The Role of Freddie Mac in Real Estate Financing

Instructor: Shawn Grimsley

Shawn has a masters of public administration, JD, and a BA in political science.

One of the biggest players in the secondary mortgage market is Freddie Mac. In this lesson, you'll learn about the history of Freddie Mac and its role in the mortgage market. A short quiz follows the lesson.

Who's Freddie Mac?

Freddie Mac isn't a person, it's a government-sponsored enterprise (GSE) whose official name is the Federal Home Loan Mortgage Corporation. Just what the heck is a GSE? A GSE is a privately owned company created by the United States Congress that serves some public purpose. GSEs often have a big advantage over run-of-the-mill private companies because the US government implicitly guarantees the debts and obligations of GSEs like Freddie Mac. If Uncle Sam has your back, you have quite a competitive advantage in the business world.

Role in Mortgage Markets

So what does Freddie Mac do in the mortgage industry? The first thing you need to know is what Freddie Mac doesn't do: it does not provide house loans. Instead, it buys mortgages on the secondary mortgage market. The primary mortgage market is the market where borrowers seek lenders to create mortgage loans. Many times these lenders will immediately turn around and sell the home loans they just originated (i.e., created) on what's known as the secondary mortgage market.

How does Freddie Mac help the mortgage and housing market? Freddie Mac supports the market by helping to provide liquidity, which is the ability of a financial asset to be easily and quickly bought and sold in a market. For example, money is very liquid, but houses take quite a bit of time to sell. In fact, a bank that gives a 30 year loan may end up tying up a great chunk of cash for 30 years, which means it can't loan as much money to other people who want to buy a home.

What does Freddie Mac do with all the mortgages it buys? It will actually hold some of the mortgages as an investment, which means it will be entitled to the payment on the loans. On the other hand, Freddie Mac may securitize some of the mortgage loans. This means that Freddie Mac pools a bunch of mortgages it buys in the secondary market and turns them into investments called mortgage-backed securities. Mortgage-backed securities are a type of debt investment like a corporate bond. As an added bonus to investors, Freddie Mac guarantees the payment of the mortgages backing the securities for a fee.

Freddie Mac vs. Fannie Mae

Fannie Mae, or the Federal National Mortgage Association, is a GSE that was chartered back in 1938. Fannie is also involved in making purchases in the secondary mortgage market where it may hold or securitize the mortgage it purchases. The big difference between Freddie and Fannie is from whom they buy. Fannie generally buys from big commercial banks like Wells Fargo, US Bank and Bank of America, while Freddie buys from small thrift banks.

A Brief History of Freddie Mac

Congress chartered Freddie Mac, or more formally the Federal Home Loan Mortgage Corporation, in 1970. It was created it to help stabilize the mortgage market for residential properties and to help make housing more affordable to the general public.

As you might have guessed, since it holds mortgages and often guarantees the mortgage-backed securities it sells to investors, Freddie Mac got into serious financial problems as a result of the housing crash and related financial crisis of 2007. In fact, the government's implicit guarantee of Freddie's obligations became quite explicit in 2008 when the federal government pumped about 188 billion into Fannie Mae and Freddie Mac. Freddie Mac and Fannie Mae entered into a conservatorship in 2008 under the supervision of the Federal Housing Financing Agency and still function under the conservatorship as of October 2015.

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