|
Insurance Abstract
A method of securitized insurance or insurance like protection is
provided that eliminates accounting mismatches created when an institution
such as a bank, insurance company or corporation wishes to gain
protection for an outstanding obligation of payment. An insurance
or insurance like protection is purchasable by the institution that
protects the institution's outstanding obligation with a structure
that can be accounted for on an accrual basis. The accrual basis
protection creates accounting conformity for the institution when
matched with the accrual accounting basis of the obligation.
Insurance Claims
1. A method of securitized protection providing a conformity of
accrual based accounting structures, comprising the steps of: assuming
an obligation in one or a multiplicity of single name credit exposures,
wherein the obligation is assumed by an institution, accounting
for the obligation on an accrual basis, purchasing an insurance
policy for the institution from an insurance company in exchange
for insurance premiums such that the institution is also a policy
holder and accounting for the insurance policy on an accrual basis,
wherein the insurance policy provides single name credit protection
for the obligation.
2. The method of securitized protection of claim 1, wherein the
insurance company is a cell or special purpose insurance company.
3. The method of securitized protection of claim 1, further comprising
the step of the institution substituting any obligation in the one
or a multiplicity of single name credit exposures with at least
or a multiplicity of other non-defaulted and pari passau obligation.
4. The method of securitized protection of claim 1, wherein the
institution is selected from the list consisting of a bank, a second
insurance company and a corporation.
5. The method of securitized protection of claim 1, wherein the
obligation assumed is represented by one or a multiplicity of letters
of credit given to a letters of credit beneficiary, wherein the
letters of credit are selected from the list consisting of a guaranty,
letter of credit, surety, loan or a combination thereof.
6. The method of securitized protection of claim 1, further comprising
the step of a super senior protection provider providing a super
senior protection to the institution in exchange for payment, wherein
the super senior protection provides coverage on claims that the
institution is obliged to make as a result of the obligation in
exchange for payment, such that the institution can account for
the super senior protection on an accrual basis, and wherein the
super senior protection provider is selected from the list consisting
of an OECD bank, U.S. financial guaranty insurance company and un-funded
protection provider.
7. The method of securitized protection of claim 6, wherein the
super senior protection is selected from the list consisting of
a guaranty, letter of credit, surety, loan or a combination thereof.
8. The method of securitized protection of claim 6, further comprising
the step of a purchase of one or a multiplicity of guaranteed linked
notes by the institution from one or a multiplicity of equity partners,
wherein the one or a multiplicity of guaranteed linked notes provide
first loss protection and is accounted by the institution on an
accrual basis.
9. The method of securitized protection of claim 8, wherein the
guaranteed linked notes are linked notes or collateralized insurance.
10. The method of securitized protection of claim 1, further comprising
the steps of: investment of the insurance premiums by the insurance
company into permitted investments, issuance of notes from the insurance
company to note investors in exchange for payment, paying interest
due on the notes from earning on the permitted investments and insurance
premiums.
11. The method of securitized protection of claim 1, wherein the
insurance policy is structured as a note or a guarantee embedded
in a note.
12. A method of providing insurance or insurance like protection
on corporate loan portfolios, comprising the steps of: drafting
a policy such that the policy qualifies for accrual accounting treatment
afforded to a financial guaranty contract sunder FAS 133, issuing
the policy to an institution in exchange for insurance premiums
such that the institution is also a policyholder, designating at
least one single name credit protection under the policy for an
at least one obligation assumed by the institution, wherein the
at least one single name obligation is accounted on an accrual basis.
13. The method of securitized protection of claim 12, wherein the
insurance company is a cell or special purpose insurance company.
14. The method of securitized protection of claim 12, further comprising
the step of the institution substituting any at least one single
name obligation with at least one other non-defaulted and pari passau
obligation.
15. The method of securitized protection of claim 12, wherein the
institution is selected from the list consisting of a bank, a second
insurance company and a corporation.
16. The method of securitized protection of claim 12, wherein the
at least one obligation assumed by the institution is represented
by one or a multiplicity of letters of credit given to a letters
of credit beneficiary, wherein the letters of credit are selected
from the list consisting of a guaranty, letter of credit, surety,
loan or a combination thereof.
17. The method of securitized protection of claim 12, further comprising
the step of a super senior protection provider providing a super
senior protection to the institution in exchange for payment, wherein
the super senior protection provides coverage on claims that the
institution is obliged to make as a result of at least one obligation
in exchange for payment, such that the institution can account for
the super senior protection on an accrual basis, and wherein the
super senior protection provider is selected from the list consisting
of an OECD bank, U.S. financial guaranty insurance company and un-funded
protection provider.
18. The method of securitized protection of claim 17, wherein the
super senior protection is selected from the list consisting of
a guaranty, letter of credit, surety, loan or a combination thereof.
19. The method of securitized protection of claim 18, further comprising
the step of a purchase of one or a multiplicity of guaranteed linked
notes by the institution from one or a multiplicity of equity partners,
wherein the one or a multiplicity of guaranteed linked notes provide
first loss protection and is accounted by the institution on an
accrual basis.
