Bill Gross, founder and co-CIO of Pimco, recently made comments at President Obama’s forum on how to solve the Fannie and Freddie crisis. Mr. Gross shocked the free market community by proposing that the government roll Fannie, Freddie, and other mortgage agencies into a super mortgage agency named the Government National Mortgage Association.
Really? Why would he support this?
As it turns out, Mr. Gross is the largest owner of mortgage bonds in the country (next to the federal government). He has stated that without the guarantees, he would sell his holdings. Furthermore, the Gross Plan includes new guarantees that would lower the interest rate on mortgages by 50 to 75 basis points (or .5 to .75%).
Bill Gross claims that this would help distressed homeowners refinance and get lower payments. Why do we need to have rates another ½% lower than already historic lows to cause a jump in refinancing? An analysis of the situation reveals the true agenda.
As we have learned from Bonds 101 class, bonds prices and interest rates have an inverse relationship. When rate go up, bond values and prices go down, and vice versa. Therefore, if I own mortgage bonds and mortgage rates go down 50 to 75 basis points, the value of my bonds (and thus my assets) increases. In the Gross Plan, who would be the single largest beneficiary of his plan? The answer is Bill Gross and his company, Pimco.
In fact, the only certainty we can guarantee by the Gross Plan is that Bill Gross would profit. We do not know for sure if mortgage refis would rebound, if the fiscal deficit would not increase, if the government-backed mortgage companies would become solvent, and/or whether or not the taxpayers would get off the hook.
CNBC wrote an article a while back on Bill Gross and his plan. You can check it out here.