securitisation : implications on financial markets

1

Securitisation : Implications Securitisation : Implications on Financial Marketson Financial Markets

Impacts, Consideration & Recent Development

11 September 2007

2

Discussion PlanDiscussion PlanPart I : Global Perspective Development of US Sub-prime Mortgage Crisis Market Trend : International Experience

Part II : Regional Perspective Recent Development in Asian Securitisation Market Institutional Setting : Credit Enhancement in

Securitsation Managing SME’s Credit Risk : Experience of Korea

Part III : Thailand’s Perspective Capital Market Development Recommendation and Conclusion

มุ่��งมุ่��นพั�ฒนา สร้ างคุ�ณคุ�าเพั��อไทย

3

Part IPart IGlobal PerspectiveGlobal Perspective


4

a) Development of U.S. Sub-a) Development of U.S. Sub-prime Mortgage Crisisprime Mortgage Crisis

Causation and ConsequencesCausation and Consequences


5

Sub-prime Crisis : An Initial Sub-prime Crisis : An Initial UnderestimationUnderestimation

Expected Loss Size : USD 1 trillion while total mortgage size is

USD 10 – 13 trillion Assuming that default rate = 25% Assuming that sales of NPLs realise loss of 50%

of the amount If true, the adverse effect of sub-prime crisis is

limited.

Such estimation proves understated.


6

Causation : A Backward Causation : A Backward LookingLooking

Causes : In 2001, low interest rate environment in US ; Asset price bubble in property market, US

housing price had been rising at rapid speed ; Wealth effect led to higher leverage ; Low risk awareness = Higher risk appetite ;

Implication : Investors were less sensitive to credit risk US tightening cycle commenced, fed funds rate

has been standing at 5.25%. Debt servicing ability of homeowners started

deteriorating higher.


7

Crisis DevelopmentCrisis Development

Consequences : As low interest rate lending boom to borrowers with weak

credit, banks looked for new ways to package those loans. A central building block to offset the risk is asset-backed

securities (ABS). Banks and other FIs pooled those ABS into new units, by

dividing them up and issuing securities against them, creating “Collateralised Debt Obligations (CDOs)”.

New creation : CDO’s of CDO’s, CDO-squared and CDO-cubed.

Risk in sub-prime ABS was embedded and amplified in CDOs.

When sub-prime mortgage went bust, it revealed dangerous amounts of leverage in securities.


8

AnalysisAnalysisProblems : Market participants including investors could hardly

value or quantify embedded risk ; Weakness in the system were left unprotected ; Ratings did not accurately reflect risk ; Faulty assumptions on diversified pools with multiple

layers of leverage.

Arising of Risk Aversion Investors started selling securities that they thought

might be risky from stock to loans. Volatility in global financial markets took place, from

US to other economies including emerging markets. In the present, damage on subprime is still open-

ended.


9

Lesson LearnedLesson LearnedDilemma :

“Securitisation helps enhancing liquidity of certain assets but it also redistribute risk among market participants.”

Quote of the Day :Regarding the use of derivatives to power financial tools, if you know how to use them (derivatives), they are exponentially better and faster for building a houses, compared with using hammers, screwdrivers and handsaws.

If you don’t, “you could drill a hole in your head,”Peter DouglasFounder of GFIA, a hedge fund research

firm in Singapore


10

b) Market Trendb) Market TrendSecuritisation and Impacts on Financial Securitisation and Impacts on Financial

MarketsMarkets


11

Trend 1 : Increasing Demand for Trend 1 : Increasing Demand for Securitised PapersSecuritised Papers

1. Increasing Demand from Investors Demand for MBS/ABS has been

increasing ; Rising demand is reflected on narrowing

spread ; It is perceived that investing in MBS/ABS

allow investors to yield higher returns in comparison to holding debentures.


12

Trend 2 : More Risk Appetite on Trend 2 : More Risk Appetite on Securitised PapersSecuritised Papers

2. Demand for Lower-Rated ABS/MBS Papers

Investors demand ABS/MBS that bear lower credit rating ;

Due to ABS/MBS themselves are secured bond in nature ;

According to historical data, ABS/MBS (in exception of sub-prime mortgage), have never been default.