20. The method of securitized protection of claim 19, wherein the
guaranteed linked notes are linked notes or collateralized insurance.
21. The method of securitized protection of claim 20, further comprising
the steps of: investment of the insurance premiums by the insurance
company into permitted investments, issuance of notes from the insurance
company to note investors in exchange for payment, paying interest
due on the notes from earning on the permitted investments and insurance
premiums.
22. The method of securitized protection of claim 12, wherein the
insurance policy is structured as a guarantee embedded in a note
Insurance Description
CROSS REFERENCE TO RELATED APPLICATIONS
[0001] This application claims priority to U.S. Provisional Application
No. 60/717,618, filed Sep. 15, 2005.
BACKGROUND OF THE INVENTION
[0002] In the aim of achieving financial protection, it is generally
true that (i) banks desire to purchase credit protection on loans
that they have made; (ii) insurance companies desire to purchase
(a) reinsurance protection on risks assumed under insurance policies
they have issued (e.g., workers compensation, trade credit, surety)
and (b) retrocessional protection on risks assumed under reinsurance
agreements they have entered into; and (iii) corporations that are
neither banks nor insurers desire to purchase credit protection
on obligations of third parties to the corporation (e.g., trade
receivables, lease obligations). In some cases, these banks, insurers
and other corporations would prefer to obtain such credit and other
protection by purchasing an insurance product rather than a derivative.
Obtaining protection through the insurance product may be preferable
because most insurance products are typically accounted for on an
"accrual basis," meaning receivables and payables are
accounted for when an exchange of receivables and payables is agreed
to or is owed, and the assets and liabilities that such entities
seek to hedge through the purchase of such protection are likewise
accounted for on an accrual basis. In comparison, derivatives typically
are accounted for on a "mark-to-market basis," meaning
the value assigned to a position held in a financial instrument
is based on the current market price for that instrument, or on
a fair valuation based on the current market prices of similar instruments.
Consequently, if these banks, insurers and other corporations were
to purchase such protection in the form of derivatives, they would
be subject to an accounting mismatch. Accordingly, financial benefits
may be obtained by the use of products providing for financial protection
without, e.g., accounting mismatches or other disadvantages present
in conventional instruments.
[0003] Prior existing methods and structures do not solve this
issue. For example, one recent transaction that exemplifies the
limitations of the prior art involved the co-issuers Smart Home
Reinsurance 2005-1 Limited and Smart Home Credit 2005-1 Limited
(the "Smart Home Deal"). The Smart Home Deal provided
reinsurance protection for a portion of Radian Guaranty Inc.'s mortgage
insurance portfolio. Like "catastrophe bonds" issued over
the past ten years, the Smart Home Deal provided reinsurance protection
only and not direct insurance. In addition, the Smart Home Deal
provided protection on mortgage risk only, and not a broader array
of credit risks (in either financial guaranty insurance or reinsurance
form) as is available through the present invention.
[0004] Standard credit default swaps ("CDS") are likewise
limited. CDSs generally are required to be marked to market under
FASB Statement No. 133, Accounting for Derivative Instruments and
Hedging Activities ("FAS 133"), creating an accounting
mismatch. In addition, standard CDSs do not protect specific obligations
of an insured but only specific reference entities. Hence, the specific
obligations that the credit protection buyer is seeking to protect
may not be deliverable into a standard CDS in settlement, e.g. trade
receivables. Furthermore, a market does not exist for protecting
certain kinds of risk with standard CDSs, such as surety insurance
and middle market corporate names.
[0005] Collateralized debt obligations ("CDO") require
an insured party sell an insured portfolio into a special purpose
entity. However there are good accounting, tax, and relationship
reasons for the insured party to buy "synthetic" credit
protection rather than selling the assets it wants to protect into
a CDO vehicle. Additionally, such synthetic protection can result
in substantial savings for the insured party as the super senior
tranche of protection can be done in less expensive, un-funded form.
[0006] Non-Standard Credit Default Swaps ("NCDS") may
be structured to be financial guaranty contracts under FAS 133 and,
as such, qualify for accrual accounting. However, these non-standard
credit default swaps leave the protection seller with the risk that
it has sold unlicensed financial guaranty insurance. In addition,
as noted above in reference to standard CDSs, a market does not
exist for protecting certain kinds of risk using non-standard CDSs,
such as surety insurance and middle market corporate names.
[0007] Sometimes an insurance company, or cell within an insurance
company, issues an insurance policy and hedges the risk under the
policy by buying CDS protection ("Transformer Trades").
Transformer Trades, however, have basis risk in that the insurance
protection that they provide will only pay claims to the extent
that a payment is due to the cell or insurance company under the
CDS and the amount paid through its settlement is enough to cover
the claims that are made. In addition, Transformer Trades are expensive
relative to the protection available through the present invention.
Transformer Trades are priced at a premium to the cost of a corresponding
CDS, often in excess of 10 basis points per annum. This is because
the "transforming" insurance company or some entity within
the structure must be paid for the "balance sheet usage"
and the accounting mismatch (between the CDS purchased and the insurance
sold) in addition to the cost of the underlying CDS that it buys
as a hedge. Finally, Transformer Trades are only available to the
extent the CDSs they transform are available for a given name or
risk.
