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Asset-Backed Securities

Hi Cullen,

Having read on particular chapter at one of banking & credit books, there is explanation for asset-backed securities. The author stated that SPV (Special Purpose Vehicle) is established to transform several loans assets (particularly illiquid ones) into so-called asset-backed securities. Inside SPV's balance sheet, loans are recorded in asset side. Meanwhile in liability side, instead of creating deposits just like other private banks, it issues ABS.

The thing I don't understand is why and for what purpose SPV creates such ABS in liability side. Isn't it deposits which is supposed to be created since it has the highest degree of moneyness ? Also, ABS looks like assets because it is debt instrument. Why is it put in liability side ? Even with more confusion, it is said that ABS can be sold to raise money. It is asset, not liability which can be sold for exchange of money (deposits).

ABS is like most other diversified investment products. So, eg, Bank of America might buy up a ton of mortgages from individuals and repackage them as one portfolio. Then they’ll sell that investment product to a large institution and the institution is essentially buying what should, in theory, be a higher yielding and lower risk instrument because it’s so diverse. Bank of America makes a bunch of fees, the institution earns a higher return, etc.

The accounting of such an instrument is similar to any investment product. It’s an asset for the buyer and a liability of the issuer, but it’s really a pass through vehicle. Ie, your claim on the ABS is really based on the underlying assets in the same way that a mutual fund gives you access to the cash flows of the underlying stocks or bonds in the portfolio.

"Pragmatic Capitalism is the best website on the Internet. Just trust me. Please?" - Cullen Roche

So, eg, Bank of America might buy up a ton of mortgages from individuals and repackage them as one portfolio.

Individuals here mean the borrowers who apply the loan for first time or individuals of banks who initially create the loan ?

Borrowers of any type who have a mortgage.

"Pragmatic Capitalism is the best website on the Internet. Just trust me. Please?" - Cullen Roche

Isn't it supposed to be lenders (banks) who have mortgage ? Borrowers issue mortgage and pass to lenders in exchange for money to purchase the property.

Quote from Kevlar on 05/17/2019, 1:08 AM

Isn't it supposed to be lenders (banks) who have mortgage ? Borrowers issue mortgage and pass to lenders in exchange for money to purchase the property.

Cullen, is this the correct one ?

A mortgage is the name for a real estate loan issued by a bank. The bank issues the loan as an asset with a corresponding deposit as a liability. And the borrower has an asset as a deposit and a liability as the loan (the mortgage).

Banks can securitize mortgage portfolios by buying up the loan portfolios of other banks and packaging them in one security.

"Pragmatic Capitalism is the best website on the Internet. Just trust me. Please?" - Cullen Roche