THE IMPACT OF SECURITIZATION ON THE CREDIT RISK TAKING BEHAVIOR OF U.S. BANK HOLDING COMPANIES

Abstract

The securitization market has facilitated the process of converting illiquid loans into liquid assets and credit risk transfer from the banking sector to various groups of investors. This study investigates whether securitization leads to higher or lower credit risk taking on the part of banks by expanding upon the Casu et al. (2011) study. We use data from bank holding companies from 2002 to 2011 and find that banks that hold a greater amount of outstanding securitized assets will choose portfolio investments of lower credit risk, which can be attributed to the recourse often provided in securitization transactions that potentially prompt banks to be more risk averse. However, we find that our proxy for the financial crisis of 2008 has a positive connection with credit risk taking. Therefore, we conclude that the relationship between securitization and banks’ credit risk taking behavior is not consistent, and depends on factors such as the amount of credit enhancement provided and banks’ goals for securitizing their assets, which contribute to the growing policy proposals for reforms in the securitization market moving forward. Additionally, we find there is a negative relationship between our proxy for the European debt crisis and credit risk taking, suggesting that potential spillovers from the euro zone credit events may also induce banks to reduce the credit risk of their portfolios, which also prompts policy discussion in the near future.