[0008] Synthetic CDOs, like standard CDSs, are not eligible for
accrual accounting. Any payments to an insured party are based on
CDS valuations that effectively accelerate the loss payments made
under synthetic CDOs. This creates an expensive policy.
[0009] Except for investment-grade municipal obligations, financial
guaranty insurance of this type (i.e., first loss, single-name protection)
is not available from existing financial guaranty insurance companies.
One reason for this is that most of these insurers subscribe to
a highly levered, "zero-loss" strategy. Hence, these insurers
do not provide first loss, single name insurance protection for
which some losses are expected.
[0010] There remains a need for a way to securitize an assumed
obligation that does not create an accounting mismatch and that
provides a first loss, single name protection for which some losses
are expected.
SUMMARY OF THE INVENTION
[0011] The invention provides a way of delivering insurance or
insurance like protection on corporate loan portfolios, thereby
providing coverage for corporate risk while not creating accounting
mismatches, and further overcomes the limitations of the prior art.
[0012] According to an embodiment of the present invention, it
includes a method of securitized protection providing a conformity
of accrual based accounting structures having the steps of (1) assuming
an obligation in one or a multiplicity of single name credit exposures,
wherein the obligation is assumed by an institution, (2) accounting
for the obligation on an accrual basis, (3) purchasing an insurance
policy for the institution from an insurance company in exchange
for insurance premiums such that the institution is also a policy
holder, and (4) accounting for the insurance policy on an accrual
basis, wherein the insurance policy provides single name credit
protection for the obligation and wherein the institution is a bank,
a second insurance company or a corporation.
[0013] According to another embodiment of the invention, it includes
a method of providing insurance or insurance like protection on
corporate loan portfolios having the steps of (1) drafting a policy
such that the policy qualifies for accrual accounting treatment
afforded to a financial guaranty contract sunder FAS 133, (2) issuing
the policy to an institution in exchange for insurance premiums
such that the institution is also a policyholder, (3) designating
at least one single name credit protection under the policy for
an at least one obligation assumed by the institution, wherein (4)
the at least one single name obligation is accounted on an accrual
basis.
[0014] These and other features and advantages of the present invention
may be realized by one or ordinary skill in the art by reference
to the remaining portions of this specification, the drawings and
the claims.
BRIEF DESCRIPTION OF THE DRAWINGS
[0015] FIG. 1 is a block diagram of a single tranche structure
involving a letter of credit issued by a bank.
[0016] FIG. 2 is a block diagram of a single tranche structure
involving issuance of an insurance policy by an insurance company.
[0017] FIG. 3 is a block diagram of a dual tranche structure involving
a bank and an insurance company.
[0018] FIG. 4 is a block diagram of a triple tranche structure
involving a bank, an insurance company and an equity investor.
[0019] FIG. 5 is a block diagram of a dual tranche structure involving
an LoC beneficiary.
[0020] FIG. 6 is a block diagram of a triple tranche structure
involving an LoC beneficiary.
DETAILED DESCRIPTION OF THE DRAWINGS
[0021] In one embodiment of the invention, as shown in FIG. 1 and
generally shown in FIGS. 2-6, the invention provides an insurance
company 102 that will likely have a bankruptcy-remote structure,
although bankruptcy remoteness is not strictly necessary. Potential
bankruptcy-remote structures include, but are not limited to, a
segregated cell or separate account of an insurance company (a "cell",)
or a special purpose insurance company (an "SPI".) From
the general account of insurance company 102 (if an SPI) or from
the bankruptcy-remote part of insurance company 102, e.g., from
cell, insurance company 102 would (a) provide a form of insurance
or reinsurance protection Policy 96 and (b) issue obligations, such
as Notes 98, which may be in different classes with differing priorities
of payment and interest rates (i.e., tranches). Notes 98 may be
"linked" to credit performance of an portfolio 106 of
debt obligations, the timely payment of principal and interest on
which is covered by the Policy 96. As used herein, the terms "Cell",
"SPI" and "Insurance Company" are interchangeable
in that one term can be substituted for the others while maintaining
the spirit of the invention.
[0022] The proceeds of the Notes 98 are invested in permitted investments
105, i.e., collateral, that provides security for Policy 96 that
insurance company 102 writes to the holder of the portfolio 106.
These permitted investments 105 might include a note or repurchase
contract linked to the portfolio 106, or other securities or instruments.
To the extent necessary, the permitted investments 105 would be
limited to investments that allow the holder of Policy 96 to receive
the desired credit relief and/or regulatory capital benefit from
Policy 96.
[0023] Insurance company 102, the form of Policy 96, the domicile
of Note 98 investors, and other details of the invention's structure
are may be specified with the goal of minimizing the risk of withholding
tax being imposed on premiums paid under Policy 96. For example,
instead of taking the form of a traditional insurance policy, Policy
96 may be embedded in a note or structured repurchase contract such
that payments on the policy are treated as interest rather than
guarantee payments. The details of each invention structure are
also arranged to comply with any insurance and/or banking regulations
that might apply. As used herein, the term "policy" may
be either a traditional insurance policy or a guarantee embedded
in a note, thereby providing either insurance or insurance-like
protection. The invention provides coverage at a lower cost because
it benefits from technology used in the securitization market that
has not previously been applied to large credit portfolios on an
accrual accounting basis.
