What is meant by Asset Backed Security?

Asset Backed Security
Asset Backed Security

The asset backed securities ABS are a type of investment closely linked to the practice of securitization. To put it in simple words, an ABS is a financial instrument issued through securitization transactions . They are similar to traditional bonds because they pay the holder of the warrants at predetermined times. But they differ from bonds because the coupon payment is related to the money collected thanks to the loans sold. At issue is the ABS Special Purpose Vehicle which are empowered to issue securities incorporating receivables sold in most cases are securitized mortgages but also bank loans, consumer loans, leasing, Cash payments of credit cards and commercial loans or non performing loans.

Asset Backed Security

Asset Backed Security

SPVs are put up by banks, companies or public administrations to deduct from the budget a series of loans or financial assets less liquid. The SPV issues of ABS bonds which are much more placeable markets the higher their credit rating or their creditworthiness. On the one hand, loans sold become a guarantee of payment of ABS. But, as we said the coupon payment depends largely on the amounts collected from the receivables sold.

What are the risks for holders of ABS ? They are of three types:
* Danger of insolvency: the redemption of the Asset Backed Securities may only be partial or be lost altogether if there is no collection of the loans in support of the operation;
* Difficulty in converting the securities into cash;
* Disadvantageous exchange rate.

To reduce the risk of insolvency, usually the amount of the receivables sold and placed as collateral is greater than the nominal value of the bonds issued.

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