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The SEC's OBS Report: Securitizations

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Posted by: Jack Ciesielski	6/22/2005 6:30 AM
The lease accounting and pension accounting aspects of the report have gotten most of the press, because 1) the amounts at stake were so large and 2) the SEC made recommendations to the FASB to reconsider the accounting for these kinds of transactions. Nevertheless, there's plenty of other interesting facts in the report. One aspect involved securitizations: that process of removing assets from the balance sheet in a sale to a special purpose entity - and often leaving a residual interest of some sort in the assets, one that's small relative to the assets sold but bearing a disproportional concentration of credit risk. From time to time, securitizations have generated as much Wall Street fear, loathing and just plain ignorance of facts as pensions or leases - so let's see what the SEC found out about them. The numbers, as happens with securitizations, were pretty large - yet able to stay off of investors' radar. In their sample of 200 issuers, the SEC found that there was $790.9 billion of assets removed from the balance sheets. Without the transfers, total assets of the issuers (at $12.4 trillion) would have been about 6% higher. There were a net $10.3 billion of gains/losses recognized; and probably most intriguing, $161.1 billion of retained interests on the balance sheets. What kind of retained interests? Interest-only strips, probably the most volatile of all manner of retained interests, clocked in at $5.6 billion. Servicing assets, those fees for managing the securities sold to the securitization trusts, totaled $22.7 billion, and "other" retained interests were $132.9 billion. The other category took in interests like overcollateralizations, bond interests, and seller's interests in credit card securitizations. The remainder assets from securitizations paled along side the assets of the sample firms - but when you consider that they're more volatile assets than the ones they "replaced", comparing them to equity is a good idea - and they're over 7% of equity. One gripe mentioned in the report: "It appears that some issuers exclude information regarding securitization transactions from their disclosures if they did not retain a subordinate interest, such as an interest-only strip, following the transactions. Further, the Staff notes that the sample issuers disclosed relatively little information regarding transactions with commercial paper conduits, such as transfers of trade receivables." If you've ever tried to dig into the guts of securitization disclosures, you know what they mean. A curious aspect of securitizations: very often the retained interests aren't traded securities. They're estimated values, essentially "mark-to-model" amounts - one reason they can have volatile values, because they're sensitive to changes in assumptions. (Aside from the fact that their very structure can make them sensitive to the lightest of tremors in the bond market. See "interest-only strips.") That "mark-to-model" process is what opponents of Statement 123(R) have seized upon as so-called "unreliable, unworkable estimates of option value." Wonder how many of them have "marked-to-model" retained interests on their balance sheets?

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