As Treasury Secretary Tim Geithner orchestrated a plan to help the nation's largest banks purge themselves of toxic mortgage assets, Citigroup and Bank of America have been aggressively scooping up those same securities in the secondary market, sources told The Post.
Both Citi and BofA each have received $45 billion in federal rescue cash meant to help prop up the economy and jumpstart the housing market.
But the banks' purchase of so-called AAA-rated mortgage-backed securities, including some that use alt-A and option ARM as collateral, is raising eyebrows among even the most seasoned traders. Alt-A and option ARM loans have widely been seen as the next mortgage type to see increases in defaults.
One Wall Street trader told The Post that what's been most puzzling about the purchases is how aggressive both banks have been in their buying, sometimes paying higher prices than competing bidders are willing to pay.
Recently, securities rated AAA have changed hands for roughly 30 cents on the dollar, and most of the buyers have been hedge funds acting opportunistically on a bet that prices will rise over time. However, sources said Citi and BofA have trumped those bids.
The secondary market represents a key cog in the mortgage market, and serves as a platform where mortgage originators can offload mortgages in bulk that have been converted into bonds.
Yields on such securities can be as high as 22 percent, one trader noted.
BofA said its purchases of secondary-mortgage paper are part of its plans to breathe life back into the moribund securitization market.
"Our purchases in [mortgage-backed securities] increase liquidity in the mortgage market allowing people to buy a home," said BofA spokesman Scott Silvestri.
A Citi spokesman declined to comment, though people familiar with the bank say it argues the same point.
Citi's and BofA's purchases highlight the challenges both banks face while operating under intense public scrutiny.
While some observers concur that the buying helps revive a frozen market, others argue the banks are gambling away taxpayer funds instead of lending.
Moreover, the MBS market has been so volatile during the economic crisis that a number of investors who already bet a bottom had been reached have gotten whacked as things continued to slide.
Around this same time last year some of the same distressed mortgage paper that Citi and BofA are currently snapping up was trading around 50 cents on the dollar, only to plummet to their current levels.
One source said that the banks' purchases have helped to keep prices of these troubled securities higher than they would be otherwise.
Both banks have launched numerous measures to help stem mortgage foreclosures, and months ago outlined to the government their intention to invest in the secondary market to expand the flow of credit.