A $2.5 TRILLION MARKET YOU HARDLY KNOW

It sees to be the perfect security, the magic bullet of finance.  From a package of the riskiest, scuzziest, least liquid loans, you can create a special kind of bond rated AAA.  In more a decade, there has hardly ever been a loss of principal and relatively few rating downgrades.  Over the years, the bond has fared much better than traditional corporate debt.  And there are $2.5 trillion of these bonds outstanding.

Welcome to the arcane but crucial world of securitization, as the process of creating these bonds is called.  The bonds themselves are popularly known as asset-backed securities (ABS) or mortgage-backed securities (MBS).  That's because they are collateralized by money flows from the borrowers.  Securitization is ubiquitous: If you have a mortgage, credit card, or auto loan, you are likely part of it, whether you know it or not.  Securitization's main virtue is that is links the home buyer or the credit-card borrower to the vast resources of the global capital markets.

But despite its gargantuan size, it's a largely invisible market.  Asset-based securities don't trade on any exchanges.  The ABS and MBS markets, exclusively institutional, release little information and are never covered on the evening news.   But there's no doubting the significance of the market.  According to Leon T. Kendall, a finance professor at Northwestern University: "Securitization is one of the most important and abiding innovations to emerge in the financial markets since the 1930s."

What the ABS and MBS markets do best is make marketable loans that otherwise would be unsalable: everything from aircraft leases to revenues from old Italian films to tax liens in New York.  "We're working on securitizing TV syndication, film libraries, and royalties.  The possibilities are endless," says investment banker David Pullman, managing director of The Pullman Group in New York.

BUSINESS WEEK, October 26, 1998, page 123.