Key takeaways:
- The ABS or securitisation universe represents a diverse opportunity set, offering investors varied risk and return
characteristics, alongside high-quality income and resilient returns. - It can offer diversification to fixed income portfolios, while the amortising structures and shorter durations can help reduce overall credit and interest rate risks.
- Investing in ABS requires not only a unique and broad insight into the dynamics of securitisation markets, but also an ability to understand and analyse the risks in different types of securitisation transaction.
Although known by numerous names based on the type of assets that back them, asset-backed securities (“ABS”) or securitisations are ultimately all securities made up of discrete pools of common assets.
Securitisation structures can be thought of as analogous to a “mini bank” that makes only one type of loan. Like a bank it funds these loans via a mixture of different classes of debt and equity (each with different risk and return profiles). However, securitisation has a number of positive distinguishing features versus a typical bank:
- Less complexity and governance risk – Investors enjoy greater transparency on the loans being made and tight controls over how those loans can change over time.
- Matched funding of assets and liabilities – Securitised debt usually does not need to be repaid before the assets repay.
- Limited interest rate risk – Generally securitisations just pass through the income they earn on the loan portfolio to pay the securitised debt interest. If there is any mismatch between say a fixed rate loan portfolio returns and variable rate securitised debt interest, this will be hedged via swaps embedded within the structure.
In this Case for ABS, we take a deep dive into the sector and evaluate each of its distinguishing features that enable the asset class to be combined successfully with other fixed income in diversified portfolios.