In: Finance
Asset backed Securities (ABS) are a product of financial engineering which are collateralized by a bunch of financial assets like loans, auto loan receivables, lease etc. Non-tradable but simple illiquid assets are converted into tradable but complex liquid securities. So, there is an overall reduction in liquidity risk.
In student loan asset backed securities, the pool of assets comprises of outstanding student loan receivables which imlies that outstanding student loans are pooled together and then securitized to form a trading security. The return of the investor in such securities is linked to repayment of such loans. Since, most of the student loans are backed by the government, these loans often do not involve a credit check. Due to this reason, student loan asset backed securities carry a significant amount of risk because in most cases, the banks do not assess the borrower’s ability to repay the loans. Another feature of student loans is that they are not collateralized, hence in the case of borrower failing to repay the loan, there is nothing to be foreclosed.