Securitisation 
markets world-over 

Benefits of securitization

Economic benefits:

Securitization benefits the economy as a whole by bringing financial markets and capital markets together. Financial assets are created in the financial markets, e.g., banks or mortgage financing companies. These assets are traditionally refinanced on on-balance sheet means of funding of the respective banks.

Securitisation connects the capital markets and financial markets by converting these financial assets into capital market commodities. The agency and intermediation costs are thereby reduced.

Does securitization increase risk of the economic system?
The benefits of securitization are, however, not unquestionable. Securitization converts loan relationships into capital market commodities and therefore, increases the power of the capital market. Debate on the potential risks of the capital market-financial market connectivity was initiated (or carried forward) by Prof Henry Kaufman. Prof Kaufman said: "The shift to marketable from nonmarketable assets brought about by securitization has stretched credit creation. It tends to sustain borrowers longer in economic expansion and probably to expose them more in contractions. It also has had the important side effect of removing the illusion of price stability for nonmarketable assets. Some of the new securitized instruments have therefore magnified the volatility of finan-cial asset prices."

Securitization and cost of funding

It is a clear propostion that the stronger the security rights of the creditor, the lesser is the risk he faces, and the lower, therefore, is the risk premium he translates into cost of lending. If securitization means lesser credit risks for the originator, obviously this should lead to lower funding costs.

The best instance of this is the US mortgage markes, where the agencies (Ginnie Mae, Fannie Mae and Freddie Mac) have contributed to bring down the mortgage costs. Studies that have gone into cost of mortgage funding and securitization include the following:

• Hendershott, P. H., and J. D. Shilling (1989), “The impact of agencies on conventional fixed-rate mortgage yields,” Journal of Real Estate Finance and Economics 2:101-115.
• Sirmans, C. F. and J.. D. Benjamin (1990), “Pricing fixed rate mortgages: Some empirical evidence,” Journal of Financial Services Research 4:191-202.
• Jameson, M., S. Dewan, and C. F. Sirmans (1992), “Measuring welfare effects of “unbundling” financial innovations: The case of Collateralized Mortgage Obligations,” Journal of Urban Economics 31:1-13.
• Credit Scoring and Mortgage Securitization: Implications for Mortgage Rates and Credit Availability December 21, 2000 Andrea Heuson - click here

Benefits to originators

Strategic issues to be considered by an originator:

• A presentation by Barclays Bank on strategic uses of securitization - click here
• Use of securitization as an alternative funding tool by corporates - article by Ganesh Rajendra of Deutsche Bank

Benefits to investors

Investor experience of investing in securitised paper has internationally been quite good, for primarily 3 reasons:

• Securitisation being a structured finance instrument can be more closely aligned to investor needs. Investors can invest in exactly what suits their investment policy the best.
• Securitisation asset classes have shown much higher rating resilience. Rating transition histories have been published by both Moody's and Standard and Poor's depicting this. Recently, Fitch also came out with a rating transition history of ABS to prove this point.
• Default history of securitization tranches is much safer - there have been very few defaults over the past 16 years.
• Default recovery rate of securitisation tranches has been significantly higher than in case of defaulted corporate bonds. For S&P studies on defaults history and recovery rates, see our news page here