Investors, thus, incline to make a downward shift in credit curve and enjoy higher return.


13

Trend 3 : Improvement in Liquidity Trend 3 : Improvement in Liquidity ConditionCondition

3. Liquidity in Secondary Market is Improving

In advanced financial markets, ABS/MBS has good liquidity in secondary market ;

In the US, liquidity has been improving since 90s and in Europe, secondary market condition is getting better during the past 3-5 years.


14

Trend 4 : Impact from Financial Trend 4 : Impact from Financial InstitutionsInstitutions

4. Capital Efficiency Improvement Financial institutions tend to securitise

assets that have high risk- weight out of their balance sheet ;

Higher risk-weighted assets cause banks need to maintain higher capital ;

Thus, securitisation is regarded as a tool to improve FIs’ capital efficiency.


15

Part IIPart IIRegional PerspectiveRegional Perspective


16

c) Recent Development inc) Recent Development inAsian Securitisation MarketAsian Securitisation Market

Spectrum of Structured FinanceSpectrum of Structured Finance


17

Structured Finance Market in Structured Finance Market in South East AsiaSouth East Asia

Moody’s Investors Service announced (Reuters : 6 September 2007)

Asia’s structured finance market during 1H07, activities was prominent in Singapore and Malaysia.

Property-related securitisation (REIT) expanding more than double in Singapore. (Issuance size ~ USD 1.2 billion in 1H07 compared to USD 600 billion in 1H06)

Malaysia’s Cagamas issued second Islamic RMBS (~ USD 700 million)

Thai securitisation market, regular issuers including SICCO (3rd), AEON (3rd), GHB (~ USD 1.22 billion, expected within H108)

Indonesia : last securitisation deal took place in 2005. Forthcoming deal is state-owned mortgage provider (~ USD 53 million, H207)

Source : “ Structured Finance in South Asia: Singapore and Malaysia on Growth Track; RMBS Potential in Thailand and Indonesia ” in www.moodys.com


18

Major PlayersMajor PlayersClassified by Economies Korea is the largest market, providing ABS

and RMBS activities. Singapore is also an active market with

majority of the activities are property related. Taiwan has been active since it passes two

securitisation laws in 2002 and 2003. Asset classes include RMBS, ABS and real estate-related transactions.

Hong Kong has liquidity and issuance has been sporadic.


19

Types of Major ABS Assets Types of Major ABS Assets in Asiain Asia

Underlying Assets Credit Cards Auto Loans Consumer Loans Students Loans Trade Receivables

Commercial Mortgage Residential Mortage


20

Contributing FactorsContributing Factors Established legal and regulatory

framework - ie., the enactment of securitisation laws in Korea and Taiwan.

Large potiential supply of assets – ie., credit card receivables in Korea.

Genuine need from originators – ie., funding requirements for monoline credit card issuers in Korea, .

Interest & Confidence of investors.


21

Model Country : KoreaModel Country : KoreaThe Largest ABS Market in Asia (ex-

Japan)

Enactment of ABS law in September 1998. Regulators have been supportive in the

development of the securitisation market. Active cross-boarder market since 2000. Typical ABS asset types : residential

mortgage, credit cards, auto-loans, consumer loans, student loans and etc.

Funding requirement from originators.


22

Other MarketsOther Markets

Selected Countries Thailand : several domestic ABS

and MBS transactions. China : large pool of potential

assets. Other Asian countries : potiential

and interest including Malaysia, Indonesia and India.


23

Challenges Ahead (1)Challenges Ahead (1)

Aspects of Credit Risk Externality : Negative spillovers from

advanced financial markets.- Sub-prime market in US

Unstable credit environment in emerging markets.

- Consumer credit crisis in Korea in 2003 – 2004

- Taiwan card crisis since in late 2005. Credit risks across different emerging

markets may be highly correlated.


