Introduction to Securitization

WHAT IS A SECURITIZATION?

There are some similarities between securitization and secured lending. In secured lending, also called asset-based lending, the lender requires that the borrowing firm commit specific assets of the firm as security or collateral for a lending arrangement. The assets that are used as collateral may be short-term assets such as accounts receivable or long-term assets such as equipment. For example, in accounts receivable financing the lender looks first to the accounts receivable of the borrower to fulfill the financial obligations of the lending arrangement. The amount advanced by the lender to the client firm depends on (1) what the lender deems acceptable based on the quality and nature of the receivables; (2) the type of customer the client firm sells to and the terms of the sale; and (3) the historical performance of the client firm’s accounts receivables. Moreover, certain types of receivables may not be appropriate for financing via secured lending. For longer-term assets such as equipment, secured lending can be in the form of a loan or a bond. The cost of borrowing depends on the credit quality of the borrower because lenders are looking to the ability of the borrowing firm to satisfy the terms of the borrowing arrangement.

A securitization differs from these traditional forms of financing in several important ways. The key in a securitization is that the cash flow generated by the asset pool can be employed to support one or more securities ...