Potential Of Loan Securitization In Nigeria To Unlock Liquidity For Economic Growth

As Nigeria looks to boost growth in the wake of the
Covid-19 pandemic, securing illiquid assets to inject
more liquidity into markets offers a ready-to-use
solution to unlock the cash to drive domestic
investment and new growth. Loan securitization in
the country could also release sufficient liquidity to
conclusively deal with the financing requirements of
businesses.

Securitization is the process by which a sovereign or
corporate entity designs a marketable financial
instrument by pooling illiquid financial assets. The aim
of securitization is to improve credit availability by
converting hard-to-trade, non-tradable assets into
securities that can be traded in the capital markets.
The creation of new investment vehicles, as well as
the release of additional capital, increases market
liquidity</p

By buying securities, for example, investors
themselves become lenders, allowing the original
holder of the assets to remove these risk assets from
their balance sheets – freeing up cash to underwrite
more loans. While investors profit as they receive
interest on the underlying asset and loans, the whole
financial ecosystem also benefits as more cash is
released to the market for re-investment and growth.

In a nutshell, securitisation allows an entity to convert
illiquid assets such as debt or even property into liquid
assets. The process frees up capital for the original
owner of the assets. The process also provides income
for investors, unlocking new investment
opportunities. The risks associated with
securitization, on the other hand, include; investors
effectively becoming creditors, the potential of
default on the underlying loans, and lack of assets
transparency. Finally, if loans are paid off early, there
is also the risk that investors might not achieve the
returns anticipated over the initially projected loan
period.

Globally, the benefits realised for capital markets,
investors, liquidity, and debt management always
outweigh the risks when illiquid asset securitisation is
properly managed.

Despite the fact that the global financial crisis of 2008
highlighted the risks associated with asset
securitization, the Basel Committee on Banking
Supervision (BCBS) published enhancements to the
Basel II framework in 2009 to address these concerns.
The Basel III framework eventually incorporated these
enhancements. As a result, Basel III has effectively
addressed the oversight flaws in the governance and
management of illiquid asset securitisation that the
global financial crisis revealed.

The BCBS, in particular, increased the risk weighting
of illiquid securitized assets in comparison to other
securitized exposures. To improve due diligence, the
BCBS also required banks to meet specific operational
criteria that were more detailed and transparent. The
capital requirements for illiquid asset securitization
have also increased significantly. The most notable
change was BCBS’s revision of market risk rules,
which increased the amount of capital required to
cover trade book securitisation exposures.

Coronation Merchant Bank has developed an illiquid
loan securitization management framework closely
reflecting current Basel III principles and guidelines.
Replicating these frameworks across Nigeria for
example, building Basel III requirements into national
legislation, would allow all Nigerian financial
institutions to develop competent, globally compliant
and safe illiquid securitization offerings.

The benefits of a developed and well-regulated
securitization industry in Nigeria are three fold;
individual, institutional and market.

Firstly, Individual Nigerians would be able to invest in
high-value illiquid assets that would otherwise be
unavailable to them. This has the potential to increase
financial inclusion by bringing more investors and cash
into the country’s capital markets, as well as making
new investment instruments available to a previously
underserved segment of the Nigerian investor
population.

Second, Nigerian institutions would be able to
contribute to the development of a new domestic
asset class, as well as manage it. Aside from increasing
their own earnings, the process would significantly
increase the amount of liquidity (cash) available in the
local market for reinvestment and growth.

Thirdly, this would have a significant impact on the
effectiveness and depth of Nigeria’s capital markets,
allowing Sovereign and Corporate entities to access
more cash. This would result in a significant increase
in domestic investment and a much more evenly
distributed growth across the economy.

In conclusion, a well-developed regulatory framework
for loan securitisation would allow Nigerian financial
institutions to unlock cash to support additional
domestic investment and economic growth. In
addition to deepening the domestic capital market
and allowing it to provide new sources of funding to
the country’s real sector, a well-regulated loan
securitisation industry in Nigeria will improve the flow
of credit, which will spur domestic growth.