Rather than attempt to pay cash up front for the purchase of a home, many individuals will seek to borrow a majority of the funds needed through mortgage loans. This enables them to spread the sum over a much longer period of time, usually 15, 20 or 30 years. However, after the money has been borrowed, and although payments are still rendered to the original lender, many mortgages are actually sold off to an organization in the secondary mortgage market.
The primary market consists of the actual lenders and borrowers. It is the bank or lending institution that draws up the contract and terms of the agreement, working out the details with the home purchaser. These organizations decide the amount of principal that will be lent, the interest rate to charge, and how long the loan will be for.
The repetition of this process for individuals and businesses begins to slowly deplete the resources of the bank. Loans can be made for home purchases, or other personal or commercial reasons. As more people are lent money, the reserves of the institution are slowly no longer available for others to use.
Institutions which function in the secondary market purchase these loans from the primary lenders. The reason that the first lender is willing to sell is because they would like to have more funds on hand to lend to other people. The interest charged on these loans is a means to produce a large portion of their income.
After purchasing the home loans, the company will often bundle them together with other similar purchases in an effort to sell them as a security on the stock market. These securities are referred to as mortgage-backed securities or collateralized debt obligations (CDO), amongst other names. Individuals can then purchase shares in these funds, which enables the business to hopefully cover the risk of default and possibly make a profit.
A home buyer need not worry about the loss of their mortgage loans or the bank's inability to cover the payment. The secondary market bears no effect on this. What it does affect is the investor seeking to purchase shares of the securities, especially if a number of borrowers default on their payments. This is a complicated process to understand for many.
The primary market consists of the actual lenders and borrowers. It is the bank or lending institution that draws up the contract and terms of the agreement, working out the details with the home purchaser. These organizations decide the amount of principal that will be lent, the interest rate to charge, and how long the loan will be for.
The repetition of this process for individuals and businesses begins to slowly deplete the resources of the bank. Loans can be made for home purchases, or other personal or commercial reasons. As more people are lent money, the reserves of the institution are slowly no longer available for others to use.
Institutions which function in the secondary market purchase these loans from the primary lenders. The reason that the first lender is willing to sell is because they would like to have more funds on hand to lend to other people. The interest charged on these loans is a means to produce a large portion of their income.
After purchasing the home loans, the company will often bundle them together with other similar purchases in an effort to sell them as a security on the stock market. These securities are referred to as mortgage-backed securities or collateralized debt obligations (CDO), amongst other names. Individuals can then purchase shares in these funds, which enables the business to hopefully cover the risk of default and possibly make a profit.
A home buyer need not worry about the loss of their mortgage loans or the bank's inability to cover the payment. The secondary market bears no effect on this. What it does affect is the investor seeking to purchase shares of the securities, especially if a number of borrowers default on their payments. This is a complicated process to understand for many.
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