1 THE SECONDARY MORTGAGE MARKET: PASS THROUGH SECURITIESCHAPTER NINETEEN THE SECONDARY MORTGAGE MARKET: PASS THROUGH SECURITIES
2 Chapter Objectives Evaluation of secondary mortgage market and FNMA and GNMA Mortgage backed bonds and pass through securities Implications of borrower prepayment
3 Mortgage Markets Primary mortgage market Secondary mortgage marketLenders and borrowers Secondary mortgage market Conduits, investment bankers and investors Mortgage-backed securities
4 Real Estate Debt and Equity MarketsPrivate Public Equity Individuals, Pension Funds Equity REITS, Real Estate Corporations Mortgage Debt Banks, Insurance Companies Mortgage-backed Securities, Mortgage REITs
5 Mortgage Markets Primary mortgage market Secondary mortgage marketLenders and borrowers Secondary mortgage market Federal National Mortgage Assoc. “Fannie Mae” Federal Home Loan Mortgage Corporation “Freddie Mac”
6 Depository Lenders in the Primary MarketCommercial Banks Savings Institutions
7 Nondepository Lenders in the Primary MarketMortgage bankers Mortgage brokers Others
8 Government-Sponsored Mortgage ProgramsFHA-Insured Loans VA-Guaranteed Loans
9 FHA- Insured Loans FHA loans are made by private lenders through various programs (e.g. section203 loans) FHA insurance protects the lender from losses due to default and foreclosure FHA borrowers pay an up front premium, plus a monthly premium for FHA insurance Maximum FHA loan amounts vary depending on an area’s median house price Minimum down payment of three percent
10 VA-Guaranteed Loans VA loans are made by private lenders (available to U.S. Veterans) VA guarantees the lender against loss up to 100% of a property’s value VA charges a funding fee based on the size of the LTVR Maximum VA loan amounts exist No down payment is required and no discount points can be paid by the borrower
11 The Secondary Market Federal National MTG. Assoc., FNMA (Fannie Mac)Federal Home Loan Mtg. Assoc., FHLMC (Freddie Mac) Government National Mtg. Assoc., GNMA (Ginnie Mae) Life insurance companies and other purchases
12 Fannie Mae, FNMA FNMA was organized in 1938 to purchase FHA loansFNMA reorganized in 1968 and authorized to purchase conventional mtgs. in 1970 FNMA obtains funds from the sale of its stock, its MBS, by issuing bonds, and from its earnings The MBSs issued by FNMA and the mortgages they own account for 23 percent of the residential mortgage market
13 Freddie Mac, FHLMC FHLMC was created in 1970 to provide a secondary market for S&L associations FHLMC currently buys both government- underwritten and conventional loans Freddie Mac and Fannie Mae are now operationally similar The MBSs issued by Freddie Mac and the mortgages they own represent 16 percent of the residential mortgage market
14 Ginnie Mae, GNMA GNMA was created in 1968GNMA guarantees the timely payment of principal and interest on MBSs (primarily FHA and VA pools) GNMA also purchases mortgages designed by the FHA for low and moderate- income buyers
15 GNMA Payment GuaranteeGNMA was empowered to guarantee timely payment of PI, on Securities backed by FHA, VA, and FmHA GNMA resulted in an expansion of secondary market Pass-through securities Default risk minimized
16 Operation of Secondary MarketDirect sale programs Mortgage-related security pools
17 Direct Sale Programs Originators Buyers Mortgage companies ThriftsCommercial Banks others Buyers Life insurance companies Eastern thrifts FNMA FHLMC
18 Mortgage Related Security PoolsMBBs MPTs (pass through) MPTBs (pay through) CMOs
19 Mortgage- Backed BondsFixed coupon rate Specific maturities Issuer retains ownership of mortgages Mortgages pledged as security Over collateralization
20 Mortgage- Backed Bonds ContinuedInvestment Rating Quality Diversification Rates Prepayment Appraised value DCR
21 Pricing- Calculator Solutionn= semi annual periods I= required rate PV= present value of bond pmt= semi annual interest payment (stated rate) FV= par value Requires 4 variables to solve for yield or PV inverse relationships between interest rates and bond prices
22 Mortgage Pass-Through SecuritiesMortgage originations are pooled by lenders or FNMA or FHLMC Originators use a securities underwriter Securities represent an individual interest in pool Large or small investors
23 Characteristics of Mortgage PoolsSecurity issuers and guarantors Pass through Participation certificates MBS Default insurance PMI- conventional Guarantee- VA Insured- FHA
24 Characteristics of Mortgage Pools ContinuedPayment patterns Coupon rates and interest rates Geographic distributions Borrower characteristics Pool size Prepayment considerations All of the above can effect pricing