, which will be phased in between now and 2019, banks have to hold top quality capital equal to 7% of their assets, adjusted for risk. The biggest banks will also be hit with an additional surcharge of up to 2.5%. Banks in the European Union will also have to hit a temporary 9% ratio next year after discounting their risky sovereign debt holdings." So reports the Financial Times.

But US banks are asking for weakened Basel III rules. Basel III's capital requirements, of course, is one of the reasons servicers (like GMAC) are either shifting servicing values, selling servicing, or deciding they don't want it anymore period. "US lenders are urging financial regulators to ease new international bank liquidity rules as the industry faces a collective shortfall of $1.4 trillion for complying with the new regulations. The Financial Times reports that, "American banks are at a disadvantage to their foreign peers because the regulatory response to the financial crisis limits the kind of assets US companies can use to show they could withstand a 30-day bank run, the Clearing House, the oldest US banking group, argued in a letter to Timothy Geithner, US Treasury secretary a few weeks ago. The package of reforms, known as Basel III, includes a provision that requires banks to hold enough cash-like assets to survive a month-long crisis. Lenders in the US and in Europe have argued that the "liquidity coverage ratio" is too stringent and would limit lending." The Clearing House urged US regulators to relax implementation of the Basel standards because they unfavorably treat debt and mortgage securities issued by Fannie & Freddie. "While cash and sovereign debt can be used to meet the entire liquidity requirement, Fannie and Freddie securities, covered bonds and high-quality non-financial corporate bonds can only count towards 40 per cent of it." Fannie and Freddie securities are generally regarded as more liquid instruments than covered bonds. We have a little time: the liquidity rule will not go into effect until 2015. In response to complaints from lenders, financial regulators agreed to fine-tune the liquidity standards, where needed, by 2013.

Bill R. wrote to me, "When Basel III took over it rigged/leaned the banking systems rules and regulations toward the larger banks awash in global CDS and CDO's.  Left swinging in the wind were smaller banks forced to stand on their own feet, their own balance/income statements without the support of Government bailouts.  This is what the unknowing useful idiots on WS are jumping up and down about."

Across the Pacific, Australia's major banks are preparing to issue covered bonds to enhance liquidity-risk positions as Basel III rules loom. "The two major benefits for Australian banks issuing covered bonds are access to lower costs of funding and a move to a more stable longer-term source of funding," said William Mak, credit-desk analyst at Nomura. "Covered bonds will also have implications for the net stable funding ratio as banks shift to longer-term stable funding required under Basel III liquidity reforms."

Sovereign Bank notified its third party originator clients that effective today it is suspending the current Freddie Mac Relief Finance Open Access Program. Yesterday was the last day to lock a loan, and January 31 is the last day to close a loan.

Home Savings of America, "due to investor requirements," announced changes to its USDA program (geographic restrictions, funding authorization status, and lender fees on refinances), conventional transferred-in appraisals, and gave a VA Funding Fee update. For example, for the USDA program the restriction to limit the LTV has been rescinded in West Virginia, and properties in Mississippi are not eligible for USDA financing (properties in New York or Hawai'i remain currently ineligible). Also, HSOA is no longer limited to a 1% origination fee as the sole income on a USDA refinance. And for conventional loans, "due to electronic appraisal delivery restrictions that apply to applications dated on and after December 1, 2011, transferred in appraisals will no longer be accepted."

The President has signed the Appropriations Bill approving funds for USDA 2012 fiscal year. Please be advised that effective immediately Mountain West Financial is accepting locks under Single Family Housing Guaranteed Loan Program (SFHGLP).  

Citi released its monthly 4-page list of credit overlays to conventional and government products, too long to recite here.

Yesterday's 5-yr auction went well, with the yield coming in at about .94%. But agency MBS prices didn't do much of anything on light selling from mortgage originators. The FOMC minutes proved no surprise as continuing commitment to MBS prepay reinvestment was again mentioned while they did find the time to notice a falloff in CMBS and CRE issuance and funding conditions, per Reuters. But overnight Chinese manufacturing hitting a 32-month low, Dexia concerns threatening France's credit rating (it is rumored that Belgium can't afford to pay for its part of the Belgium bailout), and German markets saw a technical fail for the 10y Bund auction (only garnered 65% interest).

The MBA has already come out with its weekly application index showing that last week's apps were down about 1%. Refi's were down 4% but purchases were up about 8%, resulting in the net drop. The share of refi's compared to totals apps dropped to about 76%. Later in the day we have a 7-yr auction (will anyone be around to bid it?). We have also had Jobless Claims (+2k to 393k), Durable Goods (-.7%, but excluding transportation was up), and Personal Income & Consumption (+.4% and +.1%, respectively). After all that we find the 10-yr yield around 1.93%, about where it closed Tuesday, and MBS prices are roughly unchanged as well.

(Parental discretion advised.)

A new priest, born and raised in Texas, is nervous about hearing confessions, so he asks the older priest to sit in on his sessions.
The new priest hears a couple of confessions, and then the old priest asks him to step out of the confessional for a few suggestions.
The old priest suggests, "Cross your arms over your chest, and rub your chin with one hand and try saying things like, 'Yes, I see,' and 'Yes, go on,' and, 'I understand.'"
The new priest crosses his arms, rubs his chin with one hand and repeats all the suggested remarks to the old priest.
The old priest says, "Now, don't you think that's a little better than slapping your knee and saying, "No $hit... what happened next?"

If you're interested, visit my twice-a-month blog at the STRATMOR Group web site located at www.stratmorgroup.com . The current blog reminds everyone about how government intervention in the housing market is nothing new. If we forget history, we are doomed to repeat it, and it is important to know the last 15 years of the history of the agencies. 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.