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Credit Card Securitization – An Overview

By Anthony Samuel

Republish: EasyPublish™ Published: 19Mar2007 Word count: 609 Viewed: 329 time(s) Get Free Content For Your Site

Securitization is the packaging of a chosen group of loans with a suitable level of credit improvement, and the redeployment of these packages to investors. Investors purchase the repackaged assets in the form of securities or loans, which are secured on the original pool and its connected income stream. Securitization thus changes illiquid assets into liquid ones.

A huge bulk of credit card securitization has been accomplished using two dissimilar vehicles - the individual trust and the master trust. The individual formation is a solitary pool of receivables sold to a trust and used for a single security. When the issuer plans to give out another security, it must assign a new group of card accounts and put up for sale the receivables in those accounts to a different trust.

The master trust constitution lets the issuer generate numerous securities from the same pool of receivables. The master trust acts as a pool of receivables to which receivables are added from time to time to give out more securities. The master trust allows the issuer-improved flexibility.

One of the exceptional characteristics of credit card securitization is the small cycle of the receivable (4-5 months). The standard amortization arrangement used in automobile loans, home loans and the like does not apply in case of credit cards. If the collections from the borrowers were to be passed straight to the investors, the investors would get paid in around 5-8 months.

This is neither advantageous nor cost-effective. Thus, an exclusive structure is worked out to give a longer life to the security compared to the normal settlement time of a credit card receivable. The technique involves dividing the receivables into finance costs and principal. While the finance fees are employed for paying the coupon on the security, the main settlement is dealt with in any of the two ways:

A. Revolving method: Under this process, the major repayment every month is given to the issuer for purchasing new receivables.

B. Controlled repayment: Under this construction, the main repayment is divided into controlled pre-fixed amortization and is utilized to retire the security over a set period, say a year. The surplus of main collection in any month is reinvested in purchasing new receivables with which the shortfall, in any month, is covered.

Another important characteristic of credit card securitization is the lack of asset support. Credit card receivables proffer no security in the possibility of cardholder non-payment. As a consequence, recoveries are restricted.

The main "players" in the cycle of securitization are:

Originator – This is the entity that either creates Receivables in the normal route of its business, or buys and collects portfolios of Receivables. Its counsel works intimately with counsel to the Underwriter/Placement Agent and the Rating Agencies in arranging the deal and organizing documents.

Issuer – It is the exclusive purpose entity, generally an owner trust, formed pursuant to a Trust Agreement between the Originator and the Trustee. It gives out the Securities and prevents taxation at the entity level.

Trustees – It is generally a bank or other entity sanctioned to act in such ability. The Trustee, selected pursuant to a Trust Agreement, holds the Receivables, gets payments on the Receivables and makes payments to the Security holders.

Investors – They are the final buyers of the Securities - usually banks, insurance companies, retirement funds and other "competent investors." In a number of cases, the Securities are bought in a straight line from the Issuer, but more frequently the Securities are issued to the Originator or Intermediate SPE as compensation for the Receivables and then sold to the Investors, or in the case of a guarantee, to the Underwriters.

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