· Note - An unconditional promise to repay a fixed sum of money according to specific terms.
· Note Rate - The interest rate specified in a Note.
· Spread - The difference between Note Rate and Par Rate.
· Par Rate - The interest rate at which a Note may be sold for 100% of its Face Value.
· Face Value - The original amount borrowed as specified in a Note.
· Above-Par Rate - The rate at which a Note may be sold for more than 100% of its Face Value.
· Yield – Interest income on a Note, less acquisition cost, expressed as an annual percentage.
· Premium – Sale Price of a Note with an Above-Par Rate less its Face Value.
Notes are Negotiable Instruments.
A Note represents a future stream of income on a particular amount of money invested. It can be sold like any other asset. However, none of the terms of the promise may change upon sale.
A Yield Spread Premium is paid for Above-Par Notes
Lenders sell their Notes to buyers such as Fannie Mae, Freddie Mac, pension funds and private investors. Market factors determine the Par Rates on any given day. Notes with Above-Par rates can be sold for more than their Face Value because buyers are willing to pay a premium for a higher yield.
Lenders sell their Notes
The amount of money a particular lender has available to make loans is limited. When it’s gone, the lender must stop lending or get more money. One way to get more money is to sell Notes from loans the lender has already made.
Most Lenders borrow the money they lend.
Banks lend more money than they actually have on deposit by borrowing from the Federal Reserve. However, funds borrowed from the Federal Reserve generally need to be repaid the next day. For this reason, banks generally sell their Notes immediately closing. If Note Rate is Above Par the bank can sell the Note for more than its Face Value, repay the Fed and keep the difference as profit. Non-bank lenders use an identical process, except that they borrow the money they lend from banks and private investors rather than from the Federal Reserve.
Lenders use Brokers in order to save money.
Marketing is the largest single business expense for lenders. Maintaining retail branches, paying staff and advertising directly to consumers is very costly. Brokers eliminate this expense by bringing ready, willing and able borrowers to the table at no cost to the lenders. Lenders then compensate Brokers by sharing a portion of the Yield Spread Premium expected upon sale of the Note. This “wholesale” relationship enables Brokers to offer the same rates, terms and costs as the lender would offer a retail customer.