VPS | Benefits and Types of Securities Products

Securitization encompasses various types of products and brings benefits to diverse entities including asset originators, service companies, investment banks, and investors.

Key Benefits:

Through securitization, asset originators can tap into new sources of capital at lower costs compared to borrowing directly from external parties. This is because the credit ratings of special-purpose entities are often higher than those of the asset originators through the isolation of secured assets and the application of credit enhancement measures.

Through securitization transactions, asset originators can remove assets from their balance sheets by selling them to special-purpose entities. This helps to mitigate interest rate risk and credit risk associated with the assets, transferring these risks to investors purchasing bonds issued from the securitization.

Reducing asset size while still generating profits is a financial art. With proceeds from asset sales to special-purpose entities, asset originators can recycle capital into other lending activities. Additionally, for businesses with high financial leverage ratios, reducing asset size helps to decrease debt, thereby reducing the financial leverage ratio to a safer level.

For businesses altering their business strategies and seeking to divest non-strategic assets, securitization is a suitable solution. In the case of asset originators being commercial banks or investment banks required to comply with Basel capital adequacy regulations, divesting assets with high credit risk reduces the necessary capital to meet the total asset size requirements.

An important benefit of securitization is optimizing asset pricing. Assets can be optimally priced due to the transparency of the structure. Packaging illiquid assets into tradable debt securities essentially enhances liquidity for those assets.

Benefits for Investment Banks:

For investment banks, securitization presents opportunities to earn advisory fees and underwriting fees. Like other securities, investment banks trade these securities on the secondary market for profit.

Investment banks act as asset originators, thus reaping benefits throughout the entire asset value chain.

Benefits for Investors:

For investors, securitization offers a range of new investment products and opportunities previously inaccessible. Some investors purchase debt securities for high returns, while others diversify their investment portfolios. In practice, issued debt securities can be structured with varying degrees of risk depending on the credit ratings assigned to each tranche.

Types of Securitization Products:

Securitization products go by various names such as Mortgage Backed Securities (MBS), Collateralized Debt Obligations (CDO), Asset Backed Securities (ABS), Collateralized Loan Obligations (CLO), and Collateralized Insurance Obligations (CIO). These names derive from the origin of the assets used for securitization and the method of risk distribution for the issued bond packages. Essentially, securitization products can be divided into two categories:

Firstly, traditional securitization products related to mortgage loans, known as MBS (Mortgage Backed Securities). MBS structures mitigate early payment risks. MBS is further categorized into MPT and CMO. The main difference lies in the packaging method. While MPT divides bonds into packages with similar levels, CMO prioritizes payment order to mitigate early payment risks.

Secondly, other products not related to mortgage loans are termed CDO (Collateralized Debt Obligations). The characteristic of CDOs is mitigating credit risks of securitized assets. Early payment risks for assets used in CDOs are low or virtually non-existent.

The underlying assets for CDO securitization include credit risk assets such as consumer credit, credit card receivables, trade receivables, commercial real estate mortgages, corporate bonds, and even CDO bonds themselves. With these underlying assets, CDOs are categorized under different names but essentially serve the same purpose.

ABS (Assets Backed Securities) are securitized consumer credit assets, credit card receivables portfolios;

CLO (Collateralized Loan Obligations) are securitized commercial loan portfolios. CBOs are securitized corporate bonds, speculative bonds (high-yield bonds);

CRE CDO (Commercial Real Estate CDO) are securitized commercial real estate mortgages;

CIO (Collateralised Insurance Obligations) are securitized insurance contracts.