Definition: Securitization is the process of pooling and repackaging of homogeneous illiquid financial assets into marketable securities that can be sold to investors.
Process of Securitization: Assets are originated through receivables, leases, housing loans or any other form of debt by a company and funded on its balance sheet. Once suitably large portfolio of assets is originated, the assets are analysed and as a portfolio and then sold to a third party. The administration of assets is subcontracted to the originator by the SPV. The SPV issues tradable securities to fund the purchase of assets.
Contd…. The SPV agrees to pay any surpluses which, may arise during its funding of assets, back to the originator. As cash flow arise on the assets, these are used by the SPV to repay funds to the investors in the securities.
Credit Enhancement: Credit Enhancement refers to the various means that attempt to buffer the investors against losses on the assets collateralising their investment. Often required to secure high credit rating and for low cost of funding.
Types of Credit Enhancement: External Credit Enhancement: Insurance Third Party Guarantee Letter of Credit