The market for bonds backed by various types of consumer loans is getting healthier every day. So-called asset-backed securities deals are again hitting the market, mostly consisting of packaged auto and credit card loans. Commercial mortgages are also beginning to interest investors once again. But the residential mortgage-backed bond market continues to struggle. The Securities and Exchange Commission offered a new rule last week to help build investors' comfort with these assets. Will it help?
The new rule requires loan issuers to provide a review of the assets underlying an asset-backed securities transactions. Either the issuer itself can perform the due diligence procedures or it can hire a third-party firm to do the work. The rule applies to all assets, but the real value would be provided to mortgages, since investors never became nearly as wary about the other asset classes. Investors should be pretty excited about the new rule.
Here's how it would work. Let's say you're Bank of America and you want to securitize $1 billion worth of mortgages. Now, you would have to either perform detailed due diligence on those assets that supports all of the underwriting requirements and statistics in the deal's offering documents or hire a third-party due diligence expert. And whoever does that due diligence will have expert liability, so must stand behind the results. In other words, investors can be fairly confident that the assets are what they're represented to be according to the deal documents, or else they have someone to sue.