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Asset Securitization - Essay Example

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Asset Securitization

In order to attract investors, bankers initially develop the investment vehicle that isolated defined mortgage pools, segmented the credit risk, and structured the cash flows from the underlying loans. Although it took several years to develop an efficient mortgage structure. In the early 1980s, the current shape of securitization was introduced into capital markets in which payments were pooled and used as collateral for securities issues. U.S government played a very pivotal role by creating agencies whose work is to ensure the securities, payment and interest (Comptroller, 1997, p 02). In the late 1980s, companies such as Citibank, General Motors Acceptance Corporation, Marine Midland Bank, Chrysler Corporation, and Ford Motor Company entered into the securitization market and raise billions of dollars through off-balance-sheet financing and in years to come, new issuance of consumer asset-backed securities averaged about $50 billion annually.
Securitization works in manner that seller provides goods or services to its valued customer in manner that payment is to be received in later days so he/she creates an asset then this pool of asset is sold to SPV (issuer) in order to acquire the particular asset and issuing a debt instrument to investor. Now this debt instrument is traded in secondary market in order to attract different rating agencies (Comptroller, 1997, p 06). This approach is quite fruitful for the seller because highly-rated debt instruments attract the finest prices. In addition, the credit rating of the debt instrument is very much dependent on the quality of assets that are securitized with in the pool. Investment banker provides protection, if there is any loss arises (Comptroller, 1997, p 06). The factor of liquidity ensures that SPV will always meet the paid its obligations on time. The cash which received from customer with respect to underlying assets passed through investor in the shape of repay the (interest and principal) amounts outstanding and then he/she is liable to issue the debt instruments.

PROS AND CONS OF SECURITIZATION
The pros for issuer are stated below:
The process of securitization reduces the funding cost like a company whose ranked is BB but AAA cash flows makes the ability to borrow at AAA rates. Remember the difference between AAA and BB debts are hundred basis points.
The firm which has lower capital due to any reason like legal, regulatory etc may impose a barrier or limit at which the ...Show more

Summary

Securitization defined as "the process of pooling a group of mortgages or loans into one group and then issuing new debt securities and divided that pool into portions that can be sold as securities in the secondary market." There are different types of securitization which varies upon the type of security provided; one type is mortgage-backed securities(MBS) in which debts are backed with mortgages and the other type is an asset-backed security (ABS) in which the debt issued is backed by the underlying assets backed up by other types of loans.
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Asset Securitization essay example
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