SPV for ABS

K

kknb4591

New member
Joined
Jul 30, 2007
Messages
0
Reaction score
0
I am having a bit of difficulty understanding the process by which ABSs are given to Special Purpose Vehicles. For example am I correct in thinking that a business loan made by HSBC to a corporation is sold to the SPV? What happens if the business goes bust? Who sells the loan? etc.

Perhaps there is an easier way to explain it?
 
are you referring to distressed debt?

eg Where HSBC has made a loan (eg $1 million) to a corporation who cant pay it back? HSBC then sells the loan to an SPV at a discount say $100,000? The corporation probably has $1million of assets on its books which the SPV can either get through taking the company to court, or negotiating a payback/refinancing with the borrower to get back say $300,000 of the $1million owed, so it pockets $200,000 from the deal.

What HSBC gets out of selling the bad debt, is having a clean balance sheet so its credit rating isnt affected.

The question is, who owns these SPVs and how are these deals conducted?
 
Thanks for explaining.

So the SPV has bought the debt for $100,000 from HSBC, then manages to get $300,000 through the court (or other means) and makes $200,000 profit.

HSBC would lose $900,000 from this deal? How do they quantify if this is worth having it off their balance sheet?

Also if none of the loans held by the SPV default, the cash flows are obviously quite unpredictable (increasing prepayment/reinvestment risk). I have read about CLOs, do these work the same as CMOs (i.e. split into tranches), and are they in anyway related to SPVs/ABSs?

What is a CDO of ABS?
 
Yes, HSBC would lose 900k. 900k loss is still better than having $1million of bad debt on your books and having S&P downgrade your credit rating. Also, most banks have convenants and ratios to manage, so having 900k wiped off their books isnt by choice.

remember, the loans bought by the SPV already are in default. Thats the whole point of HSBC selling them at a discount - the`re termed distressed debt.

My guessing is that these SPVs are highly leveraged with debt, so theres more upside for the equity holders. And the debt are probably tranched from senior, mezz to junior.

Actually, the above example is pretty much what happened to Japan and their super banks. They lent out loans to every tom & dick & harry, who inturn, used the $$$ to invest in real estate during the boom periods. During the period of bust, the japanese superbanks were left with nothing but bad debt on their books. They literally had to give away all their non performing loans for free even though alot of the loans were secured against the collateral bought.

Now that we are in a period of growth and real estate prices are going up, those SPVs which these distressed debt a few years back, are sitting on a goal mine.
 
Actually, i dont think CDOs or ABS necessarily relate to distress debt ie the loan or asset being collateralised doesnt have to be in distress.

Just wanted to share what i read in the economist a while ago. i thought it was a fascinating read!



Edited 1 time(s). Last edit at Monday, July 30, 2007 at 10:26AM by theboxer.
 
Alternative investments.

Actually, i probably threw a red herring with that distress debt explanation as most Asset Back Securities are not distressed.

Anyway if this was an exam question, i would answer that SPVs ie Special Purpose Vehicles, are just companies set up to hold perform a specific objective. In the case of ABS, its just used to contain the risk and rewards of the securitization into one entity.

In the case of distress debt, its just to contain all the risks and rewards of non�@performing debt acquired like in the example above, into one legal entity. If they wanted to, they could securitise the all the non performing loans acquired into a security, tranche it, and sell it to other parties like in the case of CMO, or CDOs.

I could be wrong on this though, as this isnt my area of specialty.

Hopefully someone with ABS experience can elaborate or correct me.

thanks
 
Corps create SPVs for the purpose of securitizing assets (ABS, CDO, MBS) to be sold in the market. A group of loans might be sold into a SPV which basically securitizes the group, divides into tranches and sells. The corp can then use the proceeds of the sale through transfer throught the SPV to leverage another transaction (ie. repetition). SPVs also allow corporations to transfer debt off-balance sheet through synthetic leases (see Enron's failure).
 
For anyone that's interested in SPVs, there is a book about Enron and the ludicrous things they did with them titled "The Smartest Guys in the Room." Talks in great detail about the whole rise and fall of Enron but explains in great detail Andrew Fastow's use of SPVs. Fairly good read but somewhat lengthy, probably not what you want to hear while studying!
 
An SPV is set up for the process of securitization. If we take your example, HSBC could instead of raising capital through bond issuance use some of its assets (loans) to raise the capital. The mechanics is as follows:

HSBC forms SPV (lets call it HSQ). Then HSBC would sell loans to HSQ for cash. Now confusing part is how HSQ obtains cash to buy loans from HSBC. HSQ does that by selling securities for which HSBC's loans are underlying. Effectively HSQ created Asset Backed Securities (ABS) and used proceeds to buy Assets from HSBC. This way HSBC turned it's less liquid and riskier assets into cash, and is not liable in any way to the ABS holders (HSQ is a separate entity)

If the entire amount of underlying assets is based on a loan to one company, and that company defaults, then ABS security holders get the short end of the stick. But this never happens as the underlying assets represent a pool of loans made to various clients.

And as someone else already said, the structure of an ABS issues permits for various payout/risk combinations.
 
You must log in or register to reply here.
Back
Top