What is the secondary mortgage market?
Your lender might change, but your rate will remain the same
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When you buy a home, you usually get a loan from a bank or credit union. It determines if you qualify for the loan, sets the terms and lends you the money.
But in most cases, your original lender doesn’t hang onto that mortgage — instead, it sells it on the secondary mortgage market. This doesn’t affect your interest rate or payment terms, but it’s good to know exactly who holds your mortgage and how this secondary market works.
There are several key players in the mortgage markets, including lenders, aggregators, government-backed agencies and investors. Here’s how the secondary mortgage market works and how it affects you as a homeowner and (potentially) investor.
When you get a mortgage from a lender, it’s usually sold on the secondary mortgage market.
Jump to insightMortgages are packaged and securitized into investments for institutional investors.
Jump to insightYour mortgage servicer may change, but your loan terms will not, even if your loan is sold on the secondary market.
Jump to insightWhat is the secondary mortgage market?
The secondary mortgage market allows primary lenders to originate a mortgage and then sell the rights to that mortgage to someone else. This means the investment interest on your home’s loan may not be owned by your original lender.
The secondary mortgage market is designed to provide liquidity to mortgage lenders. While most banks lend money they have to avoid the risk of running out of money for mortgage loans, many will sell off existing mortgages to recoup the loan expense and continue originating new mortgages.
“Your mortgage could be purchased by various entities operating within the secondary market,” said Mehdi Khachani, the CEO of JMK Property Investment in Miami Beach, Florida. “Government-sponsored enterprises such as Fannie Mae and Freddie Mac play a significant role, as they buy mortgages from lenders, bundle them into mortgage-backed securities (MBS) and sell them to investors.”
Additionally, Khachani explained, “Private investors such as investment banks, hedge funds and pension funds also participate in purchasing mortgages directly or through securitized products.”
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Primary vs. secondary mortgage market
The primary mortgage market refers to the originating lender of your mortgage loan. This is usually a bank, credit union or other lender that supplies you with the loan to purchase or refinance your home.
The secondary mortgage market comes into play when your lender sells your mortgage contract to another buyer. This might include a mortgage servicer, mortgage aggregator or government-sponsored entity. Ultimately, mortgages are sold to shore up liquidity for your lender and become an investment for the buyer.
You don’t have a say in whether or not your mortgage is sold. It is within your lender’s legal right to sell your mortgage into the secondary market. But, your loan terms won’t change, meaning your payment and agreed-upon interest rate will stay the same, even if the company you make a payment to changes.
How the secondary mortgage market works
The secondary mortgage market is designed to ultimately allow investors to benefit from the earnings made from a mortgage loan. This process is somewhat complicated, though, and most investors can’t just buy a mortgage from a lender.
Typically, lenders sell mortgages to loan aggregators — companies that pool together multiple loan contracts — or to a government-sponsored entity (GSE), such as Fannie Mae or Freddie Mac. The pooled-together loans are then securitized. The securitization process packages multiple loans into a single investment known as a mortgage-backed security (MBS).
Mortgage-backed securities are then purchased by institutional investors such as brokers, pension funds, insurance companies and hedge funds. These MBSs may then be further packaged into investment products for retail investors, such as in a real estate-related mutual fund.
Key players in the secondary mortgage market
The secondary mortgage market is composed of institutions and government-backed entities that buy and sell mortgages for investment and liquidity purposes. Here are the key players in the secondary mortgage market:
- Mortgage lenders: Mortgage lenders are the banks, credit unions and private lenders that offer real estate loans. Lenders loan money for the purchase or refinancing of your home or investment property.
- Mortgage aggregators: Mortgage aggregators are private entities that package loans into bundles to be securitized into a mortgage-backed security. These aggregators then sell off these MBSs to a securities dealer or broker.
- Government-Sponsored Enterprises (GSEs): Some loans are sold to government-sponsored entities (GSEs) like Fannie Mae and Freddie Mac. These loans must meet the conforming loan standards set by the Federal Housing Finance Agency (FHFA). These can also be securitized into MBSs for resale.
- Investors: Once mortgages are packaged into an investment, large inventors such as pension funds, insurance companies and hedge funds buy mortgage-backed securities. They may package these MBSs into another investment product or retain them in their own portfolios.
In some cases, mortgages are purchased and held by the government directly. This is the case for many FHA and VA loans.
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Pros and cons of the secondary mortgage market
The secondary mortgage market provides cash flow to lenders so they can keep originating new mortgages, but it can also cause issues for investors if borrowers default on loans. Here are a few pros and cons of the secondary mortgage market:
Pros
- Provides liquidity to mortgage lenders
- Allows investors to access mortgage income
- Ultimately lowers mortgage costs for borrowers
- Makes longer mortgages available (such as 30-year and 40-year mortgages)
Cons
- High standards may make it more difficult for less qualified borrowers to get a loan
- If borrowers default, it can affect many investors
- Pension funds may be at risk if there is a drastic increase in foreclosures (as there was in 2008)
FAQ
How does the secondary mortgage market affect individual borrowers?
It indirectly benefits borrowers by providing lenders with the liquidity to offer more loans at competitive interest rates.
Are my mortgage terms affected if my loan is sold in the secondary market?
No, the terms of your mortgage, including your interest rate and payment schedule, remain the same even if your loan is sold.
Can I choose not to have my mortgage sold in the secondary market?
Generally, no. The decision to sell a mortgage is up to the lender, and it's a common practice in the industry.
What happened in the secondary mortgage market during the 2008 financial crisis?
The market faced significant challenges due to high levels of mortgage defaults, leading to a reevaluation of lending practices and increased regulation.
Bottom line
Even though you might not directly interact with the secondary mortgage market while searching for a new home, it plays a crucial role in enabling lenders to offer new loans and maintain competitive interest rates. This market's behind-the-scenes operations ensure greater liquidity in the housing finance system, ultimately benefiting homebuyers with more options and better terms.
Article sources
- U.S. Securities and Exchange Commission, "Mortgage-Backed Securities and Collateralized Mortgage Obligations.” Accessed April 24, 2024.
- Federal Housing Finance Agency, "A Brief History of the Housing Government-sponsored Enterprises.” Accessed April 24, 2024.
- Federal Housing Finance Agency, "Conforming Loan Limit (CLL) Values.” Accessed Apil. 24, 2024.
- U.S. Department of Veterans Affairs, "VA Home Loans.” Accessed April. 24, 2024.
