SECURITISATION

Vivek Joshi
Department of Business Management
MAHE MANIPAL Dubai Campus

WHAT IS SECURITISATION?
Securitisation is a financing technique that involves the
conversion of usually illiquid assets with predictable cash
flows into marketable securities. Essentially it is the process
of creating securities backed by pools of assets with the
securities then being sold to institutional investors

#Securitisation was first developed

in the U.S. in the early 1980's with
the technique brought to Australia a
few years later.

Securitization is a financing technique that allows the corporation to

separate credit origination and funding activities. The technique comes
under the umbrella of structured finance as it applies to assets that
typically are illiquid contracts. It has evolved from tentative beginnings in
the late 1970s to a vital funding source with an estimated total
aggregate outstanding of $8.06 trillion (as of the end of 2005, by the
Bond Market Association) and new issuance of $3.07 trillion in 2005 in
the U.S. markets alone.

Securitization is the process of homogenizing and packaging

financial instruments into a new fungible one. Acquisition,
classification, collateralization, composition, pooling and distribution
are functions within this process

According to Mark Fisher & Zoe Shaw

Securitization is the packaging of designated pools of

loans or receivables with an appropriate level of credit
enhancement and the redistribution of these packages
to investors. Investors buy the repackaged assets in
the form of securities or loans which are collateralized
(secured) on the underlying pool and its associated
income stream. Securitization thereby converts illiquid
assets into liquid assets.

involve an entity (the "Seller") selling a pool

of assets to a special purpose vehicle
("SPV"- being a trust or a company). As the
transaction is generally structured as an
asset sale, the assets are removed from the
Seller's balance sheet. The SPV, in order to
fund the purchase, would issue mortgage or
asset-backed securities ("MBS/ABS") which
are sold to institutional investors in the
domestic or international capital markets.
Investors therefore rely on the cash flows
from the pool of assets (and not the Seller)
for repayment of their investment.
Securitisation separates the risks inherent
in any corporate finance transaction and
transfers these risks from the Seller to the
purchaser of assets.

SECURITISATION PROCESS

SPV
Identification Process

Issue of Security
after
Denomination

Redemption/
Payment

Transfer Process

Credit Rating

Types of Securitisation
Securitization has two prototypical transaction types

cash and synthetic

Cash & Synthetic

Securitisation

In cash securitization, the corporation pools assets together for

purchase by a bankruptcy-remote special purpose vehicle (SPV)
or special purpose entity (SPE); purchase is effected by issuing
multiple tranches of securities based on the cash flow generating
capacity of the asset pool.

In synthetic securitization, the corporation buys a credit

default swap (or, less commonly, a total return swap) on
certain asset exposures as a kind of default insurance for credits
that remain on balance sheet; the swap can be an outright trade
or it can be embedded in the balance sheet of an SPE against
which liabilities are issued.

Synthetic securitisation refers to structured transactions in

which banks use credit derivatives to transfer the credit risk of
a specified pool of assets to third parties, such as insurance
companies, other banks, and unregulated entities. The
transfer may be either funded, for example, by issuing creditlinked securities in tranches with various seniorities
(collateralised loan obligations or CLOs) or unfunded, for
example, using credit default swaps. Synthetic securitisation
can replicate the economic risk transfer characteristics of
securitisation without removing assets from the originating
banks balance sheet or recorded banking book exposures.

Securitisation and Impact on Balance

Sheet
Financial institutions and businesses of all kinds use cash
securitization to immediately realize the cash value of their illiquid
contracts or remove assets from the balance sheet. However, balance
sheet restructuring via securitization is much harder to effect under
Some accounting practices prevailing in the world.
It is a boon to financial institution- from the risk management point of
view the lending institution have to absorb the entire credit risk by
holding the credit outstanding in their own portfolio. Securitisation
provides an opportunity for diversification. It is worthwile to note that
the entire transaction relating to securitisation is carried out on the
assets side of Balance sheet, that is one asset (loan) is converted into
cash. This helps balance sheet to stay healthy.

