Giddy/ABS Managing the Credit Risks/ 1 Asset-Backed Securities: Managing the Credit Risks Prof. Ian Giddy Stern School of Business New York University Asset-Backed Securities Copyright ©2000 Ian H. Giddy Managing Credit Risks 3 Asset-Backed Securities: Managing the Risks l Identifying the risks l Credit enhancement l The rating process l Financial guarantee companies Giddy/ABS Managing the Credit Risks/ 2 Copyright ©2000 Ian H. Giddy Managing Credit Risks 4 Identifying the Risks l Credit risks l Liquidity risk l Servicer performance risk l Swap counterparty risk l Guarantor risk l Legal risks l Sovereign risk l Interest rate and currency risks l Prepayment risks Copyright ©2000 Ian H. Giddy Managing Credit Risks 5 Special Purpose Company (or Trust)Special Purpose Company (or
Trust) ORIGINATOR SERVICER POOL PERFORMANCE GUARANTOR INTEREST & PRINCIPAL GUARANTOR OWNER SUB- ORDINATED INVESTORS OVER- COLLATERAL SENIOR INVESTORS CAP OR COLLAR PROVIDER PERMITTED INVESTMENTS SWAP COUNTER- PARTY RESERVE FUND SPECIAL INSURER (HAZARD, ETC.) FIRST LOSS PROVIDER LIQUIDITY FUND ASSETS 1 23 SELL ASSETS (MAY ADD MORE) Managing the Risks Giddy/ABS Managing the Credit Risks/ 3 Form of credit enhancement Credit risk reduction at the trust level Pooler credit guaranty Senior/subordinated ABS Legal structure based credit risk reduction Legal insulation from originator default Legal insulation from servicer default Repackaging of cash flows Pre-securitization risk reduction Screening of assets to be included in the portfolio Diversification of the portfolio Credit risk reduction of the asset Third party credit guaranty Issuer-provided enhancement Replacement of sub-standard assets Direct recourse Overcollateralization Third party partial enhancement Third party full enhancement Copyright ©2000 Ian H. Giddy Managing Credit Risks 9 Key Factors Agencies Examine l the quality of the pool of assets, evaluated as a portfolio l the credit quality of all the parties to the deal. l operational support for servicing, transfer, recording, follow-up, etc; l credit enhancement l legal structure l sovereign risks l market price risks l payment timing risks Giddy/ABS Managing the Credit Risks/ 4 Copyright ©2000 Ian H. Giddy Managing Credit Risks 10 Qualifications of the Originator l Organization and management structure l Financial performance l Business strategy and planning processes l Controls and procedures l Asset origination and credit assessment procedures l Quality of its loan documentation l Credit administation and debt recovery procedures Copyright ©2000 Ian H. Giddy Managing Credit Risks 11 Role of Originator's Review Systems l Produce historical information on the assets to be securitized l Identify and segregate the securitizable assets and track their cash flows l Report on the performance of the securitized assets Giddy/ABS Managing the Credit Risks/ 5 Copyright ©2000 Ian H. Giddy Managing Credit Risks 12 Rating Agency Requirements - 1 Legal Structure l Information on parties involved in the ABS issuance, namely, the originator(s), servicer , merchant bank, lawyers, accountants, trustees, credit enhancer, liquidity banks. l Proposed legal structure and documentation e.g., type of assets to be securitised , senior/subordination features; pass- throughs /pay- throughs , any recourse provisions, corporation/trust, over- collateralisations , other risks and claims structure, etc. l Legal and accounting opinions (and subsequently regulator's opinion) on the characterization of the transferred assets i.e., a "true sale" or "pledge". The...
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