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Which assets that can be securitized?
– Residential mortgage loans
– Commercial mortgage loans
– Bank loans to businesses
– Commercial debt
– Credit-card debt
– Automobile loans
Which illiquid assets can be securitized?
Any asset capable of producing cash flows can be securitized. Illiquid assets include:
– Leasing activities
– Advertising revenue
– Public-sector assets
Are financial instruments Marketable?
The pool of underlying assets can also consist of marketable financial instruments. In this case, we are moving away from the initial advantage of securitization, which was to take illiquid assets and make them liquid:
– ABS: In this case, we are dealing with the securitization of securities, or securitization squared (ABS squared)
– Fund units, in particular hedge-fund units
Which Techniques of credit enhancement are used?
There are several techniques, known as “credit enhancement,” that can be used to reduce the risk of default.
– Excess spread: the interest rate offered on the securities issued is less than the average interest rate received on the underlying assets.
– Overcollateralization: the overall value of the underlying assets is higher than the total nominal value of the securities issued.
– Subordination: the securities issued are not all identical, but are divided into a series of tranches. The repayment of each tranche is subordinates to (contingent upon) the repayment of the tranche that is immediately above it. The higher tranche is said to be more “senior,” therefore has priority over the intermediate “mezzanine” tranche, etc. The risk is compensated by higher interest rates: the higher the risk of default, the higher the interest rate will be. The lowest tranche, called “equity,” is typically not issued to investors, but is held by the originator.
– Margin deposit: the assignor makes a margindeposit with the SPV.
– Guarantee by a third party: monoline insurance companies specialize in providing guarantees for securitization structures.
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