When I’m speaking to investors — generally those who aren’t familiar with mortgage notes — one of the main questions I get is “Why are they selling the note?” The answer to that question is, that depends on who “they” is.
Individual Investors
The individual investor who has a portfolio of notes can sell them for several reasons. One reason may be that they want to become liquid (they want the cash to acquire another asset). It could have been their overall exit strategy. For example, they may have purchased several non-performing notes and then worked them to re-perform. They may have purchased them for 50% of the unpaid balance and now they are performing and can be sold for 90% to par.
Another situation may be that the seller wants to become liquid in order to invest in another opportunity that may be more profitable. There doesn’t necessarily have to be anything wrong with the note, but rather the seller wants to move into another asset and decides to sell their notes and receive the cash in order to acquire the next asset or investment opportunity.
In other cases, I have seen individual investors purchase a performing note and then it becomes non-performing and the investor either doesn’t know how to work it out, or doesn’t want to work it out and therefore sells the note. This is a great opportunity for a deal because in some cases the seller may be willing to sell at a greater discount in order to offload the headache.
Banks
Mortgage notes are bought and sold every day. Even though banks originate mortgage notes, they are not in the business of managing properties. Banks are in the business of making money and they do this by making loans.
Banks are required to keep a reserve of cash available to make loans and other banking needs for customers. This is a federally mandated requirement. If the bank holds on to these assets, whether they are performing or non-performing, it limits their ability to make loans. By selling the mortgages, they unload the loans, make a commission on the sale, become liquid and have more cash to make more loans.
In some cases, the bank may hold the loan for 10 or 15 years and then sell it off in order to become liquid. For example, when a person takes a 30-year loan from the bank to buy a new house, they generally put a 20% down payment, and they may pay points. For the first 10 to 15 years, the borrower’s monthly payment is paying interest, and very little principal. Halfway through that 30-year mortgage, it starts to balance out and the borrower starts to pay more principal than interest. In this case, the bank has pretty much milked the loan and is ready to sell it so that they can start the process over again.
Hedge Funds/Private Equity Firms
A hedge fund or sometimes a private equity fund will sell the assets after the fund has matured. The fund acquired the assets with investors who decided to put their money into this fund for a certain period of time and for a return on their investment. The investors may receive monthly or quarterly payments for investing in the fund, but when the fund matures, which may be in some cases 5 or 10 years, the assets are sold.
Conclusion
Individuals and institutions sell notes for various reasons. There doesn’t have to be something wrong with the note simply because someone wants to sell it. In all cases, it is important to do your due diligence to ensure you are getting a great deal.