24

Challenges Ahead (2)Challenges Ahead (2)

Aspects of Data Requirement Availability and integrity of historical

performance data. Discretionary practices in data

collection / definition. Data integrity

- Discrepancies- Unable to obtain certain performance

data


25

Challenges Ahead (3)Challenges Ahead (3)Other Aspects Aggressive bank lending market provides

lots of liquidity. Increasing interest in Asian papers. Risk assessment and management

capability.


26

d) Credit Enhancement in d) Credit Enhancement in SecuritisationSecuritisation

Institutional SettingInstitutional Setting


27

Credit Analysis : A Building Credit Analysis : A Building BlockBlock

Credit Rating Credit Rating Agencies’ (CRAs) ratings are merely

credit opinion. It provides a simple, (globally) consistent

framework for comparing the credit quality of debt instruments.

Not a guarantee against losses. Not a recommendation to buy or sell. Not addressing whether the particular investment

is appropriate.

Credit Rating : measuring relative ability and willingness of an issuer to make

its debt payment over the life of the instrument.


28

Credit EnhancementCredit EnhancementPurposes Enable the transaction’s probable

default to be less likely than the probable default of the originator.

Higher the credit enhancement, the higher credit rating outcome.

Credit enhancement mitigates credit risk, and some other transaction risks.

Set-off risk yes Commingling risks yes True sales risk no Servicing risk yes


29

Internal Credit Internal Credit EnhancementEnhancement

How is it determined ? Relies on assets of the SPV, on structural

features such as legal entitlement to priority of payment.

Rating agencies, investors, monolines study data, trends (past and future) to determine suitable level of credit enhancement. - Actuarial analysis (probable default, loss given default) - Model based analysis


30

Types of Credit Types of Credit Enhancement Enhancement

Internal Enhancement Subordination Excess spread Over-collateralisation Cash Reserve

External Enhancement Standby Letter of Credit / Credit Facility Guarantees Insurance coverage Monoline Insurance Coverage Credit Default Swaps


31

Is it there, when you need it Is it there, when you need it ??

Considerations on Credit Enhancement

Reliance and correlation to asset behaviour (internal vs external)

Coverage Conditionality to payment Certainty of payment Timeliness of payment Impact to the rating stability of the rated

bond Country risk / Systemic risk


32

SummarySummaryConsiderations on Credit Enhancement Credit enhancement is a fundamental concept of asset

backed securitisation and types of structured debt. Choice and form of credit enhancement affects:

- Rating depends on credit enhancement / credit enhancement provider- Rating stability- Mark-to-market volatility

Monoline insurancers usually provide guarantees / guarantee equivalents :

- Backed by very high ratings (AAA)- Comprehensive and timely payment cover- Uncorrelated with asset and country risk

Monoline guarantees and CDS will become an important risk capital management tool for banks, insurances sectors under Basel II.


33

e) Managing SME Credit e) Managing SME Credit RiskRisk

Experience of KoreaExperience of Korea


34

Roles of SMEs in EconomyRoles of SMEs in EconomyImpact on

Economy : HighImpact on

Economy : High

SME

SME

SME

No. of Companies

No. of Employee

LE

Exports

DifficultiesDifficulties

Insufficient collateral High transaction costs Low credit risk assessment ability of financial institutions

Limited access to formal financing

Insufficient collateral High transaction costs Low credit risk assessment ability of financial institutions

Limited access to formal financing

represents large enterprises (LE)


35

SME Credit DatabaseSME Credit Database

Korea : Established Korea Enterprise Data (KED) in

February 2005 as a spin-off company of KCGR’s credit information services.

Credit bureau specialises in credit information of SMEs.

