How will financial institutions make money now that the securitization food chain is broken?
The most severe financial crisis in decades has not only damaged the balance sheet of financial institutions. It has also severely affected their P&L, i.e. the process of generating revenues and profits.
In the old “originate & hold” model (before securitization) financial institutions made money from the investment income of holding the credit risk of loans and mortgages. But in the brave new world of securitization where you “originate & distribute” the credit risk rather than hold it on balance sheet an increasing fraction of the income of financial institutions was coming from the fees and commissions involved in this securitization process. This food chain of fees on top of fees is now broken: securitization of mortgages, that was running at the annual rate of $1,000 billion in January of 2007, was down 95% to an annual rate of $50 billion by January of 2008. So the process of generating fees and commissions is broken.
Let’s consider in more detail this loan origination and securitization chain for residential mortgages, commercial real estate mortgages and leveraged loans financing LBOs…
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