What do we understand by structured finance?

Structured finance includes all activities intended to provide financing to economic actors by reducing their exposure to risk using complex and structured credits.


Structured finance uses different techniques. Among the most important is securitization.


Securitization consists of transforming illiquid assets (mortgages, consumer loans, etc.) into easily exchangeable financial securities such as bonds. They are sold through a dedicated structure: the “Special Purpose Vehicle” (SPV), isolated from the risk of default of the original institution.


Public debt is constantly evolving in line with the repayments of loans made by the Government and general government and the new loans they take out to finance their deficits. If the deficit is a flow, the debt is a stock. Resources are made up of taxes, levies, and other non-tax revenues (dividends from companies in which the State is a shareholder).


Expenditure includes not only current operating expenses (salaries, purchases of supplies and services, etc.), redistribution operations (aid, scholarships, social minima, etc.), but also investments (capital works, real estate, and movable acquisitions by local authorities, etc.) and capital expenditure (debt charges of the various public administrations, for example).


Debt structuring is achieved by using the technique of subordination, which amounts to distinguishing several categories of investors: the most exposed are those who invest in the “equity” tranche: it absorbs most of the default risk (non-repayment of loans by borrowers, etc.). It is also the most lucrative; the holders of the mezzanine tranche, which is less risky; the “senior” tranche and the one with the greatest security. Most often, senior debt (AAA) provides 80% to 90% of resources, mezzanine debt 8 to 20%, and the equity tranche provides the balance.


Importance of market capitalization the evolution of a company’s capitalization over the long term gives an idea of the “dynamic” value that the market gives it. Thanks to this indicator, it can be compared with other companies operating in the same sector. Historically, large-cap companies have grown slower than their younger counterparts, but they have offered better security to their shareholders because of their size. If the market capitalization of a company is considered by investors, they mainly use financial ratios to measure its attractiveness.


The most important is the PER (Price Earnings Ratio) which measures the price/earnings ratio. It is calculated by dividing the share price by the net earnings per share; peg (Price Earning Growth), which is obtained by dividing the PER by the growth rate of net income over several years; ROE (Return On Equity), the ratio between current net income and equity.


Good to know: the market capitalization is fluctuating. The stock market price varies every day, according to the law of supply and demand. It may also depend on the number of securities on the market. Following an issue of new shares, the capitalization of a company tends to increase. On the other hand, if a company decides to buy back its shares, its market capitalization will decrease although this type of operation has a relative impact on prices.


Author: Varny Pillai, 
Managing Director, VMP Consultancy Ltd