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Importance of Securitization

Importance of Securitization. The mortgage-related market is by far the largest fixed-income market in the U.S. by issuance. Restricting attention to non-mortgage instruments, the asset-backed market is very large, exceeding the issuance of all corporate debt in 2004, 2005, and 2006.

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Importance of Securitization

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  1. Importance of Securitization • The mortgage-related market is by far the largest fixed-income market in the U.S. by issuance. • Restricting attention to non-mortgage instruments, the asset-backed market is very large, exceeding the issuance of all corporate debt in 2004, 2005, and 2006. • Overall, securitization is a very large, significant, part of the U.S. capital markets.

  2. The Financial Crisis

  3. Run on the Repos

  4. The Financial Crisis

  5. Regression Results • Roughly same results for repo spreads. • Rise in LIB-OIS (proxy for counterparty credit risk in banking system) leads to increase in spreads. • Repo haircuts depend on expected volatility in underlying collateral • More expected volatility implies larger haircuts.

  6. Implications • Problems in sub-prime market led to higher LIB-OIS. • Higher LIB-OIS lead to larger credit spreads on securitized paper and repos. • Higher credit spreads led to more uncertainty about bank solvency and lower values for repo collateral. • Concerns about liquidity of bonds used for repo collateral led to rising repo haircuts (equivalent to a bank run).

  7. Reforming the Repo Marketfrom REGULATING WALL STREET Combination of government-guarantee scheme and a market-discipline scheme: • When borrower defaults, repo counterparties on government paper take collateral. Repo counterparties for risky collateral are paid by repo resolution fund (RRF) based on a conservative assessment of the collateral in return for possession of that collateral. • RRF liquidates collateral over six months. Surplus paid to repo lender; deficit “clawed back.” • RRF manages credit risk by: • Charging repo lenders ex ante fee. • Limiting program to high quality collateral. • Impose solvency criteria on repo lenders for eligibility. Just like discount window!

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