Kurt Weisenfluh knows mortgages.

For more than 20 years, Weisenfluh, 41, has traded in the $4.7 trillion market for mortgage bonds guaranteed by housing finance heavyweights Fannie Mae (FNM) and Freddie Mac (FRE).

Weisenfluh has seen more changes in the last seven months than in any other year working in financial markets. The government is now the major player in the market, having seized control of Fannie and Freddie, while the Federal Reserve has bought more than $350 billion of the mortgage bonds guaranteed by the agencies in an attempt to knock home loan rates lower. The market has also become an integral part of plans to reinvigorate home lending.

While Weisenfluh says a long career has prepared him for ups and downs in the market, there's little that can be compared with the current environment.

"There's no blueprint for any living member of the [trading] community," said Weisenfluh, who is now the head of mortgage trading unit at Barclays Global Investors in San Francisco. "We have to pick through what we have learned over many years and scenarios" and cobble together a strategy to apply to a world upended by the credit crisis.

The Fed's heavy buying of mortgages, though unprecedented, isn't much different than the period from 2003 to 2006 when commercial banks were the dominant buyer of these securities, said Weisenfluh. "They just plain dominated the flows. Although the markets themselves may have been wildly different, this concentration of power is a key similarity," he said.

The Fed's disclosure of how many securities it's buying, however, is different.

"The way they're divulging today's market activity is creating a more level playing field in terms of information that is shared...I think this is having a calming effect on the high grade mortgage rate markets."

 
   A Smaller Market Ahead

During his years trading at Merrill Lynch & Co., Lehman Bros. Inc., Bear Stearns & Co. and Smith Barney Inc., Weisenfluh was working in a market undergoing a growth explosion as a boom in housing fueled a surge in new bonds.

Now, falling home prices and rising unemployment rates have battered consumer confidence and curbed the demand for new loans. The market will shrink as a result, says Weisenfluh.

Restoring confidence is a prerequisite to revitalizing the mortgage markets, he says. The government is doing its part to lower rates, but the pool of potential buyers has already shrunk because consumers are worried about the outlook for housing as well as the broader economy.

A smaller number of banks offering loans and tighter lending standards also mean that borrowers who want loans have to wait longer to get financing.

The sales and collapses of some banks - like Merrill, Lehman and Bear - also means "a lot less people control a lot more money" on Wall Street, said the veteran trader.

With the surviving banks still dealing with balance sheets bloated with toxic assets, they are concentrating their trading on risk-free, agency bonds, Weisenfluh said.

Fannie and Freddie are the "only game in town in the new issue space," he said.

The non-agency market where subprime and other risky home loans were bundled and sold has been frozen after complicated securities backed by risky home loans soured - triggering the financial crisis and global economic slump.

For that market to come back, Weisenfluh says securities will have to be simplified from the creative financial engineering that gave rise to thousands of different structures during the boom.

Given that Fannie and Freddie are doing most of the business, it is highly likely that the non-agency mortgage market will take cues from them, he says.

"If the agency market is in recovery mode and fully functional, why wouldn't the non-agency market benefit from at least some part of this mindset?," he said.

-By Anusha Shrivastava, Dow Jones Newswires; 201-938-2371; anusha.shrivastava@dowjones.com