Securitization involves transferring ownership of assets from original owners to a special legal entity, and this entity in return issues asset-backed securities backed by these transferred assets. The pool of securitized assets from which cash flows are generated is known as collateral. Securitized assets are usually loans and receivables, and securities are backed or collateralized by any kind of income yielding assets such as toll roads.
Securitization allows investors to have more direct legal claims on loans and portfolios of receivables. Also, due to disintermediation (lessening the role of intermediaries), the costs paid by borrowers can effectively be diminished. Banks can improve their profitability by increasing loan origination and fees.
Securitization also has benefits for investors. Investors can access securities matching their risk, return, and maturity needs. For example, a pension fund with a long-term horizon can have access to long-term real-estate loans.
Securitization also allows for the creation of tradable securities with much liquidity and results in more efficient financial markets.
Many sovereign governments have also embraced securitization. For example, the Italian government has used securitization for privatizing public assets. In emerging markets, companies and banks have used securitization to lower their funding costs.
A major benefit of securitization is:
A. the decreasing interest rate risk.
B. providing transparency in bond and stock markets.
C. the creation of tradable securities with better solvency.
The correct answer is C.
Securitization allows for the creation of tradable securities with better liquidity resulting in more efficient financial markets.
Reading 53 LOS 53a:
Explain benefits of securitization for economies and financial markets