Sometimes lenders are asked about the “secondary” markets by borrowers. It is a legitimate question, especially as the existence of a secondary market for home loans leads to lower rates for borrowers, and also helps why Fannie Mae and Freddie Mac exist.
Let’s start with a simple example. Let’s say a person (“Joe”) has $1,000 in savings. Joe is approached by his brother who wants to borrow $1,000. They have a good relationship, the brother is a good credit risk, a deal is struck and the $1,000 is loaned out by Joe.
The following day Joe is approached by his sister, an equally good risk, who wants to borrow $500. In spite of wanting to help, and earn interest, Joe has no money to lend, so must say “no” to his sister, and in fact must say no to every other opportunity to lend money out until his brother pays him back. If someone approached Joe, however, and offered to “buy” the first loan from him, and pay him $1,001, two things would happen. First, Joe’s brother would start sending his payments to the buyer of the loan. But second, and more importantly, Joe would make $1 and have $1,000 to lend out to his sister or other good credit risks.
This is exactly what happens with many lenders: they make a loan, and then sell the loan to a buyer (who commences collecting the monthly payments), and turn around and make more loans to other good credit risks. In many cases the buyer of the loans are Freddie Mac or Fannie Mae, or large banks who then begin collecting the monthly payments from the borrower. And lenders have the ability to do what they do best: offer good financing rates to their clients.
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