Question

What does asset securitization involve?

Answer 1

Asset securitization is an off-balance sheet mode of financing.

Securitization is the process by which a company (called Originator) sells its current assets (for example accounts receivable or loan) to investors, in order to raise cash. However, since there is a default risk associated with receivables or loans (since the borrowers may not repay in part or in full), the Originator typically sets up a SPE (Special purpose entity) which has a separate legal structure and legal entity than the Originator, and sells its assets to the SPE. Therefore the default risk is transferred to the SPE, and the Originator is not legally responsible for default risk. The SPE, in turn, pools the assets into different categories and sells to the investors.