What happens to a mortgage once you sign on the dotted line?
A lot. Experts warned us it would be difficult, if not nearly impossible, to track a loan all the way through the financial system, but Dateline NBC was able to do it as best as anyone can. Technically, it involves tracking the risk associated with the loan, not just the loan papers themselves.
We followed loans from two different borrowers – Delores Parker-Jackson in California and Paula Taylor in Massachusetts – and found that coincidentally, some risk derived from both their loans ultimately was bought by the same mutual fund, Regions Morgan Keegan Select High Income Fund. So an investor in that particular mutual fund owned a portion of the risk from both women’s mortgages.
The risk derived from those loans took a common, though indirect, path to the mutual fund. First, each mortgage was packaged with thousands of other loans in separate mortgage-backed securities. Those securities in a sense blended the loans together to spread the risk across the entire pool. Each security was then broken into sub-pools, called classes, categorized by level of risk, reflecting the range of risk throughout the security. Each class was treated as a single instrument, and portions of it were sold to investors.
The most common investors were trusts called Collateralized Debt Obligations (CDOs). In turn, portions of the CDOs, themselves giant pools of debt, were sold to institutions – banks, mutual funds, pension funds, etc. – which collected interest on those investments.
The performance of those CDOs depended on the ability of individual borrowers to keep up with their mortgage payments. See more details about the CDOs here.
Sources: First American CoreLogic, ctslink.com, Securities and Exchange Commission, Pershing Square Open Source Model, Inside Mortgage Finance, Total Securitization.