Fixed Income Recap

Treasuries
Treasuries again benefitted from a weak stock market. The safety trade was in full effect today, dominated by overseas buyers.

The two-year finished up 1/8 of a point while the ten-year was higher by about 1.375 points as the benchmark curve flattened by 11 basis points today and stands about 12 basis points flatter for the week. A basis point represents .01%.

Today was the biggest compression in spread between the two- and ten-year since February 17th, a day the S&P was down 4.5%.

MBS
Late yesterday Freddie Mac announced it is waving fees for high LTV, low FICO score loans they guarantee. This is no joke. Fannie hasn’t announced such a move, but one is expected considering they have been moving in lock step since they were taken over.

These are the same fees that they were scheduled to increase due to the added risk of guaranteeing riskier loans. Not only is the government forcing extra risk onto Fan and Fred, but they are now prohibiting them from collecting a fee for their services. I just don’t understand it.

Fannie and Freddie Senior debt and MBS on the other hand, are trading as if the standalone solvency of the agencies doesn’t matter. The government is dead set on keeping Fannie and Freddie strong in order to use them to strengthen the mortgage market. These actions will just require more backing from the taxpayer in order to do so.

President Obama’s “Making Home Affordable” Plan
A lot of speculation pertaining to this plan has been making its way around the market, and now that the official plan has been released much of the speculation has been affirmed. The plan has two main parts. The first is aimed at helping homeowners who have no equity, but are still current, refinance their mortgages to take advantage of lower rates. The second plans to modify delinquent loans of borrowers who have mortgage payments greater than 31% of their gross income. Loan value must be under $729,750 in order to qualify for either section of the plan.

The first part of the plan uses 105% LTV as the cap for the loan to qualify for refinancing, but that number ignores what could be borrowed on a second mortgage or HELOC (Home Equity Line of Credit). The secondary mortgage must remain subordinated to the first lien, but there is no cap on total LTV. In other words, a second mortgage cannot be wrapped into the primary under this refinancing program and will largely be ignored when considering whether a borrower qualifies for government assistance.

The second part of the plan uses government subsidies, $75 billion pledged so far, to lower the interest rate and create financial incentives for both the borrower and lender to modify the loan. These loan modifications will bring mortgage payments down to a target level of 31% of gross income for borrowers who are delinquent. Unlike the first part of the plan, there is no cap on LTV for modifications.

Have a great evening.

Cliff J. Reynolds Jr.
Junior Analyst