Financial Intermediation Theory and Implications for the Sources of Value in Structured Finance Markets

National Bank of Belgium Working Paper No. 71

26 Pages Posted: 13 Oct 2010

See all articles by Janet Mitchell

Janet Mitchell

National Bank of Belgium - Department of Financial Stability; Centre for Economic Policy Research (CEPR)

Date Written: July 26, 2005

Abstract

Structured finance instruments represent a form of securitization technology which can be defined by the characteristics of pooling of financial assets, delinking of the credit risk of the asset pool from the credit risk of the originating intermediary, and issuance of tranched liabilities backed by the asset pool. Tranching effectively accomplishes a "slicing" of the loss distribution of the underlying asset pool. This paper reviews the finance literature relating to security design and securitization, in order to identify the economic forces underlying the creation of SF instruments. A question addressed is under what circumstances one would expect to observe pooling alone (as with traditional securitization) versus pooling and tranching combined (as with structured finance). It is argued that asymmetric information problems between an originator and investors can lead to pooling of assets and tranching of associated liabilities, as opposed to pooling alone. The more acute the problem of adverse selection, the more likely is value to be created through issuance of tranched assetbacked securities. Structured finance instruments also help to complete incomplete financial markets, and they may also appear in response to market segmentation.

Keywords: Structured finance, securitization

JEL Classification: G10, G12, G20

Suggested Citation

Mitchell, Janet, Financial Intermediation Theory and Implications for the Sources of Value in Structured Finance Markets (July 26, 2005). National Bank of Belgium Working Paper No. 71, Available at SSRN: https://ssrn.com/abstract=1690514 or http://dx.doi.org/10.2139/ssrn.1690514

Janet Mitchell (Contact Author)

National Bank of Belgium - Department of Financial Stability ( email )

14 Blvd de Berlaimont
B-1000 Brussels
Belgium
+32 2 221 3459 (Phone)
+32 2 221 3104 (Fax)

Centre for Economic Policy Research (CEPR)

London
United Kingdom

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