The term whole loan
The term whole loan is used in the secondary mortgage market to discuss a loan that is sold in full rather than being merged with other mortgage loans. When a buyer acquires a whole loan the buyer assumes the full commitment of the loan, rather than sharing the risk with other investors. Of course, the buyer also gets all the potential profits associated with the loan, including late fees, interest, and so on.
Banks buy and sell loans all the time in a variety of ways. The products are packed for the secondary mortgage market with different types of investment styles in mind so that the bank will tend to find interested investors who will be ready to make purchases. On the other hand, banks spend the money they generate by selling loans to increase their capital, which can be used to make multiple loans and to engage in other financial business. The debtor who owes money on the loan usually finds out about the sale after that fact.
In the case of a whole loan a seller usually buys a group of loans packed together, instead of just one. In some cases, buyers will contract with the seller to have the seller handle the loan management. The buyer pays a fee for this service and does not have to worry about collecting loan payments and handling other administrative tasks related to the entire loan it holds. Sellers in turn get the money from the sale and can enjoy a stable profit on the loan as long as it is in service.
The risk of an investment in a whole loan varies depending on the credit rating of the loan, the economic climate, and other factors. Investors who buy entire loans usually try to distribute their risk so that failure of some investments will not be disastrous for the investor’s total portfolio.
By contrast, through securities and other types of secondary mortgage market, products pass through groups or pools of loans that people can buy. Investors assume individual loans in the group in the same way they do with a whole loan, and their risk is instead spread. Lenders trying to sell loans with a mix of credit ratings can use such products to create mixed quality packages. Investors would not buy bad credit loans independently, but they may be willing to take the risk if the pool also has high credit loans.