In an asset securitization, a lender packages a pool of financial assets and sells them to a special purpose vehicle (SPV), which in turn issues asset-backed securities to investors. The proceeds received by the SPV are used to pay the lender for the pool of assets. Cash flows from the pool (principal and interest payments, proceeds from insurance claims, etc.) are used by the SPV to make principal and interest payments on the securities. This structure has been used with a wide variety of asset classes, including residential and commercial mortgages, credit card receivables, vehicle loans, equipment leases, and trade receivables.
Securitizations are well suited to asset pools that are:
- large enough to warrant the time, cost and complexity of a securitization;
- sufficiently diverse to avoid excessive volatility; and
- transferable, and otherwise unencumbered.
Lenders with suitable asset pools are attracted to the securitization structure because it provides an (often cheaper) alternative to traditional funding sources such as bank lending, corporate bonds and equity issues. An effectively structured securitization can have the added benefit of legally insulating the lender from the assets concerned.
Securitizations involving assets with a strong collection history, or credit enhancements such as overcollateralization or a third party guarantee, can receive a high credit rating. This makes the securities issued by the SPV attractive for investors, who also derive comfort from the security over the underlying assets.
The legal issues involved in an asset securitization are numerous and complex. Counsel working in this area provide advice and assistance regarding deal structure, the perfection and assignment of security interests in the pool, public offering documentation, the enforcement of rights to realize on underlying collateral and due diligence.RECENT DEVELOPMENTS
Ongoing concerns regarding consumer debt, and the increased scrutiny of derivatives that resulted from the economic crisis, have led to wide-ranging proposals in a number of countries regarding the regulation of securitizations. Two developments of interest are discussed below.A. Credit Rating Agencies
Canadian regulators stepped forward in 2010 with their addition to the wave of new legislation governing credit rating agencies or organizations (CROs): proposed National Instrument 25-101 – Designated Rating Organizations, Related Policies and Consequential Amendments. NI 25-101 marks a significant turning point for CROs in Canada, who have until now not been subject to formal oversight by securities regulators.
The central premise of the proposed Instrument is that CROs that wish to have their ratings eligible for use in offering documents and the like must apply to become a "designated rating organization" (DRO). Once an agency becomes a DRO, it must establish, maintain and ensure compliance with a code of conduct that is substantially the same as the IOSCO Code of Conduct Fundamentals for Credit Rating Agencies.B. Other Regulatory Developments
In April, 2011 the CSA published proposals that would effectively transform the exempt market for securitized products into a quasi-public market. The proposals narrow the scope of eligible exempt investors, impose significant disclosure and continuing disclosure obligations and create certification requirements as part of a broader statutory civil liability scheme.
The CSA also published proposed enhancements to disclosure requirements for securitized products distributed by prospectus. The proposed continuous disclosure rules would require issuers to file a report after each payment date detailing the asset pool's performance, mandate timely disclosure of significant events, annual reports from servicers and disclosure of any significant instance of non-compliance with servicing standards. These requirements are consistent with international developments, such as new IOSCO and SEC rules.