WASHINGTON (Reuters) - Regional U.S. banks will be allowed to temporarily boost holdings of mortgage-backed securities by some $150 billion in another bid by regulators to bring stability to troubled mortgage markets.

The headquarters of mortgage lender Fannie Mae is shown in northwest Washington October 3, 2006. REUTERS/Jason Reed

The move announced on Monday by the Federal Housing Finance Board enables the banks in the Federal Home Loan Bank system to expand their holdings of securities issued by Fannie Mae and Freddie Mac, the congressionally chartered companies that are the two biggest U.S. home financing providers.

Regulators have made a series of moves to ease strains in U.S. mortgage markets where a rising tide of foreclosures has made lenders so wary that it has threatened to dry up funding.

Just last Wednesday, the regulator for Fannie Mae and Freddie Mac eased their capital requirements, allowing them to pump another $200 billion into distressed mortgage markets with purchases of mortgages and mortgage securities.

The Federal Housing Finance Board on Monday voted to let the banks immediately use existing capital to increase their holdings of mortgage-backed securities issued by Fannie and Freddie, or agency MBS, for two years.

The $4.5 trillion market for agency MBS is the cornerstone of the entire mortgage market and had shown signs of cracking until signs of federal support appeared.

“Without a functioning mortgage market, you can’t get out of the mortgage mess,” said Walter Schmidt, head of mortgage bond strategy at FTN Financial in Chicago. “It seems like the government is doing what it can.”

But MBS on Monday failed to draw support from investors, who were taking profits from the sharp rally sparked by lower capital mandates for Fannie Mae and Freddie Mac, he said. Yields on Fannie Mae MBS paying 5.5 percent interest rose more than those on Treasuries, and yield spread widened to 2.03 percentage points from 1.81 points on Thursday. Yields move inversely to prices

The Federal Home Loan Banks were permitted to purchase about $150 billion of mortgage-backed securities under existing rules and will now be able to buy roughly that same amount in new agency investments, according to bank sources.

The 12 Federal Home Loan banks provide low-cost “advances” for real estate loans to member banks that hold their stock -- such as Countrywide Financial Corp and Washington Mutual Inc -- and have been one few sources of liquidity in a tightening credit market.

“Increasing the agency MBS investment authority for the banks is another way in which the system can perform its traditional mission,” said Ronald Rosenfeld, chairman of the Federal Housing Finance Board.

The regional banks are held cooperatively by more than 8,000 lending institutions and enjoy a favored position in the capital markets because of their implied government backing.

MEASURED SUPPORT

The Treasury Department issued a measured statement of support for the bank regulators’ action, stressing that it saw it as a temporary action until markets settle down.

“The targeted decision by the Federal Housing Finance Board to enable the Federal Home Loan Banks to assist temporarily in this period of stress, consistent with safe and sound operations, will bring more liquidity to the mortgage market,” Treasury Secretary Henry Paulson said.

Mortgage help from the FHLB helped U.S. Treasury debt extend sharp price losses, with investors betting that the Federal Reserve would be less likely to continue aggressively cutting interest rates because regulators have taken a stronger hand in spurring markets.

“It definitely is one of many bullets being fired at this (housing and mortgages) problem,” and could weigh on Treasury prices, said T.J. Marta, fixed-income strategist with Royal Bank of Canada Capital Markets in New York.

“All these efforts are causing strategists to rethink the amount of easing they expect from the Fed,” he said.