It's a slow Monday. Some people go for a walk, some do the crossword puzzle, I like to look at primary-secondary mortgage spreads! Let's see how the Fed's little program of waiving in Freddie and Fannie mortgage backed securities (MBS) is doing and who it is helping? Right now a 30-year conventional conforming fixed rate mortgage is offered at 5.375%. Lets track $1 billion of 5.375% mortgages as they go from the originator (mortgage banker) to Fannie Mae for a credit guarantee and then finally to the MBS investor (the Fed).
Mortgage rate - 5.375% PRIMARY RATE
FNMA Guarantor Fee (.25)
Mandatory Servicing Fee (.25)**
Excess Servicing Fee (.375)***
Security Rate 4.5% Price 100.84375 = SECONDARY RATE 4.398%
** The mandatory servicing fee is the fee that Fannie dictates the servicer of the loan to take on the unpaid principal balance to make sure they have enough cashflow to service the loans. Servicing entails collecting principal and interest payments, collecting home insurance and real estate taxes, reporting delinquencies and resolving defaults.
*** The excess servicing fee is the remaining spread over and above the mandatory servicing fee. That excess flow is capitalized and put on the mortgage bank's balance sheet as an asset. The value of 0.375% is approximately 1.5% or 1.5 points present valued today (just trust me on that one!)
Therefore, the mortgage originator sold fixed rate mortgages with a rate of 5.375% to a MBS dealer in the form of a Fannie Mae 4.5% MBS. The price of a Fannie 4.5% is right now is 100.84375 Think about that. The mortgage originator lends $1,000,000,000 and then sells the loans for $1 billion x 100.84375% = $1,008,437,500. Then remember he also makes 1.5% on the excess servicing. That's $15 million. Add that together and that's $23,4375,000. Not bad eh?
The Fed has "intervened" in the secondary mortgage market without regulating what the originators are charging borrowers in the primary market! The originators are making a killing. At least somebody's making money!