Futile Congressional Fixes

Story Outline

• Congress is working on another set of "fixes" to the subprime mortgage market.
• In our view, the proposed bills at best do nothing and at worst will have far greater negative consequences than the contained, small problem they aim to fix.
• Because Congress is gridlocked, none of the proposed bills are likely to pass in their current state.

At MarketMinder, we frequently tout the back halves of presidential terms as likelier to be more pleasant for stocks than first halves. You can read more in "Veto Power," 10/04/2007—but it boils down to legislative gridlock and dissipating risk aversion. Politicians tend to get less done (thankfully) in years 3 and 4, and markets rejoice. But the risk politicians will get some wealth-redistributing, property-rights-squelching, free-market-crushing stupidity passed still exists, which is why we observe Congress's latest attempt to "do something" about subprime with keen interest.

Two bills in particular are being hashed out in committee this week. The first is detailed here:

Fannie More
By the Editorial Staff, The Wall Street Journal (*site requires registration)

This bill would allow Fannie Mae and Freddie Mac to increase their portfolios so they can—dum dum dum—buy more loans. Bit of a headscratcher, since Fannie and Freddie can't buy subprime loans anyway—they can only buy conforming loans—so that doesn't really help the problem politicians think they're fixing. It makes no sense, but during the next election, politicians can say, "See! We did something!" Congrats.

Still, a goofy bill that does next-to-nothing is preferably to this doozy:

Bill Would Tighten Mortgage Standards
By Dina ElBoghdady, The Washington Post

This bill would "set standards for what loans should and should not be made nationally." Wow. If that doesn't cut you like an icy, steel dagger, read on.

Among the proposed provisions, subprime borrowers would be allowed to sue the entities that securitized their risky loans, "if their loans violated the principles outlined in the bill." Which, frankly, is insane. Repackaging and selling loans is how lenders offset their risk—allowing borrowers to sue the folks who securitized their loan is biting the hand that provided access to credit. Further, how can anyone do business if Congress can pass a law stating their past actions are now illegal? Why not just put lenders on double secret probation?

Further, the bill proposes minimum licensing standards for bank loan officers. Only a politician would think greater regulation can lead to superior performance. Hey—insurance salespeople are licensed. Stock brokers too! And no one has ever found fault with their stock broker.

This provision is the best—the bill would require lenders to "make loans only to borrowers who can be reasonably expected to repay them." Correct us if we're wrong, but isn't the very purpose of a bank to make loans it expects to be repaid? We'd wager even the most aggressive niche subprime lender had reasonable expectation most of its loans would be repaid. Otherwise, why make the loans?

But that's likely not what politicians mean by "reasonably expected." What they're aiming to do is "prevent" more subprime woes by seriously limiting credit access to only the very best credit risks. Just imagine the discrimination lawsuits! If this bill passes (highly unlikely), five years from now, Congress, without a scrap of irony, will be investigating banks for heartlessly denying loans to lower income individuals.

As ridiculous and potentially harmful as this bill is, there's not much chance it passes—Congress is too gridlocked. Further, we're confident the media will eventually tire of this storyline and most folks will discover subprime doesn't pack the economic wallop most fear—it's just too small.

(Editor's Note: MarketMinder does NOT recommend individual securities; the following is simply an example of a broader theme we wish to highlight.)

While Congress squabbles about the best way to squelch market-based solutions, read this:

Countrywide Offers Help with Mortgages
By the Associate Press, MSNBC.com

Without any government mandate, Countrywide is getting creative to keep customers in homes. When left alone, most corporations will do what they can to right their own ships. Some will be more successful than others, and some firms may not survive, but generally, CEOs aren't interested in losing their own jobs, not to mention leaving thousands unemployed and clients in dire straits. So bicker on, Congress! We're confident nothing will come of it. Thanks for your service.