Ginnie Mae is said to be wide-eyed in hopes of forming its own hybrid adjustable-rate mortgage securitization products pending new legislation that gives the Federal Housing Administration permission to insure hybrid ARMs.

A provision in the Homeownership Bill (HR 1776), recently passed by the House of Representatives, would give FHA the go-ahead to do so.

The Bond Market Association has also formed a task force to discuss the creation of a conventional hybrid to-be-announced market, in which pools consisting of Fannie Mae and Freddie Mac hybrid loans would be able to be traded, rather than have each pool be treated separately.

While HR 1776 is passing through channels in Congress, Ginnie Mae has started formulating how FHA-insured hybrids could be securitized. "It does appear that Ginnie is very interested in looking at a hybrid ARM securitization product," said one source who wished to remain anonymous.

It has been rumored that Rob Fry, director of Ginnie Mae's capital markets division, has asked to serve on the Bond Market Association's task force. Fry was unavailable for comment.

The Hybrid Liquidity Problem

"Hybrid ARMs aren't as liquid as they should be," said Art Frank, director of mortgage-backed securities research at Nomura Securities. "They tend to trade cheap to fair value. If you compare them to balloons they tend to trade on the cheap side, partly because it's all pool specific."

The Association's committee is hoping to put an end to that liquidity problem. "And that's what the committee is doing, is to create standards for the origination of pools," said Evan Firestone, a director of mortgage research at Merrill Lynch and a member of the committee.

"Which would then enable traders and investors to treat the pools as fungible and interchangeable. That leads to a dramatic difference in the liquidity of the product, because you're not looking at each individual pool any more, you're looking at all the pools that meet a certain set of criteria."

George Miller, deputy general counsel for the Association, hopes to have some standards on paper the next time the committee meets. "We're going ... to reach agreement on the basic features or terms and characteristics of what we would jointly propose as being standard features or characteristics at both the loan and the pool level for that marketplace."

Ginnie Mae Sets Standards

It was Ginnie Mae back in the late 1960s and early 1970s that standardized the fixed-rate mortgage-backed securities TBA market and Ginnie Mae may once again pioneer a market.

"The relative success of the Ginnie Mae ARM product is because of its standardization," said Firestone.

"Ginnie Mae and FHA have a very standardized product, so they can be traded on a TBA basis." He added that the agency would have to do some work to create hybrid TBA parameters.

If HR 1776 becomes law, and a sizeable hybrid ARM market develops, Frank believes that they would make a "nice alternative for those FHA mortgages."

"If our work proceeds on the conventional side in a certain way, then it might make sense for FHA hybrids to follow a similar type of path," Firestone said.

Miller suggested that Ginnie Mae's interest in the Association's committee indicates that a wider market for ARM products exists. "I think we and they both at least recognize the prospect that Ginnie Mae itself and the federal government would be actively involved in this market and so it certainly made sense for them to be involved from the get-go," he said. "So I think it really helps and supplements the overall approach."

Slow to Get Going

While there is investor interest in a hybrid TBA market - conventional and FHA - it still may be a while before it becomes mainstream, because investors tend to take time to change their ways.

"There's a lot more origination on the conventional side, and it would take some time on the FHA side for volume to increase," said Firestone.

The conventional hybrid market is only about four and a half years old. A majority of those originated within the last 18 months, and Firestone said the same amount of time could pass before FHA hybrids explode - if HR 1776 passes.

"By doing this we are serving a need that would be beneficial and something the people in the markets would in all likelihood wish to capitalize upon," Miller said on creating the committee. "So I think we're pretty optimistic about that."

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