COVID-19: Structured Finance in a Crisis
Impacts of the COVID-19 Outbreak on Structured Finance and Valuation Challenges
May 06, 2020
COVID-19: Structured Finance in a CrisisDownload Article
The coronavirus 2019 (COVID-19) outbreak has resulted in unprecedented supply and demand shocks to the world economy. Despite central banks and governments’ interventions, many economies remain frozen, supply chains broken, and businesses and households exposed to sustained financial pressure. In that context, securitised credit instruments are facing market, operational, legal, and economic challenges, which will make their valuation harder.
To ease the burden of reduced income, many governments provide support to banks and eligible households by deferring or waiving loan repayments and rent payments, preventing eviction in case of non-payment, and providing income support via unemployment claims.
In a similar way, governments support businesses by providing government-guaranteed bridge loans, providing financial support for, or allowing the deferral of rents on commercial real estate, and making their staff eligible for temporary and (often) partial unemployment claims.
Despite central banks’ stimulus packages, the unprecedented halt economic activity and the heterogeneous government actions round the world create uncertainty on how creditworthiness and default risk will be assessed in the short term.
Structured credit products securitise a diversified pool of debt instruments across a diversified pool of borrowers, industries, sectors and sometimes geographies. They provide investors with choices in terms of level of repayment priority and therefore return and risk. The structured credit market encompasses various types of financial products, referencing actively managed or static collateral, such as:
- mortgage-backed securities (MBS): referencing commercial and residential real estate;
- asset-backed securities (ABS): referencing loans from small and medium enterprises, car financing, consumer finance, credit cards, utility bills financing;
- collateralised debt obligations (CDO): referencing corporate bonds and/or asset-backed securities; and
- collateralised loan obligations (CLO): referencing corporate loans.