Auto Refinance Program
As I wrote about last week, the Fed is certainly expecting some degree of incremental refinancing activity with the recent rally in the long end of the curve. While the degree of overall benefit to the economy can be debated, the recipients of the benefits cannot. Mortgage originators, for a variety of reasons, have made it difficult for the credit impaired homeowner to refinance.
One only needs to take a look at muted prepayment activity in many premium mortgage pools to see the credit impaired nature of homeowners. Despite being almost 200 bps “in the money” many with 6% and higher rates are unable to refi due to high LTV etc. HARP has been an utter failure (despite good intentions), and Banks have no interest in going through the process instead focusing on the most credit worth borrowers.
The option of an “across the board” refinance program was floated in mass during mid 2010 by analysts including former ML legend Harley Bassman. He proposed taking all borrowers that are current and sending a one page form that would automatically refinance the borrowers to current market rates. As of today the average 30yr fixed rate was somewhere between 4.125% and 4.25%.
Despite an initial rush of enthusiasm, the euphoria was quickly tempered as a number of roadblocks were cited including eligibility, put-back concerns, origination fees, etc. The most obvious concern being the massive premium loss to bondholder if these loans were simultaneously prepaid at par.
Obama and Bernanke are running out of options that doesn’t include a massive Government stimulus package, which would certainly initially be met with opposition from deficit hawks. Now bumping up against rising backlash, would Obama & co be more willing to propose this potential political coup? I say yes, and anticipate chatter to pick up once again when it becomes apparent that the credit impaired borrowers are stuck.
Fallacy of ARM Resets
Along with Neg-Am, IO, and other types of “housing bubble” loans, ARM’s have historically been met with comments such as, “…hope they enjoy their teaser rate now, but good luck once that resets…” Consider holders of Hybrid ARMs either lucky or good. These loans typically reset to either Libor or the 1yr constant maturity treasury. With 1m Libor and the 1yr UST both at ~20bps, the borrowers interest rates are almost all resetting DOWN.
An example might be a 5yr hybrid arm originated in 2006 at 1m Libor plus 250. This loan would be up for an initial reset here in 2011 and would reset at 20bps plus 250, or 2.75% – far lower than fixed rates.
With the Fed anchoring ST rates (and periodic caps usually at 1%), holders of hybrid ARMs look to enjoy low rates for the foreseeable future. Whether you consider this a stimulus or temporary reprieve of underwater mortgage holders, these borrowers have certainly been the beneficiaries of current policy.