Asset-backed security
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Asset-backed securities are a type of bond that is based on pools of assets. Assets are pooled to make otherwise minor and uneconomical investments worthwhile, while also reducing risk by diversifying the underlying assets. The securitisation makes these assets available for investment to a broader set of investors. Typically, the securitised assets might be highly illiquid and private in nature.
The financial assets in the pool backing the asset-backed securities range from mortgages and credit card debt to accounts receivables. Often the term asset-backed security is used in a narrower sense. As the mortgage-backed security market is so large, it is often seen as separate. In this case, asset-backed security means bonds backed by a pool of financial assets other than mortgages.
A significant advantage of asset-backed securities is that they bring together a pool of financial assets that otherwise could not 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 freely in the capital markets. Their bankruptcy remoteness allows the investor to take on credit risk of the asset without taking on specific corporate credit risk of the originator. The tranching of these securities into instruments with different risk/return profiles facilitates marketing of the bonds to investors with different risk appetites and investing time horizons.
Asset-backed securities enable the originators of the loans to enjoy most of the benefits of lending money withoutbearing the risks involved. ABSs offer several advantages to the originators of the asset pools:First, selling those financial assets to the pools reduces their risk-weighted assets and thereby frees up theircapital, enabling them to originate still more loans.Second, it lowers their risks. In a worse-case scenario where the pool of assets performs very badly,the owner of ABS would pay the price of bankruptcy rather than the originator.And, the originators earn fees from originating the loans, as well as from continuing to serve the assetsthroughout their life.
According to Thomson Financial League Tables, US issuance (excluding mortgage-backed securities) was:
- 2004: USD 857 billion (1,595 issues)
- 2003: USD 581 billion (1,175 issues)
See also
Categories
Bonds | Fixed income securities | Structured finance