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Tickers in this Article: ERX, CFC
I've tried to come up with another name that better justifies its existence, but pending efforts by the White House and U.S. Treasury to freeze ARMteaser rates will be a bailout for potentially millions of homeowners in the coming months - and truth be told, I'm OK with that.

Free-market purists out there will condemn any action taken by the government to interfere with natural markets, but those same markets failed to properly regulate themselves in the writing of so many subprime mortgages on inflated home values, going all the way back to 2003.

Accusations of "overeagerness" for the sake of profit have been put on the mortgage lenders such as CountryWide Financial (NYSE:CFC), ratings agencies such as Equifax Inc. (NYSE:EFX) and the investors who gobbled up high-interest asset-backed securities. (To learn more, check out The Fuel That Fed The Subprime Meltdown and Subprime Lending: Helping Hand Or Underhanded?)

The Plan
President Bush outlined a deal on December 6 that was reached by the Treasury Department in conjunction with a group representing mortgage-based investors. The details may vary slightly, but everyone is on the same general wavelength - freezing lower rates on subprime mortgages for a period of up to five years, and focusing on those borrowers deemed unable to handle the higher payments that their ARM step-ups will put into effect. The White House also asked for the help of Congress in signing legislation to reform the tax code for certain borrowers looking to refinance their mortgage.

Stakes are High
According to Friedman Billings Ramsey analyst Paul Miller, nearly 2 million subprime loans worth an estimated $350 billion will be resetting to higher levels in the coming year.

Many of these will be adjusting higher by a large amount, sometimes $500 a month or more. In order to prevent against another wave of home defaults - which would only add to the current glut of homes for sale - these borrowers will get some assistance in the form of a frozen interest rate or "teaser rate" extension. Without a rate freeze, Federal Reserve officials fear that up to a half million homeowners could default in the next 18 months alone. (To learn more about mortgage resets, see Mortgages: The ABCs Of Refinancing and American Dream Or Mortgage Nightmare?)

Am I More Broke Than You?
One of the big challenges with the proposed "Teaser Freezer" is the plan to only assist homeowners who would surely default if their teaser rate were to reset at current interest rates. Deciding who falls above the line and who sits below will be time-consuming and could slow down the financial assistance to the people most in need.

Another roadblock is the simple fact that with securitization, most loans are no longer held by the institution that wrote them. Instead they are spread across the globe, owned by hedge funds, pensions and large investment shops. Somewhere in the chain, an investor in subprime debt is going to lose money (in the form of lower cash flows), and that could spark more delays and interruptions as the legality of the whole situation is debated.

Will it Help?
This question brings up the long-term effects of the teaser freeze or any further government intervention efforts. To be blunt, I think that absent some kind of assistance to these fringe borrowers, the U.S. could fall into recession by early next year. Not only would every sector of business be affected, but even more government resources would be needed to fund various social welfare programs. Unemployment would rise, and home prices would likely continue to fall, which puts more homeowners at risk.


Parting Thoughts

The chance of a recessions a scenario all investors want to avoid. So, while a "bailout" (or any more pleasant-sounding name) may not please the purists, it should ease the broad fears of investors across all the asset classes. As for the direct players - the investment banks, mortgage lenders, bond insurers, and ratings firms - they will likely see more of a hit to short-term profits, but might have an inroad to a quicker recovery. Investors in these companies have already been hit hard, and should welcome any efforts to hurry the cleanup, and get the profit engine running again.

To read about the causes and effects of the subprime meltdown, see our Subprime Mortgage Feature.

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