[0024] FIG. 1 depicts a single tranche structure involving a letter
of credit, or similar banking product, issued by a bank. FIG. 1
shows (i) the issuance by a bank (the "Bank") 103 of a
guaranty, loan, letter of credit or other similar banking product
(collectively, the "LoC" 94) to an end buyer of protection
(the "LoC Beneficiary" 104), wherein this transaction
is accounted for on an accrual basis, (ii) the issuance of a financial
guaranty insurance policy (the "Policy" 96) by a special
purpose insurance company or the cell of an insurance company (the
"Cell" 102) to Bank 103 to hedge the risk associated with
portfolio (the "Guaranteed Portfolio" 106) that is assumed
by Bank 103 under LoC 94, and (iii) the issuance by Cell 102 of
notes to investors 101 (the "Notes"). Under LoC 94, Bank
103 makes guarantee payments on claims (if any) that LoC Beneficiary
104 made as a result of losses LoC Beneficiary 104 incurred on obligations
covered by LoC 94. In consideration for this protection, LoC Beneficiary
104 typically pays to Bank 103 (a) an initial issuance fee and (b)
ongoing fees over the life of LoC 94.
[0025] Under Policy 96, Cell 102 pays for any claims that Bank
103, as policyholder, made as a result of losses that Bank 103 incurred
on obligations based on Guaranteed Portfolio 106 and covered by
Policy 96. This coverage can be for a single name credit protection
exposure such that Policy 96 covers a single name credit exposure
obligation derived from a single Guaranteed Portfolio 106. In consideration
for this protection, Bank 103 pays an insurance premium to Cell
102, typically over the life of Policy 96. Policy 96 is insurance
(i.e., an insurable interest and proof of loss is required of the
policyholder) such that it is not marked to market over time for
accounting purposes. Instead, Policy 96 is designed to qualify for
accrual accounting treatment afforded to a financial guaranty contract
under FAS 133. The accrual accounting of the Policy 96 matches the
accrual accounting for the Bank 103 obligation assumed under LoC
94, thereby eliminating accounting mismatches and creating accounting
conformity. This unique attribute of the invention distinguishes
it from competing products currently available to hedge portfolio
credit risk that must be marked to market under FAS 133. The Cell
will pay claims made under Policy 96 solely through the assets it
holds (i.e., Permitted Investments 105), and earnings thereon. Bank
103, as the insured party under Policy 96, will have a first priority
security interest in Permitted Investment 105. All recoveries that
Bank 103 receives on defaulted obligations covered by LoC 94, and
for which Bank 103 has already received insurance claim payments
under Policy 96, will be forwarded by Bank 103 to Cell 102. Cell
102 will then invest such funds in Permitted Investment 105.
[0026] Interest due on Notes 98 is paid out of (i) earnings on
the Permitted Investments 105 and (ii) premiums paid by Bank 103
to Cell 102 under Policy 96. Notes 98 are redeemed at maturity in
the order of their seniority, with the most senior notes being redeemed
first and the most subordinate notes being redeemed last. Permitted
Investments 105 are sold to fund redemptions. If there are any claim
payments made under Policy 96, it is likely that there will not
be enough Permitted Investments 105 at redemption to return the
principal amount of all Notes 98. The Cell 102 pays interest on
Notes 98 based upon the amount of outstanding principal balance
of Notes 98 over the period that interest is due. The outstanding
principal balance is generally calculated as (i) the purchase price
of Notes 98; minus (ii) amounts due under any insured obligation
covered by Policy 96 that have not been paid; plus (iii) any recoveries
of amounts described in clause (ii). On the maturity date of Notes
98, Noteholders 101 receive the outstanding principal balance, if
any, on the Notes.
[0027] The invention will be structured to give Bank 103 as much
flexibility in Policy 96 as Bank 103 requires and the investors
in Notes 98 will tolerate, subject to limitations imposed by Noteholders
101 and accounting requirements necessary to maintain the non-mark-to-market
treatment of Policy 96 and the related LoC 94. The invention may
permit Bank 103 (i) to substitute any obligation in the Guaranteed
Portfolio (i.e., an obligation covered by Policy 96) with another
non-defaulted and pari passu obligation of the same obligor, (ii)
to reduce premium and coverage under Policy 96 for any obligation
in Guaranteed Portfolio 106 that is redeemed or terminated by the
respective issuer, and (iii) to reduce premium and coverage under
Policy 96 for any obligation in Guaranteed Portfolio 106 that LoC
Beneficiary 104 elects to sell out of the Guaranteed Portfolio,
subject to the condition that it no longer holds any similar obligation
of that obligor at that point in time. These three features add
to the flexibility of the structure from the Insured Party's point
of view and clearly distinguish the invention from other competing
structures to hedge portfolio credit risk.
