Treasury likely to profit from The Big Fix

I am one of the (few) people who thinks Treasury is likely to make a bundle on the $700 billion "rescue" over five years or so, but it depends on how low a purchase price Paulson can negotiate for all of these mortgage securities. If he pays "full retail", we will lose money, but if he negotiates a hefty haircut (gets the stuff for us wholesale), we could do quite well. The tipping point is that he has to be able to resell houses and mortgages at a significantly lower price than the original mortgage. So, if  the average house price is expected to decline by say 20%, he needs to try to get a 25% haircut. The banks will not like that, but Congress and Main Street will enjoy "sticking it" to Wall Street for a change. OTOH, the need for a steep haircut is only true for mortgages that are actually in trouble, not those that stay current. Treasury will earn a decent income from the "good" mortgages. I am presuming that not all of the so-called "toxic" MBS/CDO is actually defaulting now or likely to default in the near future and that a fair chunk of "toxic" simply means that the risk is unknown, cannot be quantified today, or just a class that people are afraid of based on its name rather than its actual fundamentals or current results. In other words, the vast majority of the "toxic" securities are simply unwanted or are difficult to value rather than being intrinsically worthless if held to term.

I will go so far as predicting that Treasury will end up reselling a huge chunk of the mortgages at a very nice profit. It might simply be that the "packaging" of MBS and CDO is confusing the issue. I strongly suspect that Treasury will be able to adjust the terms of many mortgages so that they in fact become bona fide "conforming" mortgages that Fannie Mae and Freddie Mac can securitize into credible new MBS bonds.

-- Jack Krupansky