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Subprime Rate Five-Year Fix Eyed by U.S. Regulators, Lenders

By Alison Vekshin

Dec. 4 (Bloomberg) -- Federal regulators and U.S. lenders are focusing on five years as the duration of an interest-rate freeze on subprime mortgages, said a person familiar with negotiations aimed at stemming a surge in foreclosures.

Such an agreement would satisfy the shortest fix sought by the Federal Deposit Insurance Corp. That period is longer than the minimum, two- to three-year modifications suggested by Fannie Mae, the largest source of finance for American home loans. The Treasury Department's Office of Thrift Supervision advocated between three and five years.

``Five years sounds about right,'' said Douglas Elmendorf, a former Treasury and Federal Reserve Board official, and now a senior fellow at the Brookings Institution in Washington. ``This is a useful and important step, but it isn't a panacea.''

Treasury Secretary Henry Paulson is finalizing the accord as the housing recession enters its third year and threatens to undo the economic expansion. President George W. Bush and Paulson may announce the plan on Dec. 6, said two people familiar with negotiations.

Officials and company executives have spent much of the past week negotiating over how long to extend starter rates on subprime mortgages, which are usually given to people with poor or incomplete credit histories. Almost 20 percent of subprime loans end in foreclosure, more than six times the number of prime mortgages, according research by the Fed's Boston branch.

Republicans Meet Paulson

Paulson will brief House Republicans tomorrow on details of the plan, Representative Adam Putnam of Florida, the chairman of the House Republican Conference, told reporters in Washington today.

``The Treasury is pleased with the progress that we heard from mortgage-industry participants,'' Treasury spokeswoman Jennifer Zuccarelli said. She reiterated Paulson's comment yesterday that he expected an agreement by the end of the week, while declining to comment on specifics.

About 100,000 subprime loans will jump from their discounted initial rates every month for the next two years, UBS AG estimates. American home foreclosures almost doubled in October from a year earlier as subprime borrowers failed to make higher payments on adjustable-rate mortgages, Irvine, California-based RealtyTrac Inc. said on Nov. 29.

Extending Starter Rates

These mortgages usually begin with a rate of between 7 percent to 9 percent and then reset to between 11 percent and 13 percent. ``What we are talking about is having these loans modified, so they continue for a longer period of time at the starter rate,'' John Reich, director of the Office of Thrift Supervision, said in an interview in Washington yesterday.

Paulson and Fed Chairman Ben S. Bernanke are concerned that falling home values will choke consumer spending, which has driven economic growth since the last recession ended in 2001. By heading off further deterioration in the $11.5 trillion mortgage market, officials are also aiming to stem losses on securities backed by subprime loans.

The Bush administration's efforts to forge an agreement have become more urgent as the economy falters after a third- quarter spurt. Growth may cool to an annual rate of less than 1 percent in October to December, economists say, following an expansion of 4.9 percent in the prior three months.

No `Silver Bullet'

``The number of subprime-mortgage resets is going to increase dramatically next year, and we need to make sure the capacity is there to handle it,'' Paulson said in a speech at a housing conference in Washington yesterday. While no ``silver bullet,'' rewriting a set of subprime loans would ``clearly'' ease the risks from the housing slump, he said in an interview later.

Sheila Bair, chairman of the FDIC, has been working with Paulson and has said she favors extending introductory rates for between five and seven years. The OTS, which hosted yesterday's conference suggested a freeze of between three and five years.

The cap on adjustable rates should last for at least two or three years, Fannie Mae Chief Executive Officer Daniel Mudd told reporters at the same event. ``That kind of number is what seems to make sense.''

Paulson identified four categories of subprime borrowers: those who can afford to pay adjustable-rate loans; those who don't have ``the financial wherewithal to sustain home ownership;'' those who choose to refinance their mortgages -- which he called ``the first, best option'' -- and those who can afford the introductory rate but not the adjusted one. The government is focused on helping the last category, he said.

``We are focusing on this group, determining who they are and what steps may appropriately assist them,'' he said. The plan ``does not, and will not, include spending taxpayer money on funding or subsidies for industry participants or homeowners.''

link - http://www.bloomberg.com/apps/news?pid=20601087&sid=alDRnzsykDOc&refer=home