Other Points are:

Reinvestment opportunity
Liquidity
Higher returns
Available margins
Tax concessions continue {tax shield advantage}
# All the above will result in capital adequacy for the
bank and bank will not loose any opportunity of making
a good investment & this adds to the performance.

Simplified Bank balance sheet

before and after securitisation
Balance sheet before securitisation
Assets

Amount

Liabilities

Amount

Cash reserves

$ 5.33

Deposits

$ 53.33

Long-term
Mortgages

$ 50.00

Capital

$ 2.00

Total

$ 55.33

Total

$ 55.33

Balance sheet after securitisation

Assets

Amount

Liabilities

Amount

Cash reserves

$ 5.33

Deposits

$ 53.33

Cash proceeds
from mortgage

$ 50.00

Capital

$ 2.00

Total

$ 55.33

Total

$ 55.33

Asset Backed Securities

Asset-backed securities (ABS) are bonds backed by a pool of financial assets
that cannot easily be traded in their existing form. By pooling together a large
portfolio of these illiquid assets they can be converted into instruments that may
be offered and sold more freely in the capital markets.
In a basic securitization structure, the originator creates a pool of financial
assets, such as mortgage loans, and then sells these assets to a specially
created investment vehicle that issues bonds backed by those financial assets.
These are asset-backed securities. When investors hold a conventional bond
they get a regular interest payment during the life of the bond, plus repayment
of the full face value of the bond (the principal) at the end of its life. So long as
the issuing company is financially healthy it will continue to make these
payments, which means that the risk of default is directly linked to the
company's solvency.

In a securitization, these payments depend primarily on

the cash flows generated by the assets in the underlying
pool. This protects ABS investors from losing their money
if the company that originated the financial assets, goes
bankrupt.
While residential mortgages were the first financial assets
to be securitized, non-mortgage related securitizations
have grown to include many other types of financial
assets, such as credit card payments, trade receivables,
leases, auto loans and student loans. The royalty
payments on David Bowie's back catalogue have even
been used as securitizable assets.


What

can be Securitised

Securitisation is a financing technique that allows almost any

asset, or pool of assets, that has a reliable, contractual or
predictable cash flow to be repackaged purchased and then
funded as debt securities and sold to institutional investors.
The following is a list of the types of assets or cash flow
streams that have been securitised:

Aircraft Leases
Auto Leases
Auto Loans
Business Loans

Franchise
Loans
Home Loans
Leases
Operating
Leases

Commercial Loans

Pharmacy Loans

Commercial Real Estate

Loans

Rental Streams

Consumer Loans

Royalty Streams

Corporate Loans

Take-or-Pay Contracts

Credit Cards

Trade Receivables

Finance Loans

Benefits of Securitisation
to the Seller...
Diversification of funding sources
A securitisation may provide the Seller with access to a new class
of investors and therefore, source of funds.
Improved financial ratios
As the transaction is generally an asset sale, the Seller's asset
base is reduced which may improve return on assets (ROA) and
return on equity (ROE) without adversely impacting revenue
streams. This would also result in an improved EVA position.
Flexible finance
The Seller can vary the level of funding required dependent on its
financing needs and the volume of assets available for sale to
the SPV.

Benefits of Securitisation
Invisible to customers
as the sale of assets is typically by way of
equitable assignment, there is no
notification required to customers and the
Seller maintains the direct relationship
with those customers.
Limitation of risk
As the transaction is an asset sale, recourse
is generally limited to the level of credit
support provided by the Seller.

to the Investor...
The main benefits flowing to an Investor in acquiring debt
securities issued under an asset securitisation programme
include:-

High credit quality

Asset securitisation typically results in the
securities issued carrying the highest
possible credit ratings afforded by the
internationally recognized rating agencies.
A diversification of investment
opportunities
Asset securitisation allows investors to
indirectly invest in a variety of asset classes.