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Op-Ed: Fed Throws Refinancing Party; No One Shows Up


Government's artificial inflation of mortgage coupons does nothing to solve crisis.

Editor's Note: Tom Fant is Vice President of Trading at Atlantic Advsors, where he works under Minyanville Professor Bennet Sedacca. As a member of Morgan Stanley's mortgage portfolio management team, he was responsible for determining portfolio strategy and trade execution for over 200 institutional accounts with more than $50 billion in mortgage-backed securities. This is his first article for Minyanville.

Well, you've got to hand it to Uncle Ben (Federal Reserve Chairman Ben Bernanke): He's not afraid to take on Goliath. The Fed announced last week that it will purchase $500 billion in mortgage-backed securities in an effort to lower mortgage rates.

If you feel like you've seen this movie before - you have. In early September, the Treasury Department announced a similar program to buy mortgage bonds on the open market. The Treasury and the Fed have approximately $1 trillion earmarked to buy agency mortgages. The problem: It's easily a $5 trillion market.

I'm not complaining: My firm has been buying agency mortgages for some time now, and maybe Bernanke saw the same cheapness in them that we did (6+% yields, low interest-rate risk, high credit quality). But it's more likely that he's trying to generate a refinance wave. That's pretty much the only thing the Fed can do to help you and me, right?

Yes, you've seen this movie before too. Remember back in 2003, when Ben and "Easy" Al Greenspan lowered the fed rate to 1%, and you refinanced your 6.5% mortgage to a 5% mortgage and started saving hundreds of dollars every month? Good times indeed.

So a whole bunch of people took out adjustable rate mortgages. These weren't 5-year fixed rate, then switch to floating rate hybrid ARMS (although many were). These were exploding ARMS with a 1% "teaser rate," zero down payment, and some really unscrupulous mortgage broker winking and saying:

"Just tell me you make over $650,000 a year. Oh - and since you're taking out a mortgage, you may as well take all the equity that your home magically accumulated after it was appraised it for twice what you paid for it only a year after purchase."

Fast forward to the present, where Ben wants to take us back to the glory days by purchasing enough bonds to keep the mortgage rates low. (Wait, shouldn't I say "artificially low"?) I mean, isn't the market supposed to determine long-term rates and mortgage rates?

Maybe the Fed and Treasury are big enough to manipulate a $5 trillion market that produces a net new $50 billion every month of new issuance - but I tend to think markets eventually get to where they're going to go. The government is basically buying 18-20 months worth of mortgage origination.

But what if there's net selling? Some of the institutions holding these bonds (like Asia) have been underwater so long they're starting to grow gills. If the government keeps pumping up the market some people (like me) might begin selling into their bid.
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