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Over the past few weeks, the much acclaimed PPIP program has started to find its way into the news again. Billed as a savior to the much maligned non-agency MBS space, this idea by the Treasury was a relatively solid game plan to bring back liquidity.

During early 2009, very clean 15yr private MBS (think 2003-2004, highly seasoned, less than 1% total delinquencies) was trading in the high eighties to low nineties. Why is this significant? I will explain. Fresh off the credit collapse and stuck with every negative connotation, demand for this product was at an all time low. For the type of paper listed above, and other similar types, 20+% loss adjusted yields were available.

Banks and other investors who were either forced to sell due to ratings downgrades, or wanted to sell due to fear and panic found few willing participants in the market. In retrospect, this was the time to load up on these securities as shrewed fund managers such as Jeffrey Gundlach of TCW did.

Fast forward to current times and we have seen a dramatic rally in the non-agency space. MBS such as I described above is now trading very close to par and sometimes even at a slight premium. With loss adjusted yields in the 8-12% range now, taking the Treasury's "free" leverage to buy these securities is suddenly half as attractive as before.

Should non-agencies be trading where they did in March, PPIP would be much more crucial to the recovery of the markets, however the repricing of risk and willingness to hold private label MBS has helped the market tremendously.

Problem For Banks

For banks that need to raise capital, it is unlikely that the rally has helped them enough. Most of the Banks who bought non-agency MBS did so at prices near or above par. Despite the massive run-up, it is unlikely that they would be able to sell their best MBS at break-even. The bottom line is that even PPIP will not be able to bridge the gap that exists between fixed income managers and institutions who need liquidity by selling these securities.

Disclosure: No Positions

Source: Recent Rally Has Destroyed PPIP's Allure