[0028] FIG. 2 depicts a single tranche structure of an insurance
or reinsurance agreement. FIG. 2 shows (i) the issuance of an insurance
Policy 96 by a Cell 102 of an insurance company or special purpose
insurance company to a Policyholder 112 to hedge the risk associated
with Insured Portfolio 106, wherein Insured Portfolio 106 is a portfolio
of debt obligation assembled by Policyholder 112 and (ii) the issuance
by Cell 102 of Notes 98. Policy 96 could provide life, property
& casualty, mortgage, financial guaranty or other forms of insurance
coverage. Notes 98 may be credit linked if Policy 96 provides financial
guaranty insurance protection. Alternatively, Notes 98 may not be
credit linked, but have recourse only to Cell 102. Accounting based
on the Policyholder's is accrual based both for Policy 96 and obligation
assumed under Insured Portfolio 106. Policy 96 can be for single
name credit protection such that Policy 96 covers a single name
credit exposure obligation derived from Insured Portfolio 106.
[0029] FIG. 3 depicts a dual tranche structure. FIG. 3 shows (i)
(a) the issuance by an OECD bank, U.S. financial guaranty insurance
company or other un-funded protection provider 113 of a guaranty,
loan, letter of credit, other similar banking product or financial
guaranty insurance policy, as the case may be, ("Super Senior
Protection" 107) to Insured Party 104, wherein this transaction
is accounted for on an accrual basis and wherein Insured Party 104
is an end buyer of protection and (b) the issuance of a financial
guaranty insurance Policy 108 by a segregated account of an insurance
company or special purpose insurance company ("Cell" 102)
to Insured Party 104, in the case of both (a) and (b), to hedge
the risk associated with Insured Portfolio 106, wherein Insured
Portfolio 106 is a portfolio of debt obligations assumed by the
Insured Party 104 and accounted for on an accrual basis, and (ii)
the issuance by Cell 102 of Notes 98 to Noteholders 101. Policy
108 can be for single name credit protection such that Policy 108
covers a single name credit exposure obligation derived of Insured
Part 104 from Insured Portfolio 106.
[0030] Under Super Senior Protection 107, Bank 113 makes guarantee
payments on claims (if any) that Insured Party 104 made as a result
of losses Insured Party 104 incurred on obligations covered by Super
Senior Protection 107 i.e., Insured Portfolio 106. In consideration
for this protection, Insured Party 104 typically pays to Bank 113,
the Super Senior Protection Provider, (a) an initial issuance fee
and/or (b) ongoing fees or premiums over the life of Super Senior
Protection 107.
[0031] Under Policy 108, Cell 102 pays claims that Insured Party
104, as policyholder, made as a result of losses Insured Party 104
incurred on obligations covered by Policy 108, i.e., the Insured
Portfolio 106. In consideration for this protection, Insured Party
104 pays an insurance premium to Cell 102, typically over the life
of Policy 108. Since Policy 108 is insurance (i.e., an insurable
interest and proof of loss is required of the policyholder), it
is not marked to market over time for accounting purposes. Instead,
Policy 108 is designed to qualify for accrual accounting treatment
afforded to a financial guaranty contract under FAS 133. From the
perspective of Insured Party 104, the accounting basis of Policy
108, Insured Portfolio 106 and Super Senior Protection 107 are all
accrual basis, thereby eliminating accounting mismatches and creating
accounting conformity. Cell 102 will pay claims made under Policy
108 solely through the assets it holds (i.e., Permitted Investments
105), and earnings thereon. Insured Party 104, as the owner of Policy
108, will have a first priority security interest in Permitted Investments
105. All recoveries that Insured Party 104 receives on defaulted
obligations within its Insured Portfolio 106, for which Insured
Party 104 has already received insurance claim payments under Policy
108, will be forwarded by Insured Party 104 to Cell 102. Cell 102
will then invest such finds in Permitted Investments 105.
[0032] Interest due on Notes 98 is paid out of (i) earnings on
Permitted Investments 105 and (ii) premiums paid by Insured Party
104 to Cell 102 under Policy 108. Notes 98 are redeemed at maturity
in the order of their seniority, with the most senior notes being
redeemed first and the most subordinate notes being redeemed last.
Permitted Investments 105 are sold to fund redemptions. If there
are any claim payments made under Policy 108, in a typical embodiment,
it is likely that there will not be enough Permitted Investments
105 at redemption to return the face amount of all Notes 98. Cell
102 pays interest on Notes 98 based upon the amount of outstanding
principal balance of Notes 98 on the day that interest is due. The
outstanding principal balance is generally calculated as (i) the
purchase price of Notes 98; minus (ii) amounts due under any insured
obligation covered by Policy 108 that have not been paid by the
applicable obligor; plus (iii) any recoveries of amounts described
in clause (ii). On the maturity date of Notes 98, the Noteholders
101 receive the outstanding principal balance, if any, on the Notes.
