Mortgage tips

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03.Mortgage funding

RMBS Issuance
Smaller lenders don’t necessarily operate on the deposit and loan system associated with the larger banks, where lending is primarily funded by money deposited in their accounts. The supply for their lending is enabled by wholesale funding, in particular through residential mortgage backed securities (RMBS).

RMBS are an investment bond backed by residential debt. Basically, a bank or mortgage originator organises your home loan, and your loan is then bundled with other home loans and sold to a trust. To raise the money required to buy these home loans, the trust issues a bond to wholesale investors. Your principal and interest payments are collected by the mortgage originator and passed on to the trust. The trust then uses these cash flows from the home loans to pay interest and return the principal to investors.

In Australia, the volume of RMBS plunged in 2009 in the wake of the GFC. RMBS are crucial for smaller non-deposit taking lenders and critical for competition in mortgage lending and, as a result, the federal government has been propping the RMBS market up since 2008 by investing in the bonds.
 

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A better system

The Danish mortgage system is cited by experts, such as billionaire philanthropist George Soros, as a model example of resilience and transparency. Similar to the RMBS issuance in use by smaller lenders here, the system has some characteristics that would appeal to many Australians.

  • Transparency When a Danish mortgage bank grants a home loan, it sells an investment bond with matching maturity date and interest payments that correspond with the borrower’s loan repayments. This bond is then listed on the stock exchange where the price is available for all to see on a daily basis. The homeowner knows exactly where the funding for their home loan is coming from and how much it costs.
  • Competition The open and stable market for these bonds provides competitive and reliable funding for smaller mortgage lenders and operates outside the traditional banking system of loans and deposits.
  • Buy Back A Danish homeowner can square off their mortgage either by paying off the loan or buying the bonds themselves. This is useful because the price of homes and the price of the bonds are generally correlated, so if home values fall so does the price of the bonds. Therefore, if house prices decline, the amount homeowners must pay to retire their mortgage also declines.
 
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