Vol 3 (2006) - Issue 5

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Securitisation – An Overview

Definition
Asset securitisation is a valuable and important financial tool in today’s global financial markets. Also referred to as structured finance,1 asset-backed securities (‘ABS’) or simply securitisation, this technique has grown to a multi-billion dollar industry2 in a relatively short period of time.3 The surge in financial innovation has been attributed to various legal and economic stimuli, including legal and regulatory rules, taxes, technological improvements, increased efficiencies in collecting and processing information, and increased interest rate volatility.4 Securitisation has been a boon to virtually every participant in the capital markets.
Although securitisation is widely discussed in the legal and financial literature, no uniform definition has emerged that satisfactorily describes it. There is no particular legal meaning for securitisation and, like many new financial terms, it is often used to mean a variety of things. Nevertheless, several commentators have attempted to provide a working definition. Joseph Shenker and Anthony Colletta have narrowly and precisely defined asset securitisation as follows:
‘[T]he sale of equity or debt instruments, representing ownership interests in, or secured by, a segregated, income-producing asset or pool of assets, in a transaction structured to reduce or reallocate certain risks inherent in owning or lending against underlying assets and to ensure that such interests are more readily marketable and, thus, more liquid than ownership interests in and loans against the underlying assets.’5 Ronald Borod has more simply defined asset securitisation as ‘the aggregation and pooling of assets with similar characteristics in such a way that investors may purchase interest or securities backed by those assets’.6 Some commentators have even referred to asset securitisation as ‘alchemy’7 because it purportedly creates value where none existed before.8 Therefore, in simple words in a securitisation transaction, a company partly ‘deconstructs’ itself by separating certain types of highly liquid assets from the risks generally associated with the company.9 This is achieved by establishing a separate entity known as a special purpose vehicle (‘SPV’) to which the company transfers its assets. The SPV in turn issues securities10 to raise funds from the capital markets. Therefore, a company uses these assets to raise funds in the capital markets at a lower cost than if the company, with its associated risks, could have raised the funds directly by issuing more debt or equity. The company retains the savings generated by these lower costs, while investors in the securitised assets benefit by holding investments with lower risk.