The process of creating a financial security is called securitization.
Securitization occurs in two ways.
First, a debt instrument that formerly was rarely traded becomes actively traded, usually because the size of the market increases and the terms of the debt instrument become more standardized. For example, this has occurred with commercial paper and junk bonds, both of which are now considered to be securities.
Second, a security can be created by the pledging of specific assets, resulting in the creation of asset-backed securities.
The asset securitization process involves the pooling and repackaging of loans secured by relatively homogeneous, small-dollar assets (such as an automobile) into liquid securities. Usually, several different financial institutions are involved, with each playing a different functional role.
The process of securitization lowers costs and increases the availability of funds to borrowers, with the risk being transferred to the investor.
