1. Chapter 10 The Secondary Mortgage Market

2. Chapter 10 Learning Objectives n Understand the workings of the secondary mortgage market n Understand why the secondary mortgage market is important for a more efficient allocation of funds in the real estate market, and what the major secondary mortgage market agencies are

3. Secondary Mortgage Market n Market where existing mortgages are bought and sold n Mortgages are used as collateral for mortgage related securities n Reduces reliance on deposits

4. Secondary Mortgage Market Participants n FANNIE MAE, GINNIE MAE, FREDDIE MAC n Securitization of mortgages n Mortgage Related Securities –Pass-Throughs –Mortgage-Backed bonds –Collateralized Mortgage Obligations (CMO’s) and REMICS

5. COMMERCIAL MORTGAGE BACKED SECURTIES n Started with S&L crisis of 1980s when RTC packaged commercial loans of failed thrifts and sold CMBSs n Senior tranche received all principal payments including prepayments n Subordinated tranche bore all losses from defaults

6. CMBS (cont.) n Securitization process is same as for CMOs with different tranches n May be backed up by many mortgages on many properties, a single loan on a very large property, or a single loan on many properties n Loans are credit rated and contributed to a REMIC

7. Secondary Mortgage Market n FEDERAL NATIONAL MORTGAGE ASSOCIATION (FANNIE MAE) –Established in 1938 to buy FHA loans –Re-chartered in 1954 and became a private corporation –As of 1970, allowed to buy FHA,VA, and conventional mortgages

8. Secondary Mortgage Market n GOVERNMENT NATIONAL MORTGAGE ASSOCIATION (GINNIE MAE) –Created in 1968 within HUD –Does not purchase mortgages or issue securities –Market focus is to guarantee FHA and VA pass-through securities

9. Secondary Mortgage Market n FEDERAL HOME LOAN MORTGAGE CORPORATION (FREDDIE MAC) –Established in 1970 to create a secondary mortgage market for conventional mortgages –Operates as a private corporation –Currently buys FHA, VA, and conventional mortgages

10. Secondary Mortgage Market n Freddie Mac purchases both newly issued and seasoned (those with some expired term) mortgages n Freddie Mac will also purchase construction/permanent loans that are FRMs, ARMs, or balloon/reset. These must be new dwellings and not rehabs.

11. Secondary Mortgage Market n Freddie Mac issues a wide variety of securities: –Discount Notes and Debentures –Mortgage Participation Certificates (Pass- throughs) on FRMs, ARMs, and multifamily –Collateralized Mortgage Obligations in several classes or tranches –Guaranteed Mortgage Certificates – not sold since 1979

12. Secondary Mortgage Market n Federal credit agencies that support the primary and secondary mortgage markets: –Farm Credit System consolidated three agricultural agencies to make direct loans for agricultural purposes –Federal Agricultural Mortgage Corporation (Farmer Mac) to underwrite pools of farm mortgages through pass-throughs

13. Secondary Mortgage Market n Federal credit agencies that support the primary and secondary mortgage markets: –Rural Housing Service extends loans to rural areas for farms, houses, and community facilities –Financing Corporation formed in 1987 to recapitalize the FSLIC

14. Government-Sponsored Enterprises n GSEs are not officially part of the federal government n They appear to enjoy the backing of the federal government n Federal government does not guarantee these agency’s obligations but Congress has shown that federal funds would be used to “bail” them out of financial stress

15. Government-Sponsored Enterprises n GSEs operate similarly to thrifts in purchasing long-term mortgages n They face interest rate risk, default risk, and management/operating risk n Office of Federal Housing Enterprise and Oversight (OFHEO) oversees the operations of the GSEs