About KED …- Capital : USD 72 million- 8 Branches Nationwide- Shareholders : KCGF (47.8%), KOTEC, KDB, IBK and etc.- 8 Types of credit information services to domestic and oversea clients


36

Corporate Credit Rating SystemCorporate Credit Rating System มุ่��งมุ่��นพั�ฒนา สร้ างคุ�ณคุ�าเพั��อไทย

37

SME Securitisation ProgramSME Securitisation Program

23 SMEs23 SMEs

Small Business CorporationSmall Business Corporation

Senior bonds(2 yr 8.5 billion, 3 yr 36 billion)

Senior bonds(2 yr 8.5 billion, 3 yr 36 billion)

SPVSPV

Junior bonds(27.5 billion)

Junior bonds(27.5 billion)

Credit Enhancement

By Korea Housing BankCredit Enhancement

By Korea Housing Bank

InvestorsInvestorsRepurchased by

SMCRepurchased by

SMC

Corporate Bonds

KRW 72 billionKRW

Asset sales

CBO Program


38

Credit Risks Involved in SME Credit Risks Involved in SME SecuritisationSecuritisation

The main problems are SMEs in Korea have high default risk

Cumulative Default Rate (by Korea Ratings, Periods : 1998-2004,

unit : %)

Rating 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year

AAA 0.00 0.00 0.00 0.00 0.00 0.00

AA 0.00 0.00 0.00 0.00 0.00 0.00

A 0.00 0.00 0.00 0.00 0.00 0.00

BBB 0.32 0.68 1.11 1.93 3.20 3.20

BB 3.94 6.77 9.12 10.18 11.29 12.48

B 13.73 17.10 9.44 19.44 19.44 19.44

Below B 0.16 0.36 0.60 1.09 1.82 1.82

Speculative 6.5 9.47 11.81 12.59 13.37 1.42

Average 2.22 3.41 4.47 5.07 5.82 6.13


39

Small Business Corporation Small Business Corporation (SBC)(SBC)

Program : CBO program will remain operative in the future. Maturity of bonds (issued by SMEs in the CBO

program) will be extended from 3 to 5 years. Mezzanine tranche is sold to investors (since 8th

tranche). Junior tranche can be sold to other investors.


40

Part IIIPart IIIThailand’s PerspectiveThailand’s Perspective


41

f) Capital Market f) Capital Market DevelopmentDevelopment

An Important Pre-requisiteAn Important Pre-requisite


42

Capital Market StructureCapital Market Structure1. A Well-Balanced Capital Structure : Consisting of large investor base Mitigating problems of one-way market Higher proportion of sophisticated investors


43

Transaction CostsTransaction Costs

2. Cost Efficiency : Efficient market allowing market participant

transacts at lower cost Tight bid/offer spread encourage more

transactions Need market-makers, bond-dealers and brokers

to make market


44

Related Issues on Capital Related Issues on Capital MarketMarket

3. Issues to be settled including : Structuring ABS that response investors’ need Regular issuance is required Limited absorption ability in the capital market Adjust investment guideline of institutional

investors Information dissemination


45

g) Recommendationg) RecommendationA Survey from PractitionersA Survey from Practitioners


46

ข้ อเสนอแนะข้ อเสนอแนะ1 .ด้ านภาษี�2. ด้ านกร้อบกฎหมุ่าย3. ด้ านการ้วิ#เคุร้าะห$ข้ อมุ่%ลด้ านเคุร้ด้#ต4. ด้ านการ้ข้ยายฐานน�กลงท�น


47

1. 1. ด้ านภาษี�ด้ านภาษี� การ้ก)าหนด้ Payout-ratio

- SPV ต องปฏิ#บ�ต#ตามุ่เง��อนไข้ในเร้��อง Pay-out ratio ซึ่.�งก)าหนด้เป/นส�ด้ส�วินคุงท�� (Fixed

Proportion)- ล�กษีณะส#นทร้�พัย$และกร้ะแสเง#นสด้ท��น)ามุ่า Securitise อาจมุ่�คุวิามุ่แตกต�างในด้ าน โคุร้งสร้ างและเคุร้ด้#ต ท)าให Pay-out ratio อาจไมุ่�เหมุ่าะสมุ่ก�บธุ�ร้กร้ร้มุ่บางปร้ะเภท

ผู้% ร้ �วิมุ่ตลาด้บางร้ายย�งมุ่�คุวิามุ่ไมุ่�ชั�ด้เจนเร้��องการ้คุ)านวิณ Pay-out ratio


