Monday, November 25, 2019

Securitisation Essay Example

Securitisation Essay Example Securitisation Essay Securitisation Essay Securitisation is a process of pooling in and transferring a cash-producing asset or receivable to a specially created investment vehicle. The bank which sells the assets is known as the originator and the purchaser of the cash-producing asset is known as the SPV (special purpose vehicle) or the transferee. As a result of the purchase, the SPV issues bonds to the originator based on the financial assets. These bonds are also known as asset-backed security (ABS) in capital markets. This helps the originator to realize the value of the cash-producing asset immediately, by investing the issued bonds. It can also help the originator to remove debts from the company’s balance sheet. Securitisation would aid an originator in obtaining cheaper finances in distress situations, if the credit quality of the securitised assets is better than that of the originator. It would also free the originator from financial risks arising as a result of loan payment defaults by reducing reduces cred it risks.Even mortgage debts and consumer loans are considered to be cash-producing assets which are otherwise known as receivables. A bank will be exposed to financial risks resulting from loan defaults. When these financial risks are reported to the regulatory bodies, the ability of the bank to lend money to other clients will get restricted. When a bank adopts securitisation of its loans, it essentially sells these cash-producing assets, which enables it to uses the money effectively to make further investments. The financial gain acquired by investing the cash-producing assets is used to pay the interest pertaining to the bonds.The sale of cash-producing assets is usually legalised by a process called novation. This involves creating a new agreement between the new lender and borrower, thereby replacing the existing agreement between the original lender and borrower. Although the originator sells the assets to the transferee, the originator will receive a fee for managing the as sets, since it acts as an agent between the mortgager and the transferee, without bearing any financial risk.Any bank planning for the securitisation of a portfolio of loans has to plan for handling various legal issues that are bound to arise, especially when the transaction is a true sale.   When the transfer of the financial asset is a true sale, all the obligations and rights pertaining to the cash-producing asset gets transferred to the purchaser of the asset. The originator will have to prove that it is not at risk of payment defaults or insolvency[1]. Similarly, the SPV also should not be at risk of defaulting on its own obligations or becoming insolvent. It should also possess credit enhancement and adequate liquidity facilities to satisfy payment obligations within the necessary timeframe. These conditions are reflected by the credit ratings given by the respective agency. Higher credit ratings would encourage more investors to invest in the SPV.During the time of a true sale, the originator must own the receivables and the SPV should obtain a good title which proves that the receivables are factual, valid, enforceable and compliant with licencing and regulatory statutes. This is commonly known as re-characterisation risk since the originator continues to retain a few residual risks. However, the transaction should not be a secured financing wherein the originator pledges the receivables as a security to borrow sale proceeds from the SPV. Secured financing will not be treated as a true sale due to the lack of registration, resulting in accounting problems and other negative pledge infringements[2].In a true sale, the sale documentation includes provisions for further sale, originator’s insolvency, breach of warranties and an assignment of the receivables. The securitised assets would not become void when the originator faces insolvency or in the event of the receivables being sold undervalue[3]. During insolvency proceedings, the securitised assets can not be recovered by the originator’s receiver. The warranties would prevent third parties from exacting a competing ownership of the assets. The assignment can be either equitable or legal, according to English law[4]. Legal assignments usually require a notice to bring them into effect.   However, equitable assignments are commonly used since they can be made effective, even without notice to the debtor. However, issues pertaining to conflict of laws may arise in certain legal territories where equitable assignments are not recognised by law. This could possibly cause a negative impact on the transfer of future as well as existing assets.Over-collateralisation is a phenomenon wherein the value of receivables transferred by the originator to the SPV is greater than the funding provided by the investor. This is done in order to provide a buffer to the SPV at times of debtor defaults. This would also effectively increase the assets of the SPV and build up extra cas h flow. However, this extra value of the assets will remain as an outstanding due and accordingly adjusted during the termination of the securitization.When there are prohibitions on the assignment in the underlying debt contract, it causes a breach of contract and therefore becomes invalid according to the non-assignment clause[5]. According to Don King Productions v. Warren[6], the benefit of the contracts will hold good on the basis of trust for the partnership, even when one partner ends the contracts before winding up the contract.According to Re George Inglefield Ltd, goods and hire-purchase agreements would be treated as mortgages or charges of book debts, in the event of lack of registration[7].   Hence, these assignments claimed by a liquidator would be considered void. However, the liquidator claimed that the agreement was made for an out-and-out sale which did not require registration, thereby reversing the prior decision. The judicial decisions in the recent past have indicated that asset sales are not necessarily re-characterised as secured loans according to English law, as long as the rights and obligations associated with sale and purchase of these cash-producing assets are consistent.

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