The so-called "Paulson Plan" is the federal government’s proposal to ease the pain of the mortgage meltdown, so how do exchange traded fund (ETF) investors come out ahead in this?  Mike Larson for Money and Markets highlights the plan to give us better understanding of the agenda. There are around 100,000 subprime adjustable rate mortgages (ARMs) that are on track to reset every month for the next two years.  These rates are expected to go from 7-9% up to 11-13%. Resets, mixed with falling home values, and reckless lending could lead to a foreclosure hurricane. Borrowers are split into 4 categories according to Paulson’s Plan:

  1. Category 1: Borrowers who can afford mortgages now and after a reset. They don’t "need" help.
  2. Category 2: Those borrowers who can’t even afford their homes now, at the teaser rate. These people can not be helped because their homes and mortgages are simply unaffordable to them. They are facing foreclosure.
  3. Category 3: Those who can refinance with their equity and good credit even amidst tight lending standards. Refinance is better than modifying the existing mortgage.
  4. Category 4: Those who are managing at the teaser rate but would default on a reset.

Category 4 is the target for the relief, given they have clean credit and steady incomes. Those who are already 30 days late, or who have been 60 days late during the year, are excluded. The plan was intended to help borrowers stay in their homes, improve their credit and eventually refinance.

Although SPDR S&P Homebuilders (XHB) is down 41.4% year-to-date, it is up 23.1% since it’s low in November.  And U.S. pending home sales rose unexpectedly in October.  The Financial Select Sector SPDR (XLF) is down 13.1% for the year, but is up 12.2% since its recent low. Many of the top banks and brokers have had challenging years but the bleeding has appeared to stop.

Will this band-aid help stop the bleeding or just clot it until further rupture? And if the Fed cuts rates tomorrow, it could give another boost?

The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.