Mortgage rates are no worse this week than after last week’s strong-payroll surprise, and the 10-year T-note is actually a hair lower. As suspected here, the payroll data made the economy look stronger than it really is.

When the economy is in transition, it is hell to sort through the conflicting data — especially with the stock market guys yelling 24/7 that everything is wonderful. It is not: the Fed’s meeting minutes concede that core inflation is “higher than expected” and that their cherished forecast for continuing downward trend is in question (page 7).

If inflation sticks in the high-twos, above target, then the Fed not only can’t ease but will have to tighten. (A silly piece at says the Fed should solve the problem by raising the 2 percent inflation target to 3 percent. Perdition.) If the Fed may tighten, then mortgage and other rates should rise… now?

Nope. The Fed’s other problem is a slowing economy, and fragility caused by housing and manufacturing weakness. Any move to tighten will put the economy on recession watch, and you want to buy bonds before a recession. Fed Chief Ben Bernanke’s expressed desire for “flexibility” two weeks ago reflects the unresolved dilemma, but his time to chose between inflation and the economy is coming shortly.

In the mortgage meltdown, never in the history of either elephants or blind men have so many of the latter had hold of so many wrinkled but mysterious body parts. “A-HA!” rings throughout the land… one misleading discovery after another.

To grasp the whole pachyderm, consider Wells Fargo.

Until this week, Wells preened as the largest of all subprime lenders, $89 billion in 2006 alone. Analysts and stockholders began to poke at Wells: If you’re the sub-prime gong-winner, you must be a wreck?

Stock tanking, Wells now says, we really only did $28 billion, and sold the rest in “co-issue arrangements.” Wells, like all megabanks has insisted that it is a “lender” which does not sell its loans and is therefore vastly superior to those scruffy little brokers. Wells is a broker itself, just like everybody, but big enough to have its clerks collect your payments.

Okay, what about the credit quality of that $28 billion you still have? Wells’ CFO, Mr. Atkins: “There is no credit risk to Wells on those loans.” Wells apparently sold the risk component into the nouveau “credit derivative” market.

A large crowd of blind newsies is trying to blame the subprime damage on Main Street lenders, and certainly they are culpable. However, credit has not merely been supplied by the nouveau and disembodied derivative markets, mortgages have been suctioned from Main Street, from borrowers and lenders alike, on easier and finally suicidal terms. In the derivative wonderland, nothing is as it seems, nor whole — anything can be remade and sold in pieces, elephants included.

You just think these loans are risky: borrow a little yield from there, add an enhancement here, spin a credit-rating agency dizzy, and — voila! Risk is gone! Sometimes risk is distributed reasonably (there is a lot of net worth in the world over which to distribute risk), often not (with leverage, heh-heh). The pachyderm in the room: if Wells sold the credit risk on $28 billion in loans, who has that risk now?

If there is a couple of trillion dollars in questionable mortgage paper out there (and there is), and 20 percent of it goes into foreclosure, who holds the risk? If you know, please send an e-mail. Wells ain’t talkin’, The Street ain’t talkin’, and neither are the rating agencies. The Fed is sound asleep, and wouldn’t talk anyway.

These credit-derivative sales work like insurance, and soon the Wells of the world will begin to make calls to file claims for recovery. Some of those phones are going to ring with no pick-up. Derivative-based suction is weakening, and can stop altogether. The first stage was tightening guidelines; now we see A-paper intermediaries scurrying to cover the risk of market interruption.

Lou Barnes is a mortgage broker and nationally syndicated columnist based in Boulder, Colo. He can be reached at


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