[0033] Preferably, the invention will be structured to give Insured
Party 104 as much flexibility in Policy 108 as Insured Party 104
requires and the investors in Notes 98 will tolerate, subject to
limitations imposed by holders of Notes 98 and accounting requirements
necessary to maintain the non-mark-to-market treatment of Policy
108. The invention may permit Insured Party 104 (i) to substitute
any obligation in the Insured Portfolio 106 (i.e., an obligation
covered by Policy 108) with another obligation of the same obligor
and (ii) to reduce premium and coverage under Policy 108 for any
obligation in Insured Portfolio 106 that is redeemed or terminated
by the respective issuer. These two features add to the flexibility
of the structure from Insured Party 104's perspective and distinguish
the invention from other competing structures to hedge portfolio
credit risk.
[0034] FIG. 4 depicts a triple tranche structure having Super Senior
Tranche 302, Mezzanine Tranche 303 and Equity Tranche 304. FIG.
4 shows (i) the issuance by an OECD bank, U.S. financial guaranty
insurance company or other un-funded protection provider 308 (Super
Senior Protection Provider 308) of a guaranty, letter of credit,
other similar banking product or financial guaranty insurance policy,
as the case may be, "Super Senior Protection" 305 to Insured
Party 301, wherein this transaction is accounted for on an accrual
basis and wherein Insured Party 301 is an end buyer of protection,
(ii) a guarantee linked repurchase agreement of debt securities
or guarantee linked note (Policy 306) entered into between a segregated
account of an insurance company or special purpose insurance company
(Cell 309) and Insured Party 301, wherein this transaction is accounted
for on an accrual basis, (iii) the issuance by Cell 309 of Notes
98 to note investors 311 and (iv) the issuance of guarantee linked
notes or the purchase of collateralized insurance (Guarantee Linked
Notes 307) by Insured Party 301 to or from equity investors 310,
wherein this transaction is also accounted for on an accrual basis.
Super Senior Protection 305, Policy 306 and the Guarantee Linked
Notes 306 hedge the risks associated with a portfolio of Insured
Portfolio 312, wherein Insured Portfolio 312 are risk and loans
issued or assumed by Insured Party 301). From the perspective of
Insured Party 301, the accounting basis of Policy 306, Insured Portfolio
312, Guarantee Linked Notes 307 and Super Senior Protection 305
and are all accrual basis, thereby eliminating accounting mismatches
and creating accounting conformity. Further, Policy 306 can be for
single name credit protection such that it covers a single name
credit exposure obligation of Insured Party 301 derived from Insured
Portfolio 312, a feature that insurance companies presently do not
provide.
[0035] Under Super Senior Protection 305, Super Senior Protection
Provider 308 makes guarantee payments on claims (if any) that Insured
Party 301 made as a result of losses incurred on the obligations
covered by the Super Senior Protection 305, i.e., Insured Portfolio
312, after protection provided by the Policy 306 and Guaranty Linked
Notes 307. In consideration for this protection, Insured Party 301
typically pays to Super Senior Protection Provider 308 (a) an initial
issuance fee and/or (b) ongoing fees or premiums over the life of
the Super Senior Protection 305.
[0036] In one embodiment, under Policy 306, if Policy 306 is a
repurchase agreement, Insured Party 301 agrees to repurchase the
underlying debt securities from Cell 309 at a price that would be
reduced to reflect losses by Insured Party 301 incurred on Insured
Portfolio 312, after first-loss protection provided by the Guarantee
Linked Notes 307.
[0037] Interest due on Notes 98 is paid out of (i) earnings on
the Permitted Investments 313 and (ii) premiums paid by Insured
Party 301 to Cell 309 under Repurchase Agreement 306. Notes 98 are
redeemed at maturity in the order of their seniority, with the most
senior notes being redeemed first and the most subordinate notes
being redeemed last. Permitted Investments 313 are sold to fund
any redemptions. If there are any claim payments made under Repurchase
Agreement 306, it is likely that there will not be enough Permitted
Investments 313 at redemption to return the face amount of all Notes
98. Cell 309 pays interest on Notes 98 based upon the amount of
outstanding principal balance of the Notes on the day that interest
is due. The outstanding principal balance is generally calculated
as (i) the purchase price of Notes 98; minus (ii) the reduction
in the purchase price reflected in Repurchase Agreement 306. On
the maturity date of Notes 98, Note investors 311 receive the outstanding
principal balance, if any, on the Notes.
[0038] Insured Party 301 pays interest on Guarantee Linked Notes
307 based upon the amount of outstanding principal balance of Guarantee
Linked Notes 307 on the day that interest is due. The outstanding
principal balance is generally calculated as (i) the purchase price
of Guarantee Linked Notes 307; minus (ii) amounts due under obligations
in Insured Portfolio 312 that have not been paid by the applicable
obligor; plus (iii) any recoveries of amounts described in clause
(ii). On the maturity date of Guarantee Linked Notes 307, the holders
of the Guarantee Linked Notes 307 receive the outstanding principal
balance, if any, on the Guarantee Linked Notes 307.
