Demand Mortgages

[joestein]

I am not sure who really controls the demand. Once a loan originator sells the loan on the secondary market, they don't care so much about the interest rate. They just collect payments and collect a service fee. Does the investor control the ability to demand or is it the mortgage servicer? Servicers con't really care about the rate. Originators made their money up front. Originators might like demands because it would force people to refinance at newer rates that those originators can resell. Investors would like the higher rates of return, but they bought the securities using money that was priced based on the rates at the time. Of course, for the most part, the Fed is the biggest buyer of these securities and they probably don't want to be demanding on all these mortgages which could cause huge issues in both the mortgage industry and housing.

All of which makes sense.... but we will see what happens. I wonder what percentages of mortgages have demand clauses?

 

[Big Matt]

I am not sure who really controls the demand. Once a loan originator sells the loan on the secondary market, they don't care so much about the interest rate. They just collect payments and collect a service fee. Does the investor control the ability to demand or is it the mortgage servicer? Servicers con't really care about the rate. Originators made their money up front. Originators might like demands because it would force people to refinance at newer rates that those originators can resell. Investors would like the higher rates of return, but they bought the securities using money that was priced based on the rates at the time. Of course, for the most part, the Fed is the biggest buyer of these securities and they probably don't want to be demanding on all these mortgages which could cause huge issues in both the mortgage industry and housing.

Let me further explain my post from earlier in the thread. Once a mortgage is placed in a mortgage backed security the ownership of the loan moves from the originator/servicer to the investor. In that case the demand feature is extinguished. In fact, investors desire securities that will pay interest for a long period of time. At origination the investor probably priced the security assuming a life of 5-7 years so they discounted the cash flows for the interest stream based on that. In this environment with rates rising the chance of a refinance is very remote, so the loan will probably stay active for much longer than 5-7 years on average. That makes the interest stream more valuable.

What the call feature was for originally was the case where lenders would hold the loans in portfolio and on their balance sheets. This was the model before mortgage backed securities became common in the 70s and 80s. In the scenario we're discussing on this thread the lender's cost of funds could be higher than the return on the loan so the asset could have a negative return in relation to what they could earn by loaning the money using current rates.