Let me first state I'm not a finance guy and just trying to get a better understanding of debt. All my life I've heard is that "the bank loans you money to buy your house" but that doesn't exactly seem to be the case. Every mortgage I've ever had or any more I know anyone else that has gets the initial mortgage from a bank but that mortgage is then sold to Fannie Mae/Freddie Mac.
But Freddie Mac is government sponsored (what does that even mean?) that buys mortgages and sells mortgage backed securities. It's market cap is only $450mil but holds $2Trillion in assets. Apparently the federal reserve buys these Mortgage backed securities to the tune of owning ~98% of residential morgates. Is the Fed introducing currency into the market through inflated values of housing?
In other words, my understanding is you go to buy a house and you need a mortgage. The debt flow goes Bank --> Freddie Mac --> Federal Reserve at the same time the federal reserve is printing record amounts of money. Is the housing market how they are distributing the printed money to the masses causing the record levels of inflations we're seeing?
Investors choose the level of risk they are willing to take. Mortgage interest rates are typically pegged to the 10 Year Treasury rate. You will find that Mortgage rates run about 1.5% - 1.75% above the 10 Year Treasury note. 30 Fixed Mortgage rate was above 4.5% last week haven't noticed what it is this week.
So investors know the 10 Year Treasury note is the safest place to park long term cash for things like retirement funds but the low rate of returns requires them to find higher yields in safe investments as well. Park a portion in Treasuries then park another portion in Mortgage Backed securities. Finally they will choose more risky investments to generate higher returns and that is how they create a safe fund with decent returns by diversifying investments.
Financial institutions can use the Fed Discount funds for short term funding to create liquidity which means they have funds to lend. The Fed Discount Rate has been near Zero since the housing crisis. The Discount Rate is also referred to as the Overnight Rate since these are very temporary funds.
A lender Originates a mortgage and sells in into the Secondary Market immediately and the lender keeps Origination Fees and Yield Spread Premiums. Yield Spread Premium is a fee paid for selling a loan generating a higher returns than otherwise available in a wholesale environment. Loans must meet specific requirements to be sold on the secondary market.
In normal times the Fed does not have to hold large amounts of Mortgage Backed Securities since the secondary or private market has a large appetite for these safe investments. During the housing crash the Fed had to rush in and but up Mortgage Backed Securities to prevent every lender in the world from going under.
In the Secondary Market a large number of mortgages are bundled together to create a single fund. We'll use all round numbers for a simple explanation. Bundle all 30 year fixed rate loans together for a total fund of 10 billion dollars. These are all conventional loans with credit scores above 700 and have either 20% down payments or have mortgage insurance equivalent to those with 20% down. Every loan is guaranteed to meet strict underwriting guidelines. Any loan that defaults will be bought back or replaced by the seller of the mortgage with an equivalent loan of equal values.
This fund will pay a very low rate of return but is a no brainer safe long term investment for investors looking for long term safety. Funds can be built around combinations that are also so mind boggling that if something goes wrong you get the housing crisis.