What Is a Structured Investment Vehicle (SIV)?

A structured investment vehicle (SIV) is a pool of investment assets that attempts to profit from credit spreads between short-term debt and long-term structured finance products such as asset-backed securities (ABS).

A SIV, administered by a commercial bank or another asset manager such as a hedge fund, will issue 澳洲幸运5官方开奖结果体彩网:asset-backed commercial paper (ABCP) to fund the purchase of these൲ securities.

Structured investmeꦆnt vehicles are sometimes known🅘 as conduits.

Understanding Structured In෴vestment Vehicles (SIVs)

A structured investment vehicle (SIV) is a type of 澳洲幸运5官方开奖结果体彩网:special-purpose fund that borrows for the short-term by issuing 澳洲幸运5官方开奖结果体彩网:commercial paper, in order to invest in long-term assets with 澳洲幸运5官方开奖结果体彩网:credit ratings between AAA and BBB. Long-term assets frequently include 澳洲幸运5官方开奖结果体彩网:structured finance products such as 澳洲幸运5官方开奖结果体彩网:mortgage-backed securities (MBS), asset-backed securities (ABS), and the less risky tranches of 澳洲幸运5官方开奖结果体彩网:collateralized debt obligations (CDOs).

Funding for SIVs comes from the issuance of commercial paper that is continuously renewed or rolled over; the proceeds are then invested in longer maturity assets that have less liquidity but pay higher yields. The SIV earns profits on the spread between incoming cash flows (principal and interest payments on ABS) and the high-rated commercial paper that ꧂it issues.

For example, an SIV that borrows money from the 澳洲幸运5官方开奖结果体彩网:money market at 1.8% and invests in 💟a structured finance product with a 2.9% return will earn a profit of 2.9% – 1.8% = 1.1%. The difference in interest rates represents the profit that the SIV pays to its investo𝔍rs, part of which is shared with the investment manager.

In effect, the commercial paper issued matures sometime within two to 270 days, at which point, the issuers simply issue more debt to repay maturing debt. Thus, one can see how structured investment vehicles often employ great amounts of leverage to generate returns. These financial vehicles are typically established as 澳洲幸运5官方开奖结果体彩网:offshore companies specifically to avoid regulations that banks and other financial institutions are subject to. In essence, SIVs allow their managing fꦓinancial institutions to employ leverage in a way that the parent company would be unable to do, due to capital requirement regulations set by the government. However, the high leverage employed is used to magnify returns; when coupled with short-term borrowings, this exposes the fund to liquidity in the money market.

SIVs as Conduits

A conduit is a bankruptcy-remote 澳洲幸运5官方开奖结果体彩网:special purpose vehicle (SPV) or entity, which means that it is a separate business entity and is not rolled up into the sponsoring company's 澳洲幸运5官方开奖结果体彩网:balance sheet. This is done ☂to free up the sponsor company's balance sheet and improve its financial ratios.

A SIV is a special kind of conduit because it pools asset-backed securities. Many SIVs are administered by large 澳洲幸运5官方开奖结果体彩网:commercial banks or other 澳洲幸运5官方开奖结果体彩网:asset managers such as 澳洲幸运5官方开奖结果体彩网:investment banks or 澳洲幸运5官方开奖结果体彩网:hedge funds. They issue asset-backed commercial paper (ABCP) as a way to fund purchases of 澳洲幸运5官方开奖结果体彩网:investment-grade securities and also to earn the spread. Asset-backed commercial paper is a short-term money-market security that is issued by a SIV conduit, which is s𓄧et up by a sponsoring financial institution. The maturity date of an ABCP is set at no more than 270 days and issued either on a🅠n interest-bearing or discount basis.

SIV conduits usually invest the majority of their portfolios in AAA and AA assets, which include an allocation to residential mortgage-backed securities. In contrast to a multi-seller or securities arbitrage conduit, an SIV does not employ credit enhancement, and the underlying SIV assets are 澳洲幸运5官方开奖结果体彩网:marked-to-market at least weekly. 

SIV sponsors may not be specifically liable for the performance of the ABCP issued but may suffer 澳洲幸运5官方开奖结果体彩网:reputational risk if they do not repay investors. Therefore, a large commercial bank that is involved in a failing SIV may have more incentive to repay investors as opposed to a small hedge fund or investment company specifically set up for this type of arbitrage. It would be seen as bad business if a large, well-known bank let investors—who thought their money was safe in a cash-liꦅke asset—lose money on an𒅌 ABCP investment.

History of SIVs and the Subprime Crisis

The first SIV was created by Nicholas Sossidis and Stephen Partridge of Citigroup in 1988. It was called Alpha Finance Corp. and leveraged five times its initial capital amount. Another vehicle created by the pair, Beta Finance Corp., had a leverage ten times its capital amount. The volatility of money markets was responsible for the creation of the first set of SIVs. With time, their role and the capital allocated to them grew. Correspondingly, they became riskier and their leverage amount increased. By 2004, SIVs were managing just below $150 billion. In the subprime mortgage mania, this amount jumped to $400 billion in November 2007.

Structured investment vehicles are less regulated than other investment pools and are typically held off the balance sheet by large financial institutions, such as commercial banks and investment houses. This means that their activities do not have an impact on the assets and liabilities of the bank that creates them. SIVs gained much attention during the housing and subprime fallout of 2007; tens of billions in the value of off-balance sheet SIVs was written down or placed into receivership as investors fled from 澳洲幸运5官方开奖结果体彩网:subprime mortgage-related assets. Many investors were caught off guard by the losses, since little was publicly known about the specifics of SIVs, including such basic information as what assets are held and what regulations d🍸etermine their action🌳s.

Example of SIV

IKB Deutsche Industriebank is a German bank that made loans to small and mid-sized German businesses. To diversify its business and generate revenue from additional sources, the bank began buying bonds that originated in the U.S. market. The new division was called Rhineland Funding Capital Corp. and primarily invested in subprime mortgage bonds. It issued commercial paper to finance the purchases and had a complicated organizational structure involving other entities. The paper was lapped by institutional investors, such as the Minneapolis School District and the City of Oakland in California.

As the panic over asset-backed commercial paper engulfed markets in 2007, investors refused to roll over their paper in Rhineland Funding. Rhineland's leverage was such that it affected IKB's operations. The bank would have filed for bankruptcy if it had not been rescued by an eight billion euro credit facility from KfW, a German state bank.