Secondary Mortgage Market

The secondary mortgage market is a huge marketplace of banks, investors and financial institutions that trades mortgages, servicing rights and mortgage-backed securities. While numerous homebuyers aren't aware of it, the secondary mortgage market gigantically affects how you get a mortgage, the rate you pay and the standards you must meet to do as such.
While a lender might have initially gotten you a loan, generally speaking today the lender doesn't hold the loan. All things being equal, it sells the loan into the secondary mortgage market, where it very well might be cut and diced into quite a few mortgage-backed securities to fulfill investors' necessities.
This is the way the secondary mortgage market works and who may really possess your home loan.

How the secondary mortgage market functions

Most people know how the fundamental mortgage process functions. A borrower asks a bank for a loan, and the bank stretches out money to the homebuyer and keeps the loan on its books for the loan's term. That is Banking 101 — yet it's less normal the way in which things are done today in the mortgage market.
In the wake of making a loan, a bank frequently sells it in the secondary mortgage market, however the bank might hold the servicing rights. Many loans are sold to the government-sponsored ventures Fannie Mae and Freddie Mac or different aggregators, which can repackage the loans as mortgage-backed securities, or MBS, or hold them on their own books and collect the interest from borrowers.
To be sold to the agencies, the loan must be "conforming" — that is, the loan must fulfill certain guidelines set by the agencies. These factors include:

A maximum loan amount of $510,400 (for 2020) in many U.S. states, however it is higher in others
The down payment relative to the size of the loan, normally somewhere around 3%
The borrower's credit score, normally no less than 630 to 650
The borrower's debt-to-income ratio, which ought to be something like 41%

The demand for conforming loans helps push down the mortgage rates for borrowers who can fulfill the guidelines. Note that jumbo loans are not regularly viewed as conforming loans.
The government agencies are one type of mortgage aggregator, yet other large institutions (counting the mortgage originator itself) might be aggregators and make their own MBS, too.

What are mortgage-backed securities?

When aggregators buy mortgage loans, they can hack them up and repackage them into bonds called mortgage-backed securities.
Think of the mortgage as a sort of cash flow, with specific qualities in light of the loan. Aggregators can repackage these cash flows — normally large number of mortgages in a single security — in various ways to make bonds that appeal to the investment needs of certain sorts of investors.
For instance, mortgages can be cut into tranches with differing degrees of safety — and the more secure the bond, the lower its yield, as a rule. Thus, investors searching for a higher interest payment can buy fairly riskier mortgage-backed securities, while the individuals who must buy higher-rated bonds, (for example, insurance companies or public pension investors) can buy the more secure tranches.
Investors searching for different traits, for example, those in light of risk or timing of cash flow, can find different MBS bonds to meet their specific necessities. It's a wide market offering a scope of bonds.
Just like ordinary bonds, these mortgage-backed securities are graded by the rating agencies, including Standard and Poor's, Moody's and Fitch, which collect fees for their services.
When the bonds have been made and rated, they are sold to investors, who might hold them for their own portfolios or sell them later in the secondary market. Banks themselves may likewise be buyers of MBS, which might offer more diversification than loans written exclusively in their service area.

For what reason does the secondary mortgage market exist?

Congress made the secondary mortgage market in 1938 with the formation of Fannie Mae, which purchased FHA mortgages. Fannie Mae gave liquidity to starting lenders, who would have rather not tieed up their capital for long periods, and permitted them to generate more loans. With the ability to sell loans, banks could compose more mortgages and energize homeownership.
Freddie Mac was made by Congress in 1970 with comparable objectives to Fannie Mae.
Making a totally new security from mortgages is a complex cycle, so how could the players engaged with the mortgage market do this? The secondary market makes benefits for each economic player — borrowers, investors, banks/lenders, aggregators and rating agencies:

Borrowers - Borrowers who can fit the bill for a conforming loan benefit from possibly lower costs and greater access to capital and loans for longer periods of time.
Investors - Investors (counting institutional players, for example, banks, pension funds, hedge funds and others) appreciate getting exposure to specific sorts of securities that better address their issues and risk tolerance.
Banks/lenders - Lenders can get certain loans off their books, while holding different loans that they'd like to have. It likewise permits them to effectively utilize their capital, permitting them to generate fees for underwriting mortgages, selling the mortgage and afterward utilizing their capital again to compose another loan. The lender might hold the right to service the mortgage, which can be a lucrative stream of fees too. The bank may likewise benefit as an investor, too, by buying MBS that differentiate its own assets.
Aggregators - Aggregators, for example, Fannie and Freddie earn fees from bundling and repackaging mortgages and organizing them with certain attractive qualities.
Rating agencies - These organizations generate sales by rating mortgage-backed securities and guaranteeing that they have specific traits and riskiness.

Since it permits lenders to cut up their mortgages, the secondary market additionally empowers financial firms to represent considerable authority in different areas of the market. For instance, a bank might begin a loan however sell it in the secondary market while holding the right to service the mortgage.
As a loan originator, the bank guarantees the loan, processes the loan, funds the mortgage and shuts the loan. It collects fees for these services and afterward could conceivably hold the loan.
As a loan servicer, the bank gets a fee for processing the regularly scheduled payment, tracking loan balances, generating tax forms and overseeing escrow accounts, among different capabilities.
Even assuming the lender chooses to start the loan and hold it, it benefits by having an active and liquid secondary market, where it can sell its loans or servicing rights assuming that it wanted or expected to.
In short, the market exists to make more effectiveness and better address the issues of the players.

Bottom line

There's a ton happening in the background of the mortgage market that borrowers may not know about. Since it purchases a gigantic portion of home loans, the secondary market drives a ton of the behavior in the primary market, for example, the banks' craving to compose conforming loans. While you might keep on making your regularly scheduled payment to the bank that originated the loan, the money may really be going to a wide range of investors who own your mortgage or a cut of it.

Features

Several players take part in the secondary mortgage market: mortgage originators (who make the loans), mortgage aggregators (who buy and securitize the loans), securities vendors/merchants (who sell the securitized loans), lastly, investors (who buy the securitized loans for their interest income).
The secondary mortgage market is incredibly large and liquid, and assists with making credit similarly accessible to all borrowers across geographical areas.
The secondary mortgage market is a market where mortgage loans and servicing rights are bought and sold by different entities.

FAQ

What Is a Secondary Mortgage Loan?

A secondary mortgage loan is a loan sold on the secondary mortgage market. The practice of selling mortgages permits lenders to keep lending and keep the cost of borrowing down.

What Is an Example of the Secondary Mortgage Market?

On the off chance that you purchase a home utilizing a mortgage, your lender may — and most do — sell it to the secondary market to get back the capital they loaned you and reduce lending risks. Contingent upon the buyer, the mortgage could be held to collect your payments or securitized with different mortgages into mortgage-relaxed securities for investors to buy.

What Is the Purpose for the Secondary Mortgage Market?

This market extends the opportunities for homeowners by making a constant flow of money that lenders can use to make more mortgages.