Bailout

As a so called public service, rather than just giving the link, I have copied this article from todays LA Times. Perhaps we can have some understanding of some things c overed in the bailout legislation. Worth reading. Also note link at end.

Unbundling unknowns

The so-called mortgage-backed securities that have pushed some of the nation's biggest financial institutions to collapse consists of home loans that were bundled together and sold to investors. Each security is a unique package of loans from different parts of the country, with different borrower characteristics. The potential for unpleasant surprises is ever-present.

"You're always worried that the person selling it knows more than you do, that they've seen something in the cash flows and they know a problem's brewing," said Brad W. Setser, a former Treasury official who is now a fellow at the Council on Foreign Relations.

To take a typical example, consider a $1.7-billion mortgage security marketed by Countrywide Financial Corp. in March 2004.

The portfolio encompasses 7,554 mortgages. About one-fifth are for California homes, most carry adjustable rates and fully one-third are "stated income" loans -- that is, the borrowers were not required to document their incomes.

Evaluating the portfolio requires diving into a 200-page prospectus brimming with tables showing the range of the borrowers' credit scores (more than half with low scores between 600 and 500), the range of applicable interest rates on the loans, the loan-to-value ratios on the underlying properties and 16 other variables, all disclosed to help buyers calculate the likelihood of delinquencies and foreclosures in the package.

A buyer would also want to subject the portfolio to a "stress test" -- model how the delinquency rate might change given movement in housing prices and overall economic conditions.

These factors are likely to enter into Treasury's calculation of the price it wants to pay for the securities. But they're not the only complications.

Another is the need to act quickly. "The difficulty of the task argues for proceeding slowly and building up expertise," Setser said. "But the need to unfreeze the market may demand speed in getting money out the door."



Conflicts of interest

Some provisions Congress added to Paulson's original bailout plan, many of which were ostensibly designed to protect taxpayers' interests, will further complicate the process. The final bill allows government officials to take equity stakes in institutions that sell their troubled assets to the Treasury and impose limitations on executive compensation. Both represent costs that the selling institutions will tend to consider in setting their sale prices on the assets.

Then there's the oversight mechanism Congress imposed. Among other things, it requires Treasury to make the details of every transaction public. That's an admirable effort to create transparency for the bailout program, but it won't make the buying and selling of the securities any easier.

"The financial and political conflicts, together with the prospect of second-guessing, will make this a Sisyphean task," said George L. Ball, chairman of the brokerage Sanders Morris Harris Group and former president of E.F. Hutton Group.

One important consideration will be guarding against conflicts of interest among the government-appointed money managers.

On the face of it, that will be a challenge because bond-trading firms participate in the market for themselves and clients and often manage their own portfolios of mortgage-backed securities. The value of those holdings will be influenced by the prices set through the government program.

The management firms considered likely to seek a role include Pimco, New York-based BlackRock Inc., and Pasadena-based Western Asset Management, all of which manage fixed-income portfolios worth hundreds of billions, including holdings in mortgage-backed securities.

BlackRock is 49% owned by Merrill Lynch & Co., which is being acquired by Bank of America Corp. Merrill has extensive holdings of mortgage securities, which would arguably rise in value if the government pegged its purchases at a relatively generous price.

On the other hand, Pimco and BlackRock also have programs to acquire distressed securities. That means they might benefit if the Treasury purchased similar assets at the low end of the price scale, which might lower the prices the two firms themselves pay.

For those who would like more info go to Fidelity's site
http://personal.fidelity.com/misc/framesets/iwarticle.shtml?pagename=IW080929govtrescue&fca_id=20084343p01