A whole loan is referred to as a single loan that is issued by banks or other lending organizations to a borrower.
They are usually sold in the secondary market to agencies and institutional portfolio managers.
These loans refer to a single loan that is not broken up for resale in secondary markets, such as personal loans and mortgages.
Whole loan is an alternative to securitization, which is when a financial company pools various loans and issues security backed by these loans, referred to as mortgage-backed security.
These are then broken up and sold to investors. Just as the name implies, whole loans are not broken up. Lenders may resell the loans or put them in their books.
In the future, the loans will remain good assets for lending financial companies. It collects loan payments and takes on the risk if the borrower cannot repay them. They are added to the financial institution’s collection of all its loans.
How Does It Work?
Lenders offer various types of loans, such as mortgages or personal loans, to borrowers. Before giving out this financial help, lenders check the borrower’s credit and other important details to know how likely they are to repay.
After giving this loan, lenders can either keep it and collect monthly payments or resell it to investors.
If they keep it and the borrower cannot continue paying, the lender has to try to get the money back. Which might include taking legal action or foreclosing on the property if it is a mortgage.
If lenders sell the loan, investors who purchased it take over the job of collecting the monthly payments. And dealing with any risks if the borrower is not able to pay the bank.
Banks and other financial institutions are often the buyers of these types of loans. And they must follow regulations to ensure they manage the risks properly.
How Do Lenders Make Use of Whole Loans?
Most lenders package and sell their whole loans on the secondary market. This allows for market liquidity and active trading.
Many buyers are available for different loan options in the secondary markets. The mortgage market is one of the best secondary markets, with popular agencies like Fannie Mae as whole loan buyers.
These types of loans are typically bundled and sold through a process known as securitization in the secondary market. Also, they may be traded separately through institutional loan trading groups.
The whole loan secondary market is a unique fourth type of market where institutional portfolio managers buy and sell loans directly with the facilitation of institutional dealers.
Lenders collaborate with these dealers to list different types of loans, including personal, corporate, and mortgage loans.
Active buyers in this market are loan portfolio managers who want to manage their investments by getting these types of loans.
Lenders also have the choice to sell loans through a process called securitization.
In this option, an investment bank assists lenders in organizing, structuring, and selling a portfolio of the loans.
These portfolios are typically bounded based on similar characteristics and divided into various levels of risk, known as tranches, that are rated for investors.
For residential and commercial mortgage loans, there is an established secondary market that is managed by Freddie Mac and Fannie Mae.
These agencies typically purchase securitized loan portfolios from mortgage lenders.
Freddie Mac and Fannie Mae have certain criteria for the loans they buy. This directly affects how lenders underwrite and approve mortgage loans.
What Are the Alternatives to Whole Loans?
Instead of them keeping these loans whole, many banks can combine different loans together and create securities backed by these loans.
These securities, known as mortgage-backed securities (MBS), give investors the right to earn income from the loan payments.
MBS can be divided into different levels, called tranches, based on the quality of the loans in them.
Even though investors don’t directly own the loans, they invest in the right to receive payments from these mortgage loans. Loan servicers still handle the loans.
MBS provides advantages that whole loans don’t. They are very easy and fast to sell, making them more liquid.
Also, they appeal to more investors, which helps lenders get more money to offer new mortgage loans to customers.
However, you should know that there are downsides to MBS. It’s very difficult for investors to review the quality of the pooled loans.
There are lots of parties involved in MBS transactions, which can increase costs and create conflicts of interest.
For instance, lenders may approve many loans to resell and securitize them. But investors prefer lenders to be more careful about who gets a loan.
