Structured Finance and the Financial Turmoil of 2007 2008

Rgknvt cdos have increasingly become important in

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@RG±kNVt CDOs have increasingly become important in recent years. Chart 1. Global securitization by currency 0 250 500 750 1.000 1.250 1.500 1.750 2.000 2.250 q1 q2 q3 q4 total 94 95 96 97 98 99 00 01 02 03 2004 2005 2006 2007 2008 US Dollar Euro Sterling Yen Others bn USD SOURCE: Dealogic.
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BANCO DE ESPAÑA 17 DOCUMENTO OCASIONAL N.º 0808 Chart 2. Global securitization by collateral 0 250 500 750 1.000 1.250 1.500 1.750 2.000 2.250 q1 q2 q3 q4 total 94 95 96 97 98 99 00 01 02 03 2004 2005 2006 2007 2008 bn USD RMBS CMBS ABS Student loans ABS Credit Cards ABS Auto ABS Loans ABS Receivables CDO Cash Others SOURCE: Dealogic.
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Figure 2: Example RMBS securitization: Creation of residential mortgage-backed securities (RMBS) (“Cash flow”, “true” sale securitization) SOURCE: Adapted from: ECB (2008a), Mengle (2007), Fabozzi et al. (2006), Elul (2005), Gorton and Souleles (2005), The Bond Market Association (2004) and Jobst (2003). Homeowner A Homeowner B Etc. Originating bank (“originator”) Special purpose vehicle (SPV), issues residential mortgage-backed securities (RMBS) Pooling and sale of mortgages (“true sale”) Cash Mortgage debt Investors, buy (tranches of) RMBS Mortgage debt Cash Cash Creation and sale of “tranched” RMBS Cash Credit enhancement (over- collateralization, insurance by monolines, etc.) Rating agencies Monolines Simplified structure : No separate servicer, trustee, underwriter and/or swap counterparty. Fees Fees BANCO DE ESPAÑA 18 DOCUMENTO OCASIONAL N.º 0808
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Figure 3: “Tranched” residential mortgage-backed securities Mortgages (may include subprime) Residential mortgage-backed securities Consisting of following tranches 96 million investment grade 80 million “super-senior” tranche AAA 100 million pool of mortgage loans 12 million “senior” tranche AA 4 million “mezzanine” tranche BBB 噠7 million below investment grade 2 million “subordinated” tranche B 2 million “equity” unrated tranche SOURCE: Own elaboration. BANCO DE ESPAÑA 19 DOCUMENTO OCASIONAL N.º 0808
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BANCO DE ESPAÑA 20 DOCUMENTO OCASIONAL N.º 0808 3.2 Asset-backed commercial paper (ABCP) Asset-backed commercial papers (ABCP) are collateralized short-term debt instruments (commercial paper or CP), which are constantly rolled over and issued by so-called conduits (which include Structured Investment Vehicles or SIVs) to finance investments in often longer-term securities [Fitch Ratings (2001); Moody’s (2003)]. These securities can be regarded as the collateral underlying the ABCP issued, in other words are the “asset-backed” component of ABCP. Figure 4 explains the basic mechanism of ABCP. Certain investors, or collateral providers which can be banks or other entities, want to obtain financing by selling certain assets to an ABCP conduit. These assets need to be “eligible”, i.e. they need to have a certain rating that allows the conduits to purchase them. The ABCP conduit finances its purchase of the eligible assets by issuing ABCP, which is subsequently bought by investors in the ABCP market. In order to make the paper more attractive for the investors, often credit enhancement is sought (see section 3.1). Finally, an ABCP program involves the
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RGkNVt CDOs have increasingly become important in recent...

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