Economic of Banking and Finance: Analysis of Asset Securitization

This report provides a comprehensive analysis of asset securitization within the context of banking and finance. It begins by defining asset securitization as the process of underwriting and selling loans and receivables as asset-backed securities, essentially transforming non-marketable loans into negotiable securities. The report then details the major benefits of securitization for investors, including risk mitigation through credit ratings, structured finance instruments tailored to investor needs, high recovery rates on defaulted tranches, and investment flexibility. Furthermore, it addresses the risks involved in investing in securitization, such as credit/default risk, reinvestment/prepayment/early amortization risk, currency interest rate fluctuations, and servicer risk. Lastly, the report discusses the financial crises related to asset-backed securitization, highlighting potential failures in financial regulations and the dramatic breakdowns caused by excessive risk. The report references academic sources to support its analysis of asset securitization in the banking and finance industry.

Economic of Banking and Finance
Part a
Asset securitization is the process where the loans and receivables are underwritten and sold
as ‘asset backed’ securities. Asset securitisation is basically pooling the asset and then
creating a more or less instrument for investment like mortgage pass-through security. This
also called as the replacement of the non-marketable loans and the cash flows which are
issued in the capital markets with negotiable securities.
Asset securitisation is an arrangement which is comprised of putting together a claim on a
particular asset which is then sold in the financial market as negotiable security. Asset
securitisation is mainly done by financial institutions of commercial papers, car loans,
mortgages, credit card receivables and export credits (Obay, 2014).
Part b
The major benefits of the securitisation to the investors is that with the rating given by the
credit rating agencies the investors will get a surety that they will not lose their money with
these investments.
The benefits of securitisation to investors:
 Securitisation is a structured finance instrument that is more closely assigned to
investor’s needs.
 The investor will get a cover by investing into these securities as the default cases are
very low.
 The recovery rate of defaulted tranches is very high then the rate of corporate bonds.
 Investors can freely invest in the instruments which suits their investment policy as
best ones.
 All the more the experience shared by the investors on international level is quite
good with very low cases of default (Gatti, 2013).
Part c
Risk involved in investing in securitisation:
Credit/ Default: This is the risk in which the borrower is unable to pay the interest obligations
on time. There is default of payment at the end of the borrower of the instrument.

Economic of Banking and Finance
Reinvestment/ Prepayment/ Early amortisation: There are majority of asset backed securities
which are exposed to the risk of early amortisation.
Currency interest rate fluctuations: The prices of fixed interest rate securities also move like
all other fixed income with the changes in interest rates. Interest rate changes also affect the
prepayment rates of the loans which are underlying that are backed by the asset backed
securities.
Servicer risk: The collection of payment or transfer of payment that may be reduced or
delayed if the servicer himself becomes insolvent. This risk can be mitigated by always
having a backup servicer in the transaction (Hu, 2011).
Part d
The financial crises related back to asset back securitisation are:
 There can be failures in the financial regulations
 There can be dramatic breakdowns as there is too much risk involved in asset backed
securitisation.
 The fall and increase in the prices also affect the asset backed securities typically
related to the tangible assets (Brigham and Ehrhardt, 2013).

Economic of Banking and Finance
References:
Obay, L., 2014. Financial innovation in the banking industry: the case of asset securitization.
Routledge.
Hu, J.C., 2011. Asset securitization: theory and practice (Vol. 679). John Wiley & Sons.
Brigham, E.F. and Ehrhardt, M.C., 2013. Financial management: Theory & practice.
Cengage Learning.
Gatti, S., 2013. Project finance in theory and practice: designing, structuring, and financing
private and public projects. Academic Press.