The borrowers mainly are concerned with only getting their loans approved. They don’t really think as to what happens to these loans or how the lenders can afford to lend you so much of money. Here we attempt a detailed study of these factors with reference to the secondary mortgage market.
The mortgage market works in a cycle. There are basically two markets
- Primary mortgage market
- Secondary mortgage market
The primary mortgage market involves two broad categories
This is where the loan portfolios are held and then sold to the secondary market. In simple words the loans that you take are accumulated with details and they are sold to the big wigs. The next question would automatically be:
- The mortgage originators: this comprises depository institutions like commercial banks and thrifts and non-depository institutions like mortgage banks and brokers.
- The Secondary market conduits: this comprises the three GSEs-Freddie Mac, Fannie Mae and Ginnie Mae , and other private investment banks
What happens in the secondary market and why are the loans sold in the first place?
The loans are sold in the secondary mortgage market to investors. This is done in three ways:
- The loans are sold individually-this happens especially with large loans
- The loans of the same type, meeting the same underwriting standards are pooled together into Mortgage backed securities (MBS).
- Bonds are sold which are backed by the loans.
The monthly payment that you make to your lender is actually transferred to the GSEs and they pass it on to the investor market. But the last transaction involves a cut; the guarantee fee is deducted and allowed into the market.
At Wall Street investors buy these loans either whole or packaged and accordingly the loans are financed. These transaction costs need to be borne by the borrowers. But the benefits that the secondary market reaps offset these.
Benefits of the secondary mortgage market
- Reduces the interest rate
- Maintains liquidity
- Restructures portfolios
- Distributes risk
- Increases the homeownership
- More home mortgages are made available
- Provides financial stability to lending institutions
- Fosters economic growth
- Provides more employment opportunities
- Attracts foreign capital markets to invest