Housing Sector Hangs by a Thread Despite Rock-Bottom Rates

The HPC, part of the Financial Services Roundtable, a financial industry lobbying group, has advocated replacing Freddie and Fannie at some point in the not-too-distant future by new private-sector enterprises that would be known as Mortgage Securities Insurance Companies. MSICs would provide the same liquidity to the mortgage market as the GSEs do, except without the implicit government guarantee.

While MSICs would not be backed by the government, the HPC's proposal calls for the government to provide an "explicit" backup-guarantee directly on mortgage backed securities that are insured by the MSICs, John Dalton, HPC president said recently during a roundtable sponsored by the Smith School's Center for Financial Policy.

"To be clear, this catastrophic guarantee would not apply to the MSICs themselves; it would apply only to the [mortgage backed securities] that they guarantee," Dalton said. "Without such a guarantee, investors in MBS will seek other investments, and as they do so, the level of funds available for housing finance will be reduced and the cost of mortgage loans will increase."

The proposal, which, according to the HPC's Leonard, has gotten positive response from Wall Street banks, would open the door for a new kind of mortgage lending behemoth but limit the government's guarantee to a form of "catastrophic reinsurance," covering interest and principal payments on MBS only after all private capital backing an MBS is exhausted.

Gilbert Leistner, a Swiss-based financial industry consultant and a member of the Chicago Board of Trade, has a more blunt approach for dealing with Fannie and Freddie: "Euthanize them," he said.

Kevin Duffy, co-founder of Bearing Asset Management in Dallas, said his firm, which has $75 million in assets, began shorting Fannie eight years ago when shares traded around $70, and Freddie when it was around $50.

"They are hemorrhaging right now and the taxpayer is keeping them on life support," he said. "You have a sliver of equity on a mountain of debt. They need to be put down. Sever all ties to the government and let the private sector run the mortgage market, painful as that will be."

Mortgage rates may spike, Duffy said. But they are now as low as any time in a half century. Rates have nowhere to go but up, anyway.

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