The main story making waves this afternoon is the presentation by St. Louis Fed's James Bullard titled "Seven Faces of The Peril" in which the Fed president pledges that the Fed should immediately recommence purchasing Treasurys if the deflation scenario picks up, which he notes is an increasingly likely probability. In the paper, Bullard argues that the Federal Open Market Committee’s extended period language may be increasing the probability of a Japanese-style deflationary outcome in the U.S. within the next several years, and concludes that an appropriate quantitative easing policy offers the best hope for avoiding a low nominal interest rate, deflationary outcome. "The U.S. is closer to a Japanese-style outcome today than at any time in recent history...A better policy response to a negative shock is to expand the quantitative easing program through the purchase of Treasury securities.” While of course keeping up a facade that the Fed is in control, Bullard does speculate about the downside case: “The most likely possibility from where we sit today is that the recovery will continue through the fall, inflation will start to move up and this issue will all go away. Suppose we get another negative shock, another surprise. We have to be prepared in that event to have a plan in place to do something." Yet all of this is in the sphere of probabilities of QE2.0 and for now at least, is something to consider in the intermediate future. Yet something far more sinister may be brewing just below the immediate horizon. As Mark Hanson suggests based on speculation by both MS and ML (oddly enough released concurrently, MS report attached below), the GSEs and the FHA may be preparing to imminently launch an instant auto-refi program which would take millions of borrowers to current market rates overnight! In the process $45 billion of consumer savings would be created. Welcome QE 1.999.
More from Mark Hanson:
There are millions of American's with rates much higher than market rates who can't refi due to lack of equity or income needed to qualify for a new vintage loan. Or, because after all of the new vintage loan level adjustments to the rate and fee structure for being less than perfect it makes the current 4.5% rate into a 6% rate taking away any benefit. We have discussed all of this ad nauseum over the past couple of years.
Their solution is to quickly identify all of the borrowers who are making payments on time and send them a one page refi form, which instantly takes their rate to current market. There would be a few other borrower hurdles but not many. The savings to the home owning consumer would be about $45bb per year, more than the cost of the recent extension to unemployment benefits.
This rumor has a lot of credibility behind it -- all of a sudden copycat reports come out from two credible mortgage shops and GSE premium coupons (5.5% to 6.5%) took a beating this morning -- down 4 POINTS on average. This is because these would get crushed if an auto-refi program was announced.
On a side note if this were suddenly announced it would be coupon chaos crushing the massive number of speculators in the premium coupons, which happens to be just about everybody now days.
If this happens expect all those mortgage owners who have never been delinquent to suddenly become huge fans of the Fed, while as a group saving $45 billion: money that will gladly flow into such much needed GDP inputs as iPads and hookers.