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Paulson's 4.5% Mortgage Plan

Written By Brian Hicks

Posted December 4, 2008





Ok I’ll admit it this one has taken me a bit by surprise. In fact, when I heard it yesterday for the first time I nearlty fell out of my chair.

But no matter how far off my radar a 4.5% mortgage has been, at first look the latest mortgage rumor is nothing less than a game-changer. 

And while it wouldn’t  be enough to put a permanent floor under housing, it could be enough to generate a massive do-over in the mortgage world. That to me would be a net positive—provided they managed to get it right this time.

That’s because as home owners everywhere refinanced to lower rates the number of good loans would go up, while the number of bad loans would fall right off those troubled bank balance sheets. 

And after watching the yields on 10 Yr. Notes absolutely fall off the table in the last two weeks the idea may not be as crazy as it sounds.

Here’s why.

Historically, 30 Yr. mortgage rates have been priced about 175 basis points(bps) above 10 yr. note yields. But with the credit crisis those spreads widened to well over 200 bps. keeping rates high.

However, last week those same spreads fell back to 175bps. That means that now that 10 yields have also fallen a 4.5% mortgage rate is actually in range if the downtrend in yield continues.

In fact, as of today 10 yr. yields are paltry 2.6%.  And if the Fed’s “qualitative” easing can keep them there or push them lower a 4.5% rate could become a reality.

Of course, at this point it is all nothing more than a guessing game what the real plan will look like and how it will work.

Even still this is one idea that could fundamentally tilt the current balance.

Until then here are the sketchy details so far.

From CNN Money by Tami Luhby entitled: Treasury mulls plan to lower mortgage rates to 4.5%

Lobbyists are pushing the Treasury Department to consider a plan to purchase mortgage-backed securities in the hopes of driving mortgage rates to as low as 4.5%, an industry source said.

Similar to an effort unveiled last week by the Federal Reserve, the proposal calls for Treasury to buy securities backed by 30-year fixed-rate mortgages from Fannie Mae and Freddie Mac. Details on the plan remain sketchy, but an announcement could come as early as next week, the source said.

The increased demand for mortgage-backed securities would prompt mortgage rates to drop. That, in turn, would enable homeowners to refinance into lower-cost loans and make it cheaper for potential homebuyers to get into the market.

Spokeswomen from Treasury and the Federal Housing Finance Agency, which oversees Fannie Mae and Freddie Mac, declined to comment.

Last week’s Fed move drove mortgage rates down to 5.5%, from 6.06% a week earlier. The Fed said on Nov. 26 that it would purchase up to $500 billion in mortgage-backed securities from Fannie, Freddie and Ginnie Mae, and that it would buy another $100 billion in direct debt issued by those firms.”

Needless to say it will be interesting to see how all of this turns out.

But I will tell you this, if it happens the banking picture could rapidly change.