I see these two… entities mentioned frequently in articles and discussions about the US economy. It’s still not clear to me what status they have and what role they take in the mortgage market. They’re kinda independent companies, but also seem to have some kind of federal-level status? We don’t have anything like the two FMs over here.
Yeah, I saw those links, but I don’t really understand them. How come we don’t need a Fannie Mae? What is a “market-maker”? Etc.
I don’t really understand Fannie Mae and Freddie Mac either. I think most Americans who aren’t involved in finance are only vaguely aware of these two companies.
We need someone who can give us the Idiots Guide to what these companies do.
The US government can set up corporations to fill certain needs. The Post Office is a government-chartered corporation. They have to turn a profit just like any other business, which is why the price of stamps goes up every couple of years, and why it costs $100 to get a passport. Government-chartered corporations can fail just like any other business venture might, altho in practice the government will usually bail them out. They’re not government agencies, altho they do tend to have that sort of aura about them.
If a mortgage company lends you a mortgage, then it has a continuing responsibility to administer it (i.e., make sure you are paying on time). What Freddie and Fannie do is “purchase” the mortgage from the original lender, turning it into a security, which then can be bought and sold. That way, the original mortgagor can take the cash it gets from Freddie and Fannie and make more loans and be relieved of the burden of having to administer your mortgage.
The benefit is supposed to be that it allows mortgage companies to concentrate just on issuing mortgages rather than administering them.
One of the drawbacks – for the mortgagee – is that once your mortgage is sold, you are no longer dealing with a lender with whom you have a personal relationship.
While banks are in the business of making loans–they employ loan officers, advertise mortgage services, etc.,–they don’t necessarily want to be exposed to the risks of YOUR mortgage for the next ~30 years. Instead, the banks do the work putting together the paperwork and then sell the mortgage to Freddie or Fannie, taking a cut. So, if you stop paying your mortgage, your local bank isn’t out (all) of the money; they’ve passed on the risk.
Freddie Mac, in turn, takes a whole bunch of individual mortgages and bundles them together, selling slices of these bundles to investors like pension funds. This is much like how mutual funds buy a whole bunch of individual stocks, bundle them together, and sell slices of the bundle to you and me. To get others to buy these bundled mortgages, they also guarantee the performance. So again, if you default on your mortgage, Freddie is out money because they guaranteed the loan to the investor. The investor would be out some money also, but would be able to recover some of the loss from Freddie.
For some reason when I got my mortgage from US Bank, I remember having to sign something explaning to me that Freddie or Fannie may buy the mortgage, but I thought they say other then who owns it, nothing else will change. Maybe they just meant the terms, but I thought they said I would keep making the payments to the same place as well. Basically, I wouldn’t even notice it had happened.
My mortgage has been sold three or four times, but not to one of the Macs - Wells Fargo owns it now. This is a huge pain in my ass, as every time they sell it I have to pay somebody different. It’s been Wells Fargo for a couple years now, though.
So what can a “government-sponsored enterprise” not do that a regular private corporation could?
Guaranteed performance, perhaps?
Passports are issued and managed by the State Department. The Post Office is merely a government location where you can apply for one out of simple convenience to you and the government. When you pay your passport fee, you are required to pay it to the US Department of State and not the Post Office.
Who outside of the fictional people in “It’s a Wonderful Life” or the extremely wealthy have every had a close personal relation ship with their bank?
So let me get this straight - banks take on a loan, then sell it on to Fannie Mae or Freddie Mac, taking a small cut from the interest on the loan but avoiding the risk that the loan might not be repaid at all. But the risk still exists, and it is taken on by Fannie Mae.
This all sounds like routine financial shenanigans, that could be taken on by private financial institutions under contract law. I don’t see why quasi-federal agencies need to be involved. Or am I mistaken in thinking of Fannie Mae et al as federal agencies?
I didn’t say “close, personal” relationship, did I? But the current mortgage crisis perfectly illustrates the situation, because once a mortgage has been bundled with other mortgages and converted into a security, a mortgagee no longer has anyone to go to to renegotiate the terms of the loan if there is a risk of default.
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They are not federal agencies. They are owned by private shareholders.
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When the F.N.M.E. was created in 1938, apparently there weren’t enough private companies doing it. The purpose was to make mortgages available to a much wider proportion of the public.
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The government regulation of the agencies is supposed to provide a higher level of standards, best practices, security, etc., and act as a pressure on the private market to adopt those standards.
::raises hand::
There are investors who buy loans, and there are servicers who collect payments, keep track of escrow accounts, negotiate loan modifications, etc. Sometimes, an investor services its own loans (i.e. Countrywide Home Loans, Wells Fargo). Oftentimes, an investor outsources the servicing (i.e. Countrywide also services other loans. Wilshire Credit Corp. is a big servicer, too).
So, your loan could be sold and you wouldn’t really notice, since the servicing agent didn’t change, meaning who you paid, and contacted with issues regarding your loan, also didn’t change. If the servicer does change, you are required to receive a “hello letter” informing you of this change in who you are going to be making payments to.
Slight nitpick, but the borrower is the mortgagor, not the mortgagee.
And loan servicers do renegotiate the terms of the loans in cases of default. Especially in this current foreclosure boom, servicers are often offering payment plans. To get one, though, a person needs to be able to provide sufficient evidence that they will be able to stick with the change in terms, and the investor has to sign off on the change, presuming it makes business sense to do so.
The caveat is that this isn’t something the lender has to do, and they will make the borrower jump through hoops to get it done. Somebody who expects the lender to fall all over themselves to offer an alteration of the loan terms is going to be sorely disappointed.
I will also this opinion, though. One drawback, IMHO, of the proliferation of the secondary market is that the incentive of originators of loans to make sure they are sustainable for the life of the loan is diminished. If I’m going to earn a commission for originating a loan, but then I’m going to sell it to someone else, why do I really care if the loan defaults in a year or two? It isn’t like I’m going to be the one trying to collect payments for the next 3 decades. This, IMHO, is the biggest impetus of the real estate mess we are seeing, where tons of people got loans they couldn’t really afford.
I believe that one critical aspect of both companies that hasn’t been mentioned is that although essentially the business act like completely normal ones when everything is going well and they are making a profit, the federal government is committed to propping them up if they become insolvent. The backing of the federal government is what has made them uniquely positioned to securitize mortgages, but it also potentially puts the federal government on the hook for an enormous liability if they really screw up or the housing market collapses. Although the debts are backed up by the federal government, the profits for the shareholders aren’t and that has led to their recent precipitous market drops.
The NYTime’s coverage and explanation has been excellent:
This has a few diagrams that I found very helpful in understanding more about their role.
So wait, many US mortgages are ultimately secured by the US government?