48

2. 2. ด้ านกฎหมุ่ายด้ านกฎหมุ่ายประเด็�นทางกฎหมาย คุวิามุ่ชั�ด้เจนข้อง “ ร้าคุาย�ต#ธุร้ร้มุ่ ”

- สมุ่มุ่�ต#ฐานข้องร้าคุาย�ต#ธุร้ร้มุ่ท��ต�างก�นข้องผู้% ปฏิ#บ�ต#แต�ละร้าย- การ้สร้ างคุวิามุ่ชั�ด้เจนในเร้��องการ้ใชั ร้าคุาย�ต#ธุร้ร้มุ่ในการ้ท)าธุ�ร้กร้ร้มุ่

การ้ต�คุวิามุ่ทางกฎหมุ่ายเร้��องกร้ะแสเง#นสด้ในอนาคุต (Future Receivables)

- ป6จจ�บ�น พัร้บ.น#ต#บ�คุคุลเฉพัาะก#จอน�ญาต ให น)ากร้ะแสเง#นสด้มุ่า Securitise ได้

กฎหมุ่ายหล�กปร้ะก�นธุ�ร้ก#จ- ส#นทร้�พัย$บางปร้ะเภท อาท# ส#นเชั��อร้ถยนต$ อาจเก#ด้คุวิามุ่เส��ยงในเร้��องการ้โอน หล�กปร้ะก�น เน��องจากกร้ร้มุ่ส#ทธุ#:ข้องร้ถยนต$ย�งคุงเป/นข้องบร้#ษี�ทส#สซึ่#�ง


49

3. 3. ปร้�บปร้�งข้ อมุ่%ลด้ านเคุร้ด้#ตปร้�บปร้�งข้ อมุ่%ลด้ านเคุร้ด้#ต ข้ อมุ่%ลจาก Credit Bureau มุ่�ล�กษีณะเป/นการ้บอก

เพั�ยงสถานะการ้ชั)าร้ะเง#น การ้ใชั ข้ อมุ่%ลจาก Credit Bureau จ.งเป/นข้ อมุ่%ลเชั#ง

คุ�ณภาพั (Qualitative Status) แต�การ้พั#จาร้ณา Portfolio ข้องส#นเชั��อย�งคุงใชั ด้�ลพั#น#จ (Judgment) เป/นหล�ก

ปร้ะสบการ้ณ$ข้องสหร้�ฐฯ มุ่�การ้ใชั FICO (Fair Isacc Corporation) ในการ้พั#จาร้ณาสถานะ

Credit ข้องล%กคุ าแต�ละร้าย และเป/น ข้ อมุ่%ลเชั#งปร้#มุ่าณ (Quantitative Status)

กร้ะบวินการ้ด้�งกล�าวิท)าให ลด้การ้ใชั ด้�ลพั#น#จ และท)าให ผู้% อน�มุ่�ต#ส#นเชั��อได้ ร้�บคุวิามุ่สะด้วิกในการ้พั#จาร้ณา Credit ข้องผู้% ก% แต�ละร้าย


50

4. 4. คุวิามุ่หลากหลายข้องน�กลงท�นคุวิามุ่หลากหลายข้องน�กลงท�น น�กลงท�นในตร้าสาร้ปร้ะเภท Securitised products

มุ่�จ)าก�ด้ ป6ญหาสภาพัคุล�องในตลาด้ร้องแนวทางแก�ไข การ้เพั#�มุ่ผู้% เล�นในตลาด้ท��มุ่�คุวิามุ่เข้ าร้% คุวิามุ่เข้ าใจใน

Securitised products - ชั�วิยสร้ างสภาพัคุล�องในตลาด้แร้กและในตลาด้ร้อง- เพั#�มุ่ Absorption Capacity- ชั�วิยสร้ างร้ะบบการ้บร้#หาร้คุวิามุ่เส��ยง อาท# การ้วิ#เคุร้าะห$

และต#ด้ตามุ่ Prepayment Risk


securitisation : implications on financial markets

Documents