The secondary mortgage market is a marketplace where lenders sell mortgages and investors buy financial products backed by those mortgages. About two-thirds of home loans originating in the U. Entities such as Fannie Mae, Freddie Mac, and private firms buy those loans and package them into mortgage-backed securities. Then, investors from all over the world buy those products and keep the cycle going. The average homebuyer might not know about the secondary market, says Nicole Rueth, producing branch manager with the Rueth Team of Fairway Independent Mortgage Corp.
For example, Fannie Mae and Freddie Mac attached a new fee to some refinance loans in late , and many lenders decided to pass on that fee to homebuyers. Secondary Mortgage Market vs. Primary Mortgage Market The primary mortgage market is probably already familiar to you.
The lender then extends money to the homebuyer. After the lender closes several mortgages, it has two options. Keep the home loans in its portfolio: Collecting interest from those mortgages offers investment diversification. Sell the home loans in the secondary market: Recouping the money helps banks and credit unions fund loans for more borrowers. Only larger banks had enough cash to fund mortgages for the entire loan term, and the lack of competition meant lenders could charge higher interest rates.
This locked many people out of the homebuying process. The U. Mortgage buyers on the secondary market fall into three main categories: Government-sponsored enterprises GSEs : Fannie Mae and Freddie Mac purchase conventional loans on the secondary market.
Private entities: Some of these include pension funds, insurance companies, and hedge funds. It will tell you whether the lender sold your mortgage and who will service your loan. Mortgage-backed securities are bonds that are secured by homes and other real estate loans. When banks and credit unions fund mortgages, they can choose to bundle them and create mortgage-backed securities. The financial institution then sells these MBS to private and government-sponsored entities on the secondary market.
From there, the entities use the MBS as collateral to create new securities. Investors from around the world can purchase these investments. The security is backed by the value of the underlying loans. When homeowners pay their monthly mortgage payment, the bondholder ultimately receives some of the interest and principal. The secondary mortgage market is massive! After you close on your mortgage, your lender likely will sell it, or the associated servicing right, in the secondary mortgage market.
Banks keep about half of their mortgages, capitalizing on interest payments and the diversification of their portfolio. Credit unions sell fewer of their mortgages than traditional banks do. However, both lenders often retain the servicing rights to their mortgages which means borrowers may not even know their home loan has been sold at all. There are investors, private organizations, and government enterprises that buy loans in the secondary mortgage market.
All participate in the secondary mortgage market, though they have different underwriting standards than government agencies and enterprises.
If accompanied by a broker, individual investors are welcome on the secondary market, but even though mortgage-backed securities are a relatively safe investment, they are complicated financial instruments and should only be handled by experienced investors. Both purchase mortgages to help provide a consistent and stable source of home loan funding for the everyday consumer.
These enterprises purchase only conventional home loans that meet certain standards surrounding loan amount and down payment figure, as well as borrower credit score, loan to value ratio , and debt-to-income ratio. Freddie Mac. The loans it buys from lenders are direct obligations of and backed by the full faith and credit of the U.
Lenders like banks, credit unions, and private mortgage companies are all considered mortgage originators. A bank will choose to either keep a new home loan in its portfolio and make money by collecting origination fees and interest, or it will sell the mortgage on the secondary mortgage market. Mortgage originators purchase home loans and securities from other lenders as well to diversify their portfolios. According to Credit Union National Association, about two-thirds of all mortgages are eventually sold on the secondary mortgage market.
How does the market affect current mortgage rates? The secondary mortgage market affects the rate you pay and the standards you are kept to when applying for a home loan.
As a result, potential homebuyers had a difficult time finding mortgage lenders. Because there was less competition, lenders could charge higher interest rates. These government-sponsored enterprises GSE were tasked with creating access to affordable mortgages. To fund these efforts, Fannie and Freddie buy bank mortgages and resold them to other investors. The loans aren't resold individually. Instead, they are bundled into mortgage-backed securities MBS. The value of the MBS is secured—or backed—by the value of the underlying bundle of mortgages.
Other financial institutions like Lehman Brothers and Bear Stearns were capsized by mortgage-backed securities and other derivatives during the financial crisis. There was a rush to the exits as private banks exited the mortgage market en masse. The two GSEs were basically holding together the entire housing industry. This large holding hazard was how Fannie Mae and Freddie Mac were implicated in the subprime mortgage crisis. There are also secondary markets in other kinds of debt, as well as stocks.
Finance companies bundle and resell auto loans, credit card debt, student loan debt, and corporate debt. Most important is the secondary market for U. Treasury bills, bonds, and notes. Demand for Treasurys affects all interest rates.
Treasury bonds, backed by the U. They also offer a low yield. Investors who want more return, and are willing to take on more risk, will buy other bonds, such as municipal, corporate, foreign, or even junk bonds. When demand for Treasurys is high, then interest rate yields can be low for all debt. When demand for Treasurys is low, then interest rates must rise for all debt on the secondary market.
There is a direct relationship between Treasury bonds and mortgage interest rates. When yields on Treasury bonds rise, so do interest rates on fixed-rate mortgages. As confidence returns in the secondary mortgage market, it returns to all secondary markets. Ian Salisbury of Marketwatch. Large investors are now more willing to take a chance with securitized loans from reputable banks because Treasury bond yields are at all-time lows.
That means the quantitative easing by the Federal Reserve helped restore functioning in the financial markets. By buying U. Treasurys, the Fed forced yields lower and made other investments look better by comparison. Banks now have a market for securitized loan bundles.
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