Federal Home Loan Mortgage Corp (FMCCK)

If you got a mortgage for a house, a company like Freddie Mac probably touched that loan. Freddie Mac is the business that sits between your bank and the investors who ultimately own your mortgage. It is a government-created company that has one main job: keep the flow of money for home loans moving.

How it works

Here is the basic story. A bank makes a mortgage to a homeowner. The homeowner promises to pay back the loan over 15 or 30 years. The bank has the loan on its books and has tied up money making it. The bank wants to get that money back so it can make more loans.

Freddie Mac buys that mortgage from the bank. The bank gets its money back immediately. Freddie Mac now owns the mortgage and the homeowner’s promises to pay. Freddie Mac then takes a bunch of these mortgages — hundreds or thousands of them — bundles them together, and sells them to investors. These investors buy securities backed by the mortgages. When homeowners pay their mortgages, the money flows through to the investors.

For doing this work, Freddie Mac charges a fee. It takes a small cut of the mortgage payments. This is how it makes its money.

Why it matters

Without Freddie Mac and Fannie Mae, the mortgage market would work very differently. Banks would have to hold all the mortgages they made, which means they would run out of money to lend. Interest rates would probably be higher because lenders would keep the full risk on their own books. The mortgage market would be broken into regional pieces instead of being national. Home loans would be harder to get and more expensive.

Freddie Mac pools risk. No single investor owns the full risk of a single mortgage defaulting. The risk is spread across thousands of mortgages and thousands of investors. This makes mortgages cheaper and easier to buy because no investor has to worry about losing everything on one bad loan.

Where the money comes from

Freddie Mac’s profit comes from several places. The main source is the guarantee fee it charges on every mortgage. When homeowners make their monthly payments, Freddie Mac takes a cut. If you have a mortgage with a balance of 300,000 dollars, Freddie Mac might take 0.02 percent of that per year as its fee. That seems small, but with millions of mortgages in the portfolio, it adds up.

Freddie Mac also makes money from servicing fees — payments it gets for collecting the monthly mortgage payments from homeowners and handing the money to investors. It also profits from the mortgages it holds in its own portfolio and the interest it earns on them.

The costs and the risks

Freddie Mac’s biggest expense is when homeowners stop paying their mortgages. When someone walks away from a house or falls too far behind on payments, Freddie Mac has guaranteed the investors their money, so Freddie Mac has to pay out of its own pocket. During the 2008 housing crisis, this became huge. Millions of mortgages went bad, and Freddie Mac owed investors far more than it had in capital. The government had to take it over.

Today, Freddie Mac operates under the government’s control. The government makes sure Freddie Mac keeps money aside to cover potential losses. This is safer but also limits how much profit Freddie Mac can keep or return to its owners.

Geography and risk

Freddie Mac buys mortgages from across America. In a strong housing market with stable jobs and rising home prices, mortgage defaults are rare and Freddie Mac does well. In an economic downturn or a regional housing crash, defaults rise and Freddie Mac loses money. The company’s profits and losses follow the health of American housing.

The company takes on different levels of risk depending on the mortgages it buys. A low-down-payment mortgage in a weak market carries more risk than a large-down-payment mortgage in a strong market. Freddie Mac adjusts its guarantee fees based on the risk of each mortgage.

What to watch

Anyone interested in Freddie Mac should watch the mortgage market. Watch interest rates — when rates fall, homeowners refinance their mortgages, which creates opportunities for fees but also turns over the portfolio. Watch housing prices and employment — they determine whether people can keep paying their mortgages. Watch the Federal Housing Finance Agency, which regulates Freddie Mac and decides what changes to the company’s rules or structure might happen.

You can read Freddie Mac’s annual filings to the SEC to see how many mortgages it owns, what the delinquency rate is, and how its profits and losses are moving. These documents show you where the risks are building.