Obama’s Plan for Toxic Assets

Yesterday the Obama Administration revealed their three-part Public-Private Investment Program to clean up so-called toxic assets off bank books. Here’s the plan.

Part 1 – Bundling Whole Mortgages

Under one component of the plan, the Federal Deposit Insurance Corporation (FDIC) will provide oversight for a program of bundled mortgages. Banks will group whole mortgages together to sell to private investors. The FDIC will then auction these off. Making the investment attractive is the fact that the government would lend up to 85% of the purchase price for each portfolio of mortgages. (See my post on leverage from last week.)

Part 2 – Pooled Mortgages

While the bundling plan is for whole mortgages, another component of  the plan deals with those mortgages that have already been cut up and used to back derivatives. The Treasury will help finance the purchases of unwanted mortgage-backed securities. These are the pools of mortgages that have been packaged into bonds with a credit rating.

Part 3 – Term Asset-Backed Securities Loan Facility (TALF)

Buying up the bundled mortgages and pooled mortgage back securities are expected to take care of $500 billion to $1 trillion worth of troubled assets, according to Treasure Secretary Timothy Geithner. Another $1 trillion will be available through the Term Asset-Backed Securities Loan Facility, or TALF.

This joint venture with the Federal Reserve, which was originally created to finance new consumer and commerical lending, has been expanded to included financing the purchase of existing troubled mortgage-backed securities.

Non-Recourse Loans

All three programs offer non-recourse loans from the government. This means the loan is secured only by the underlying asset. If the borrower defaults, the government takes the real estate and sustains the loss.

Taxpayers will win if the borrowers do not default and continute to pay the interest, and also if the “toxic” real estate rises in value.  And we’ll all win if the move does what it’s really supposed to: stabalize the economy.

Image Source: Newscom