asset-backed security

Asset-backed securities (ABS) are financial instruments created by pooling various debt instruments, such as mortgages, auto loans, and credit card debt, and selling them as bonds to investors. This process, known as securitization, allows lenders to gain liquidity and diversify their portfolios by selling these assets.1

When the pooled assets are primarily mortgages, the security is called a mortgage-backed security (MBS). Investors who purchase ABSs are entitled to receive principal and interest payments from the underlying debts. However, the complexity of these pooled assets can make it difficult for investors to assess the associated risks.1

Following the 2007-2008 financial crisis, regulations like the Dodd-Frank Act were enacted to improve investor protection. These regulations require issuers of ABS to retain more of the underlying risk and provide clearer disclosures to investors. Credit rating agencies also faced stricter requirements to strengthen internal controls and improve the accuracy of their ratings.2