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Questions About New Mortgage Debt Buyout Plan



Investors are supporting the government's plan to provide relief to the banking industry in regards to their overwhelming delinquent mortgage debt. They are, for the time being, it seems, putting aside their reservations about asset pricing and the question of if they will be seen as evil for profiting from the misfortune of struggling homeowners across the country. The President's team said the other day it is hoping that larger asset managers will purchase distressed real estate loans and mortgage backed securities from the banks so that they can acquire capital and increase lending. Officials are providing $100 billion in capital in the hope that, combined with Federal Reserve and FDIC financing, one trillion dollars in mortgage debt will be bought up by banks. Wall Street saw sharp gains as experts predict the plan to help bring an end to the global recession, really the first since the second World War. Several equity firms that have expressed interest in increasing their mortgage debt securities have reported significant rises in value. The S & P 500 Stock Index rose more than 7% the other day and the S & P 500 Financial Index a whopping 18%.

Up until now, investors wishing to buy mortgage backed securities and subprime mortgages have found it difficult to acquire financing to do so. This has limited the potential return on such investments which also limited how much the investors were willing to bid. The plan to provide financing is likely to increase bids 4 to 16 percent higher according to analysts. Skeptics of the plan point out that it fails to address the issue of whether banks will be able or willing to unload these assets for a loss. Banks could be subjected to additional writedowns should they have to sell mortgage related assets at below face value. Some banks may then need to raise even more capital in order to cope with the losses.

Critics of the plan say that this issue was what derailed the first attempt last October to provide Federal Aid in this area. Half of the $100 billion outlined in the plan will be handed over to a "Legacy Loans Program" under the supervision of the FDIC. The Treasury would provide half of the capital, the rest coming from private fund managers. Financing will be guaranteed by the FDIC up to six times whatever equity the investors provide. There will also be FDIC held auctions for the pools of loans which the private investors will control and FDIC will oversee. The other half of Treasury's capital will be dedicated to the "Legacy Securities Program". This program is designed to raise the prices of mortgage related securities that have ceased trading because investor confidence in their value has waned. Some investment firms have expressed plan to create mutual funds out of the mortgage debt to allow smaller investors to take part.

Officials have said that investors who participate in the mortgage debt buyout plan would not be subject to the same compensation restrictions that apply to banks rescued by the government. Many analysts are skeptical of that promise due to mounting public pressure over the massive bonuses paid to executives at AIG after their recent Federal bailout.


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