[0039] FIG. 5 depicts a dual tranche structure involving a letter
of credit, or similar banking product, issued by a bank. FIG. 5
shows (i) (a) the issuance by an OECD bank, U.S. financial guaranty
insurance company or other un-funded protection provider 113 of
a guaranty, letter of credit, other similar banking product or financial
guaranty insurance policy, as the case may be, (Super Senior Protection
305) to Insured Party 114, wherein Insured Party 114 is a bank or
other policyholder and this transaction is accounted for on an accrual
basis, (b) the issuance by Insured Party 114 of a guaranty, letter
of credit or other similar banking product (collectively, LoC Protection
115 to LoC Beneficiary 110, wherein this transaction is accounted
for on an accrual basis and wherein LoC Beneficiary 110 is an end
buyer of protection and (c) the issuance of a financial guaranty
insurance Policy 108 by a segregated account of an insurance company
or special purpose insurance company (Cell 102) to Insured Party
114, to hedge the risk associated with Guaranteed Portfolio 111,
wherein Guaranteed Portfolio 111 is a portfolio of debt obligations
assumed by Insured Party 114, and (ii) the issuance by Cell 102
of Notes 98 to Note investors 311.
[0040] Under Super Senior Protection 305, the Super Senior Protection
Provider 113 makes guarantee payments on claims (if any) that Insured
Party 114 made as a result of losses Insured Party 114 incurred
on obligations covered by Super Senior Protection 305 i.e., Guaranteed
Portfolio 111. In consideration for this protection, Insured Party
114 typically pays to the Super Senior Protection Provider 113 (a)
an initial issuance fee and/or (b) ongoing fees or premiums over
the life of Super Senior Protection 305.
[0041] Under Policy 108, the Cell pays claims that Insured Party
114 made as a result of losses Insured Party 114 incurred on obligations
covered by Policy 108, i.e., losses incurred by the LoC Beneficiary
110 under Guaranteed Portfolio 111. This coverage can be for a single
name credit protection such that Policy 108 covers a single name
obligation exposure derived from a single Guaranteed Portfolio 111.
In consideration for this protection, Policy 108 holder pays an
insurance premium to Cell 102, typically over the life of Policy
108. Since Policy 108 is insurance (i.e., an insurable interest
and proof of loss is required of Insured Party 114), it is not marked
to market over time for accounting purposes. Instead, Policy 108
is designed to qualify for accrual accounting treatment afforded
to a financial guaranty contract under FAS 133. From the perspective
of Insured Party 114, the accounting basis of Policy 108 and obligations
derived from Guaranteed Portfolio 111 under the Letter of Credit
and are all accrual basis, thereby eliminating accounting mismatches
and creating accounting conformity. Cell 102 will pay claims made
under Policy 108 solely through the assets it holds, i.e., Permitted
Investments 105, and earnings thereon. Insured Party 114 will have
a first priority security interest in Permitted Investments 105.
All recoveries that Insured Party 114 receives on defaulted obligations
within Guaranteed Portfolio 111, for which Insured Party 114 has
already received insurance claim payments under Policy 108, will
be forwarded by the Insured Party to Cell 102. Cell 102 will then
invest such funds in Permitted Investments 105.
[0042] Interest due on Notes 98 is paid out of (i) earnings on
Permitted Investments 105 and (ii) premiums paid by Insured Party
114 to Cell 102 under Policy 108. The Notes are redeemed at maturity
in the order of their seniority, with the most senior notes being
redeemed first and the most subordinate notes being redeemed last.
Permitted Investments 105 are sold to fund redemptions. If there
are any claim payments made under Policy 108, in a typical embodiment,
it is likely that there will not be enough Permitted Investments
105 at redemption to return the face amount of all Notes 98. Cell
102 pays interest on Notes 98 based upon the amount of outstanding
principal balance of the Notes on the day that interest is due.
The outstanding principal balance is generally calculated as (i)
the purchase price of Notes 98; minus (ii) amounts due under any
insured obligation covered by Policy 108 that have not been paid
by the applicable obligor; plus (iii) any recoveries of amounts
described in clause (ii). On the maturity date of the Notes 98,
the Note investors 311 receive the outstanding principal balance,
if any, on the Notes.
[0043] Preferably, the invention will be structured to give Insured
Party 114 as much flexibility in Policy 108 as the Insured Party
114 requires and the investors in Notes 98 will tolerate, subject
to limitations imposed by Note investors 311 and accounting requirements
necessary to maintain the non-mark-to-market treatment of Policy
108. The invention may permit Insured Party 114 (i) to substitute
any obligation in the Guaranteed Portfolio 111 (i.e., an obligation
covered by Policy 108) with another obligation of the same obligor
and (ii) to reduce premium and coverage under Policy 108 for any
obligation in the Guaranteed Portfolio 111 that is redeemed or terminated
by the respective issuer. These two features add to the flexibility
of the structure from the Insured Party 114's perspective.
[0044] FIG. 6 depicts a triple tranche structure having Super Senior
Tranche 302, Mezzanine Tranche 303 and Equity Tranche 304 and involving
a letter of credit, or similar banking product, issued by a bank.
