Sources of financing: primary and secondary mortgage markets

Two markets, two transactions

The primary mortgage market is where a borrower obtains a new loan from a lender. Banks, savings institutions, credit unions, and mortgage banking companies can originate loans. A mortgage broker generally arranges financing between a borrower and a lender rather than funding the loan with the broker's own money. A lender that retains loans holds them in its portfolio.

The secondary mortgage market is where existing mortgages or interests in mortgage pools are bought and sold. Selling loans can replenish an originating lender's funds for additional lending. This is liquidity: turning a mortgage investment into cash. A loan sale does not itself rewrite the borrower's note. Ownership and servicing are separate: the company collecting payments may remain the same or change.

Recognize the participants

Fannie Mae and Freddie Mac are government-sponsored enterprises that buy eligible mortgages and support mortgage-backed securities. They do not function as retail lenders making home loans directly to individual borrowers. Ginnie Mae is a federal government corporation that guarantees timely payment of principal and interest on qualifying mortgage-backed securities issued by approved issuers, generally backed by federally insured or guaranteed loans. Ginnie Mae does not originate home loans or buy mortgages as Fannie Mae and Freddie Mac do.

Private investors and institutions also buy mortgages and securities. A mortgage-backed security gives investors an interest in cash flows from a pool of mortgages. Do not confuse a secondary-market security guarantee with insurance or a guarantee on an individual mortgage. The Federal Housing Administration insures qualifying loans; the Department of Veterans Affairs guarantees a portion of qualifying loans. Private lenders ordinarily originate those loans.

Why financing availability changes

Federal law applicable in California identifies secondary-market stability, liquidity, distribution of investment capital, and nationwide access to mortgage credit as purposes of residential secondary-market facilities. These purposes include attention to low- and moderate-income housing and underserved areas.

The Federal Reserve influences credit conditions through monetary policy. Its statutory goals include maximum employment, stable prices, and moderate long-term interest rates. It does not set the interest rate in each homebuyer's mortgage contract. Mortgage rates also reflect market yields, risk, competition, and loan characteristics; a policy-rate change need not produce an equal mortgage-rate change.

For exam purposes, ask what transaction is happening: new loan to a borrower means primary; sale of an existing loan or mortgage security means secondary. Eligibility and underwriting requirements vary by loan program and investor.