Structured Finance

Structured finance involves the pooling of assets and the subsequent sale to investors of debt securities backed by the cash flows arising from these pools.

According to the Bank for International Settlements, structured finance instruments can be defined through three key characteristics:

  1. Pooling of assets  (either cash-based or synthetically created);
  2. Tranching of liabilities that are backed by the asset pool;
  3. De-linking of the credit risk of the collateral asset pool from the credit risk of the originator, usually through use of a finite-lived, standalone special purpose vehicle (SPV).

Globally, the market reached a peak ahead of the credit crunch of 2007/2008. Prior to the credit crisis, many structured finance instruments were rated by rating agencies and were tranched upon issue. In more recent times, they are often not rated and not tranched. The market is starting to grow again, driven by the impact of regulatory changes such as Basel III on the banking sector, and Solvency II on insurance companies, as they look to use securitisation and structured finance techniques as part of their risk management strategies. In the first half of 2012, a total of €126.9 billion of securitised debt products were issued in Europe, while it has been estimated by Bloomberg that an additional €1.5 – €1.9 trillion of funding will be needed to power any growth for European banks and sovereign states.