FIG. 6 shows (i) the issuance by an OECD bank, U.S. financial guaranty
insurance company or other un-funded protection provider (Super
Senior Protection Provider 308) of a guaranty, letter of credit,
other similar banking product or financial guaranty insurance policy,
as the case may be, Super Senior Protection 305 to Insured Party
301, wherein Insured Party 301 is a bank or other policyholder,
(b) the issuance by Insured Party 301 of a LoC guaranty, letter
of credit or other similar banking product, collectively LoC Protection
94 to LoC Beneficiary 110, wherein LoC Beneficiary 110 is an end
buyer of protection, (ii) a guarantee linked repurchase agreement
of debt securities or guarantee linked note (Policy 306) entered
into between a segregated account of an insurance company or special
purpose insurance company (Cell 309) and Insured Party 301, (iii)
the issuance by Cell 309 of Notes 98 to Note investors 311 and (iv)
the issuance of guarantee linked notes or the purchase of collateralized
insurance (Guarantee Linked Notes 307) by Insured Party 301 to or
from equity investors 310. Super Senior Protection 305, Policy 306
and Guarantee Linked Notes 307 hedge the risk associated with Guaranteed
Portfolio 111, wherein Guaranteed Portfolio 111 is a portfolio of
debt obligations assumed by Insured Party 301. Policy 306 can be
for a single name credit protection such that it covers a single
name credit exposure obligation derived from LoC 94 and Guaranteed
Portfolio 111. Like the above, from the perspective of Insured Party
301, all relevant accounting basis are accrual basis, thereby eliminating
accounting mismatches and creating accounting conformity.
[0045] Under Super Senior Protection 305, Super Senior Protection
Provider 308 makes guarantee payments on claims (if any) that Insured
Party 301 made as a result of losses Insured Party 301 incurred
on obligations covered by Super Senior Protection 305 i.e., the
Guaranteed Portfolio 111 after protection provided by Policy 306
and Guaranty Linked Notes 307. In consideration for this protection,
Insured Party 301 typically pays to the Super Senior Protection
Provider 308 (a) an initial issuance fee and/or (b) ongoing fees
or premiums over the life of Super Senior Protection 305.
[0046] In one embodiments, under Policy 306, if Policy 306 is a
repurchase agreement, Insured Party 301 agrees to repurchase the
underlying debt securities from Cell 309 at a price that would be
reduced to reflect losses of Insured Party 301 incurred on Guaranteed
Portfolio 111, after first-loss protection provided by the Guarantee
Linked Notes 307.
[0047] Interest due on Notes 98 is paid out of (i) earnings on
Permitted Investments 313 and (ii) premiums paid by Insured Party
301 to Cell 309 under Policy 306. Notes 98 are redeemed at maturity
in the order of their seniority, with the most senior notes being
redeemed first and the most subordinate notes being redeemed last.
Permitted Investments 313 are sold to find any redemptions. If there
are any claim payments made under Repurchase Agreement 306, it is
likely that there will not be enough Permitted Investments 313 at
redemption to return the face amount of all Notes 98. Cell 309 pays
interest on Notes 98 based upon the amount of outstanding principal
balance of the Notes on the day that interest is due. The outstanding
principal balance is generally calculated as (i) the purchase price
of Notes 98; minus (ii) the reduction in the purchase price reflected
in the Repurchase Agreement. On the maturity date of Notes 98, the
Note investors 311 receive the outstanding principal balance, if
any, on the Notes.
[0048] Insured Party 301 pays interest on Guarantee Linked Notes
307 based upon the amount of outstanding principal balance of Guarantee
Linked Notes 307 on the day that interest is due. The outstanding
principal balance is generally calculated as (i) the purchase price
of the Guarantee Linked Notes 307; minus (ii) amounts due under
obligations in Guaranteed Portfolio 111 that have not been paid
by the applicable obligor; plus (iii) any recoveries of amounts
described in clause (ii). On the maturity date of Guarantee Linked
Notes 307, the holders of the Guarantee Linked Notes (Equity Investor
310) receive the outstanding principal balance, if any, on the Guarantee
Linked Notes
[0049] It will be appreciated that the present invention provides
a securitized transaction structured to give the Insured Party as
much flexibility in the Super Senior Protection, the Repurchase
Agreement, the Guarantee Linked Notes and Policy as the Insured
Party requires and the investors in the Notes will tolerate, subject
to limitations imposed by holders of the Notes and accounting requirements
necessary to maintain the non-mark-to-market treatment of the Super
Senior Protection. For example, the invention will permit the Insured
Party (i) to substitute any obligation in the Insured Portfolio
with another insured obligation of the same obligor, (ii) to reduce
premium and coverage under the Super Senior Protection, and (iii)
adjust the terms of the Repurchase Agreement, the Guarantee Linked
Notes and Policy to reflect any obligation in the Insured Portfolio
that is redeemed or terminated by the respective issuer. These two
features add to the flexibility of the structure from the Insured
Party's perspective and distinguish the invention from other competing
structures to hedge portfolio credit risk.
[0050] A number of embodiments of the present invention have been
described. Nevertheless, it will be understood that various modifications
may be made without departing from the spirit and scope of the invention.
For example, although a particular securitized insurance protection
structure has been described, implementations may involve alternative
methods for the buyer of protection to obtain the desired coverage
and accounting treatment. In addition, implementations may alter
the form of the Notes and insurance policy or reinsurance agreement.
Accordingly, other embodiments are within the scope of the invention.
|