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Asset-Backed Securities

Background

Last Updated: 8/24/2023

Issue: Asset-backed securities (ABS) are fixed-income securities that are collateralized by an underlying pool of assets. Typically these assets consist of receivables other than mortgage loans, such as credit card receivables, auto loans, and student loans.

Overview: Asset-backed securities evolved out of the mortgage-backed securities (MBS) market. Compared with MBS, asset-backed issues have been relatively unaffected by swings in interest rates. The reason is that the car loans and other loans backing ABS have shorter maturities than mortgages, and therefore people are less likely to refinance when interest rates fall.

Unlike conventional corporate bonds, which are usually unsecured, ABS benefit from credit enhancement. Credit enhancement takes place when a security's credit quality is raised above that of the sponsor's unsecured debt or that of the underlying asset pool. A variety of internal and/or external credit supports are employed to increase the likelihood that ABS investors will receive the cash flows to which they are entitled.

Key to the health of the overall ABS market is the performance of the consumer sector. The three largest consumer ABS asset classes - auto loans, credit card receivables, and student loans - define, to a large degree, the tone and direction of the non-mortgage ABS market.

Asset-backed securities have proven over the years to be stable investments attracting many investors, among them insurance companies.

Asset-backed securities outperformed most other fixed-income sectors in 2022 with a -4.4% return year to date, benefitting from their low duration, which protected bond prices from rising rates. Given that the majority of ABS assets are fixed-rate, the direct effect of any further federal reserve interest rate increases will be limited on existing ABS securities. However, increasing rates may indirectly affect newly issued ABS asset performance by making new credit and refinance options more costly for consumers.

Actions

Status: ABS securities have historically been captured in scope of SSAP No. 43R—Loan-backed and Structured Securities. In 2023 the Valuation of Securities (E) Task Force will coordinate with other NAIC working groups and task forces to formulate recommendations and make referrals to other NAIC regulator groups to ensure expertise relative to investments, produce insightful and actionable research and analysis regarding insurer investments, and effectively maintain and revise the Purposes and Procedures Manual of the NAIC Investment Analysis Office.

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