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Toxic Exploding Freddie Mortgage Factory To Close

Toxic Exploding Freddie Mortgage Factory To Close

Courtesy of Karl Denninger at The Market Ticker 

Gee, what took you so long?

McLean, VA – Freddie Mac (NYSE: FRE) announced today that on or about September 1, 2010, the company will cease purchasing and securitizing interest only mortgages, including Freddie Mac Initial InterestSM fixed-rate and adjustable-rate mortgages. Additional information will be provided to Freddie Mac Seller/Servicers in an upcoming Single-Family Seller/Servicer Guide bulletin.

Interest only mortgages, including Freddie Mac Initial Interest mortgages, provide for interest-only payments for a specified period of time beginning with the first monthly payment after the note date, and principal and interest payments on a fully amortizing basis for the remainder of the mortgage term.

These "vehicles" are an outright scam for 99% of all borrowers.  Their exclusive proper use is as a bridge loan.

Let me explain.

Let’s say you have a $500,000 house you wish to buy.  An I/O loan for the first two years (for example) at approximately 3.5% (currently) would have an interest-only payment of $1,458.

But when the two years is over assuming the interest rate does not change you now have a 28 year amortizing loan and the payment jumps to $2,329.70 – an increase of about 60%.

This is damn near what you have with an "Option ARM", which is similarly explosive when it has an initial "teaser rate."  For example, the same loan with a 2% "initial teaser" interest-only has an initial payment of $833.33, but jumps to the same $2,329.70 if it resets to 3.5% once the "teaser" is over.

Note that these ARM rates are very cheap too – if rates go up it gets worse – much worse.  Indeed if the rate resets to a fixed 5% then the amortizing P&I on the remaining 28 year term is $2,756.38.

Good luck making that payment if you qualified on the "interest-only" term’s expense.

Freddie (and Fannie) had no business getting involved in these toxic self-immolation devices in the first place as they are intended to do exactly one thing – asset-strip the borrower by forcing him or her to come back after the interest-only period and refinancing.

In an environment where home prices are not advancing, however, such refinancing is of course impossible, which leads immediately to foreclosure.

The not-amusing part of this is that it was the market’s collapse that forced government supported enterprises to stop looting the American citizen.

Say thanks to the government – both past and present administrations – for conspiring with our banks to literally flense the American Citizen for the benefit of Wall Street.


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