Domen Zavrl has PhDs in both Applied Macroeconomics and System Dynamics. He is also an alumnus of Tuck Business School at Dartmouth and has studied cryptography at Stanford University. This article will explore the topic of structured financing, providing an outline of some of the most popular structured financing products that are leveraged by large companies to meet their complicated financial needs.
Structured finance is a complex instrument used by financial institutions and large corporations whose needs cannot be met by conventional financial products. Since the 1980s, structured finance has grown to become popular throughout the financial services sector.
Structured finance is typically used by large corporations with highly specified needs that a loan or other type of conventional financial instrument would be incapable of meeting. In most instances, structured finance involves the completion of a single discretionary transaction or a series of discretionary transactions.
Structured finance offers a variety of different benefits for companies, chief among them providing the business or organisation with a major injection of capital. Structured financial products are virtually always non-transferable, meaning that they cannot be converted from one type of debt to another in the same way as a conventional loan.
At the core of structured finance lies securitisation, a process that facilitates the creation of asset pools and complex financial instruments for use by investors and corporations with complex financial needs. Securitisation is incredibly valuable as it provides alternative funding formats while reducing focus on credit, managing risk through liquidity and interest rates and promoting efficient use of available capital to achieve potential for greater earnings or profit. Securitisation also transfers risk away from investors. In addition, by and large, it is also a less costly funding option, a factor that may be of critical importance for borrower companies with a less-than-optimal credit rating.
For multinational organisations seeking to borrow significant sums, a collected group of financial transactions and assets may be necessary. Structured finance facilitates lending transactions that cannot be completed via traditional financial instruments. Today, several structured finance products and combinations of different products can be used to meet the financing needs of large commercial borrowers, such as:
- Collateralised bond obligations
- Syndicated loans
- Credit default swaps
- Hybrid securities
- Collateralised debt obligations
- Synthetic financial instruments
The term ‘structured finance’ is frequently used to describe the bundling of receivables. Nevertheless, its actual definition refers more widely to the provision of a structured financial framework that assists both lenders and borrowers in achieving specific objectives. The main goal of structured finance is to provide less risky solutions to customers who need them by targeting diverse asset classes spread across multiple sectors, facilitating bespoke financing solutions.
Elements of structured finance include:
- Tranching, where several groups of securities are created from a single pool of assets
- Securitisation, culminating in the creation of securities by pooling together a group of assets before selling those securities on to investors
- Credit enhancement, creating securities with a higher credit rating than the underlying pool of assets
In the world of finance, it is easy to become bewildered with so many different options available today. Structured finance caters for financial institutions and large companies with complex financial needs, providing multifaceted, layered financial solutions that solve problems that cannot be overcome via traditional financing options.
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