In the bond market (fixed interest market or debt market as it is sometimes referred too), there is methodology to turn an asset into a debt instrument, that pays a yield (income or coupon) like a bond. This is called securitisation.
Securitisation is a well-established methodology used in the global debt markets. It was introduced initially as a means of funding for mortgage banks. Iike HBOS or Building Societies. Subsequently, the technique was applied to other assets such as credit card payments. Barclaycard do this with their creditcard portfolio. It has also been employed as part of asset/liability management, as a means of managing balance sheet risk. The excellent book that explains Securitisation is by Somsekhar Sundaresan:
The process of securitisation creates asset-backed bonds. These are debt instruments that have been created from a package of loan assets on which interest is payable, usually on a floating basis. The asset-backed market was developed in the United States and is a large, diverse market containing a wide range of instruments. Techniques employed by investment banks today enable an entity to create a bond structure from any type of cash flow; assets that have been securitised include loans such as residential mortgages, small business loans, commercial property mortgages, car loans, and credit card loans. The loans form assets on a bank or finance house balance sheet, which are packaged together and used as backing for an issue of bonds. The interest payments on the original loans form the cash flows used to service the new bond issue. Traditionally mortgage-backed bonds are grouped in their own right as mortgage-backed securities (MBS) while all other securitisation issues are known as asset-backed bonds or ABS. Let me give you an example ‘closer to home’.
Take the hypothetical company, Asad Karim Telecoms PLC. This business has a retail operation, called AK Retail, and delivers a broadband service to its 1000 customer base, and charges a monthly fee of £100, and the service is 0.5Mb. (A high quality operation as you can see…) Asad Karim Telecoms PLC, decides to securitise the AK Retail broadband business to raise cash, get the business off the balance sheet, so creates an special purpose investment vehicle called AK Retail Broadband PLC, that pays a monthly income to investors based on those 1000 customers each of which pay £100. Thus Asad Karim Telecoms PLC has “unlocked” the cash flows of the AK Retail business, and investors of course get access to the cash flows on the broadband business. Simples….
The securitisation process involves a number of participants. In the first instance is the originator, the firm whose assets are being securitised. The most common process involves an issuer acquiring the assets from the originator. The issuer is usually a company that has been specially set up for the purpose of the securitisation and is known as a special purpose vehicle or SPV and is usually domiciled offshore. In the UK for example, Northern Rock had an SPV for its mortgage book called Granite that was based in the UK Channel Islands, and Halifax Bank of Scotland (HBOS) had a similar vehicle that was called Grampian Mortgages. All clever accounting mechanisms for off balance sheet reporting. The creation of an SPV ensures that the underlying asset pool is held separate from the other assets of the originator. This is done so that in the event that the originator is declared bankrupt or insolvent (or rescued my HM Government…), the assets that have been transferred to the SPV will not be affected.