Chapter 4 The Secondary Market and Federal Credit Agencies

I. The Secondary Mortgage Market

The Secondary Mortgage Market The participants who make up the secondary mortgage market must themselves raise the necessary funds to purchase the mortgages from the primary lenders. This is generally accomplished by issuing bonds. The mortgages that have been purchased by the participants in the secondary market act as collateral for the bonds they issue. The mortgages that have been purchased by the participants in the secondary market act as collateral for the bonds they issue. These bonds are referred to as MORTGAGE-RELATED SECURITIES.

Securitites Securities are any form of ownership that can be traded on the secondary market Stocks Bonds Futures contracts Options Mutual funds

A. PASS-THROUGH SECURITIES PASS-THROUGH SECURITIES are offered by “Ginnie Mae” and provide the investor with an “undivided interest” in the mortgage pool. In essence, the investor is an owner and will receive the principal and interest on their share of the mortgages plus any prepayments of the mortgage. These payments are guaranteed by GNMA and have a relatively high yield when compared to other investments that are considered safe. A LIQUID INVESTMENT may be instantly sold into an established marketplace. SENIOR PASS-THROUGH SUBORDINATE PASS-THROUGH

B. MORTGAGE-BACKED SECURITIES MORTGAGE-BACKED SECURITIES are instruments issued by various agencies, such as GNMA, to raise investment funds. These securities pay interest at intervals until maturity, at which time the face value of the bond is paid to the holder. They differ from the pass-through in that the investor does not have any ownership interest in the mortgages themselves. MARKING TO MARKET The packaging and selling of risky subprime mortgage-backed securities contributed greatly to the financial crisis of

C. COLLATERALIZED MORTGAGE OBLIGATIONS (CMOs) The COLLATERALIZED MORTGAGE OBLIGATION allows the creation of multi-class mortgage securities. The COLLATERALIZED MORTGAGE OBLIGATION allows the creation of multi-class mortgage securities. These mortgage securities rearrange the cash flows into a series of securities with different maturity dates. The different classes of securities are called TRANCHES. The different classes of securities are called TRANCHES. A REAL ESTATE MORTGAGE INVESTMENT CONDUIT (REMIC) is an entity that can issue CMO securities without double taxation. A partnership, corporation, or trust may issue collateralized mortgage obligations if it establishes itself as a REMIC. A partnership, corporation, or trust may issue collateralized mortgage obligations if it establishes itself as a REMIC.

II. FNMA and FHLMC

Fannie Mae and Freddie Mac We have noted that Fannie Mae and Freddie Mac were originally set up by the federal government to establish a strong secondary market. They are not, however, agencies of the federal government. As a result of the 2008 financial meltdown, Congress changed the framework for regulation of Fannie Mae and Freddie Mac by placing them in a conservatorship with a new federal agency called the Federal Housing Financing Agency (FHFA) Conservatorship is not ownership, but overseeing

III. Federal Credit Agencies

A. FARM SERVICE AGENCY (FSA) The mission of the U.S. Department of Agriculture’s FARM SERVICE AGENCY (FSA) is to: stabilize farm income help farmers conserve land and water resources provide credit to new or disadvantaged farmers and ranchers help farm operations recover from the effects of disaster. FSA was set up when the Department was reorganized in 1994, incorporating programs from several agencies. In general, the agency serves low-income family farmers and the elderly, or veterans who are farmers.

B. FARM CREDIT SYSTEM (FCS) The FARM CREDIT SYSTEM (FCS) specializes in providing credit and related services to farmers, ranchers, and producers or harvesters of aquatic products. The Farm Credit Administration (FCA) is responsible for the regulation and examination of all institutions in the Farm Credit System. FCS institutions, unlike commercial banks or thrifts, do not take deposits.

Figure 4-1

1. Federal Credit System Financial Assistance Corporation The FEDERAL CREDIT SYSTEM FINANCIAL ASSISTANCE CORPORATION was created by the Agricultural Credit Act to provide capital to farm credit banks that were in financial difficulty.

2. Federal Agricultural Mortgage Corporation (FAMC) The Federal Agricultural Mortgage Corporation is better known as “Farmer Mac.” The FEDERAL AGRICULTURAL MORTGAGE CORPORATION (FAMC) was also created as a chartered corporation by the Agricultural Credit Act. It is similar in concept to the Government National Mortgage Corporation in operation, but exists solely to provide a secondary market for farm mortgages. Farmer Mac will only guarantee up to 90 percent of the principle and interest.

C. FINANCING CORPORATION (FICO) The FINANCING CORPORATION (FICO) was chartered by the Federal Home Loan Bank Board in 1987 to help resolve the crisis created by the widespread collapse of the savings and loans. FICO was authorized to issue bonds. The proceeds of the bonds were to be used by the FSLIC to resolve the S&L insolvencies.

D. FEDERAL FINANCING BANK (FFB) The FEDERAL FINANCING BANK (FFB) came about as a result of the passage of the Federal Financing Act of The purpose of this agency was to consolidate the financing activities of a number of different federal agencies in one place. The bank issues securities for many different agencies. Among them are NASA and the U.S. Postal Service.

E. FHA AND VA While it is commonplace for brokers, borrowers, lenders, and investors to refer to “FHA loans” or “VA loans” neither of these government agencies buys or sells mortgage loans. While it is commonplace for brokers, borrowers, lenders, and investors to refer to “FHA loans” or “VA loans” neither of these government agencies buys or sells mortgage loans. The FHA and VA are issuers of government mortgage insurance.

IV. CHAPTER SUMMARY Loans are made directly to borrowers by savings banks, banks, credit unions, and mortgage bankers from local deposits by individuals and businesses. Loans are made directly to borrowers by savings banks, banks, credit unions, and mortgage bankers from local deposits by individuals and businesses. The establishment of the secondary market has provided these lenders with a stable market in which to sell their mortgages. This secondary market has to raise the necessary funds to provide this essential service to the primary market. Fannie Mae, FHLMC, and GNMA are the major issuers of residential mortgage-related securities. The three major types of securities that are issued are: pass-through securities, mortgage-backed bonds, and collateralized mortgage obligations. The federal government has been an active supporter of this market, either through direct federal agency support or beneficial regulation. The federal government has been an active supporter of this market, either through direct federal agency support or beneficial regulation. In addition, a number of federal agencies have been established to provide mortgage lending for farm and rural areas. The best known of these are the Farm Service Agency (FSA) and the Federal Agricultural Mortgage Corporation (FAMC) or “Farmer Mac.”