The Jumblog

Okay folks, time to test the metal of the people you elected to lead our country. Fannie and Freddie are officially in the hands of the Federal Government; hopefully they can rectify the one glaring issue that was the main cause for Wall Street banks crumbling before our eyes.

Wall Street (and most investors) loan their money based on risk vs. reward. A buyer with an 800 credit score and 20% down is less of a risk to a lender than a buyer with no documentation, no money down, and a seller paying their closing costs. Therefore, a loan to this riskier buyer should come to the investor with a higher interest rate, or rate of return. 

When your loan is funded, the original money for settlement comes from the Mom and Pop Credit Union. They provide the funds to pay the seller off and make the closing happen. However, Mom and Pop rarely service the loan and collect your payments every month. 99% of the loans are re-sold within a few days to Fannie Mae. Fannie then packages the loans together and sells them as securities to Wall Street banks, with the payoff being the monthly payments each buyer makes on their mortgage.

This is not a bad thing; it frees up money for the lenders to loan and for buyers to purchase homes, and keeps the machine going. However, there is no transparency in the securities that these two companies bundle and sell to Wall Street. A) The investor is buying a cardboard box and does not know the contents, and B) where are the competing companies that can do this by their side and create the type of competitive market that America thrives on?

The problem over the past few years was that not only were loans made to less qualified buyers, but these “less credible” loans were packaged by Fannie with the “A” paper when they were sold!! So now you have these banks buying securities of mixed grade or quality. What happens when the lesser quality loans start imploding? It takes the value of the whole security down with it! Lehman, and Bear, and these other banks are not holding paper on 100% of the junk loans in the US. However, they are getting caught up in the junk because of how they were originally packaged together.

Fannie being able to package and sell these loans is part of what makes the lender market liquid. And this needs to continue to happen for credit to be available. How hard is it to regulate that like quality mortgages need to be bundled together? And they are not allowed to slip in the crap any more! Didn’t the SEC apply Blue Sky regs on the security industry on the 1930’s? Mortgage securities are only 70 years behind!

This transparency would allow the banks buying the securities to have a more accurate picture of what they are buying. And there will be banks that will buy the higher risk securities, because they will have a higher return and be willing to take the risk for that return. And if no one is willing to buy them, then the lenders will not write them any more.

This is one of the reasons we are seeing the death of the individual mortgage broker. They do not fund their loans, they sell them off. Or they fund them for two days and then sell them to Fannie. They were always around to do the tougher loans that did not fit into the perfect specs of the programs of the larger lenders. But now the lenders will not touch these buyers with a ten foot pole! And the brokers would not dare hold the loan and service it themselves… they know the dynomite they are packaging together for these higher risk home purchases.

So the poor quality buyers can’t get loans anymore, and most of the mortgage brokers are moving to the banks or waiting tables. But there will always be higher risk buyers purchasing homes. So what’s left? The government regulating that there be transparency in these packaged mortgages! The investor need to know exactly what they are getting, so that they can decide if the reward is worth the risk! Would you buy a mutual fund if you did not know all of the stocks it had inside? And how would you feel when you find that that 50% is in IBM, Microsoft and Google – and the other 50% are in penny stocks that could go bankrupt at any time!!

This needs to be addressed now, while the policies and regulations are being set up to run Fannie/Freddie. If this poorly thought out policy continues, than we are just putting a band aid on a deep cut that needs stitches. Eventually, it starts gushing again if it is not take care of…