How Does the Secondary Mortgage Market Work?
As a first-time homebuyer, you may have some questions about how mortgages work. Not only do you have to go through the pre-approval process, you have to close on your mortgage. Once you’ve closed, your mortgage goes through a behind-the-scenes journey.
The lifespan of a mortgage begins with pre-approval and ends with being fully paid off. But what happens in between?
What Is the Secondary Mortgage Market?
The secondary mortgage market is a marketplace where financial institutions and investors buy and sell home loans and servicing rights. Mortgages sold by lenders in the secondary mortgage market are often bundled into larger groups of loans called mortgage-backed securities. These mortgage-backed securities are then sold to investors.
Here is a step-by-step look at how the secondary mortgage market works:
- A homebuyer is approved for and obtains a mortgage from a lender.
- That lender sells the home loan on the secondary mortgage market.
- Government agencies or government-sponsored enterprises (GSEs) buy multiple mortgages.
- Investors then buy the mortgage-backed securities.
Real Life Example: Say you obtain a mortgage through a mortgage lending service like Rocket Mortgage. Initially your mortgage is owned, serviced, and securitized by Rocket Mortgage. Often around one month after your mortgage has begun, you will receive notice informing you that your mortgage has been sold to an enterprise like Fannie Mae. Rocket Mortgage will still be your servicer, but your mortgage is now backed and funded by Fannie Mae.
A Brief History of the Secondary Mortgage Market
The secondary mortgage market hasn’t always been around to buy and sell mortgages. Before it was established, the only institutions that had enough money to fund the life of a loan were larger banks. Homebuyers often had a difficult time finding lenders because there weren’t many available, and lenders often charged higher interest rates.
In 1968 the Federal National Mortgage Association Charter Act reestablished and reorganized Fannie Mae and Freddie Mac, authorizing them to buy conventional mortgages. These two government-sponsored enterprises had the funds to buy mortgages from the banks who currently held them, and would then resell them to investors. Fannie Mae and Freddie Mac did not resell the loans individually; instead they bundled multiple mortgages into mortgage-backed securities.
Who Participates in the Secondary Mortgage Market?
The secondary mortgage market has a few main players that are important to know about.
- Homebuyers and homeowners
- The secondary mortgage market only exists because of homebuyers and homeowners.
- Government-Sponsored Enterprises
- GSEs purchase loans within the secondary mortgage market. This helps ensure liquidity for mortgage loan originators, letting lenders continue to provide borrowers access to the loans they are looking for.
- FHA and VA loans are not bought by GSEs, they’re bought directly by the government.
- In the secondary mortgage market, investors are looking to buy mortgage-backed securities, and are further interested in these transactions because the loans are guaranteed to be secure with enviable interest rates.
- Mortgage Loan Originators
- Mortgage Loan Originators create the home loans that will eventually be sold within the secondary mortgage market. It is up to the Mortgage Loan Originator whether or not the mortgage will be sold on the secondary mortgage market.
Although your main goal as a mortgage holder is to make your monthly payments, it’s important to learn what happens to your mortgage throughout its lifespan. The secondary mortgage market helps to keep the economy moving through funding loans that wouldn’t otherwise be funded, giving homeowners a better chance at not only finding a lender, but finding the right mortgage.
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