Final Phonie/Fraudie Thoughts Before Market Decides Fate

After reading 50 PR’s, talking to 20 industry leaders and being on a lengthy investment bank conf call last night this is what I think…

It all comes down to MBS. When they gap narrower do China, Russia and Bill Gross dump them knowing full well Paulson only made an announcement’?  Paulson will be gone in four months and a new regime will be in. The new Treasury Sec has no obligation to this deal. He can erase it.

Furthermore, we know the deal ends in 16 months anyway when the GSE go into run down. Why in the world would old-vintage MBS holders hang on when they can buy new-vintage, explicitly guaranteed stuff soon enough?  The Treasury will only be buying the new MBS they said.  The Treasury will not be in here buying existing MBS today or anytime soon. If you were China, why take the chance of holding past Paulson’s term or past a nice gap this morning?

On the flip side, if this plan does work and  spreads do narrow considerably they can just put the money in Ginnie’s and have no doubt about a guaranty on old MBS.  It makes no sense to hold and pray when you have a chance to get out of this trade with your life and perhaps a profit.  The old-vintage MBS now and never were ‘explicitly’ guaranteed by the Gov’t.  New vintage explicitly are guaranteed.

Perhaps spreads got so ugly last week and the failure was going to be so disastrous for Foreign Central Banks and Bill Gross that Paulson threw a ‘Hail-Mary’ in hopes of bringing in buyers. If that trade does not hold, however, and there are not enough buyers for the mammoth supply held by all of these entities, it all comes tumbling down. There is no follow-up to this. They can’t do a larger announcement. Two bazooka’s are not better than one in this case.

On the equities side, the same goes. After Bear  collapsed they saved the market with real solutions…JPM and the TAF. After Fannie and Freddie collapsed the first time in July, Paulson moved Congress in a week. Those are both big events, perhaps worthy of mega-rallies.

What really happened this weekend? Nothing too positive. Deloitte and Morgan found out that the GSEs were far worse off than everyone has been saying due to accounting fraud and ready to collapse so they had to move early. Just two weeks ago the analysts at the investment banks were saying ‘they were adequately capitalized through year end’.  Just before that, Paulson and Congress told everyone they would never have to take out the ‘bazooka’. Last week Fannie/Freddie CEOs were on saying how strong they were. Now this? Financials have not discounted this.

The fact that this move is just what Paulson said he would do and what everyone expected is a net-neutral. This move has been discounted because for weeks, as everyone has come to the conclusion that the GSEs had Gov’t backing.  The financials have outperformed most other sectors recently. The credit markets never bought it thought. They were right. Stocks were wrong. Stocks already had today discounted. Why should today’s announcement result in a huge rally?

I agree one positive is if spreads do come in and stay, mortgage rates to the consumer could drop.  But if Treasuries get blown out due for a variety of reasons and stay under pressure, mortgage rates will not fall.  Its all relative.

Keep your eyes on those old-vintage spreads. They will tell us everything. If they break, stocks will crack hard and everything else will go along with it.

Also keep your eyes on GSE swaps. Apparently it is just being found out that today’s move does in fact constitute an ‘event of default’ tripping trillions in CDS. I will get more on this later.

This week will be interesting indeed.

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