Explain How You Reached The Answer Or Show Your Work If A Ma

Explain how you reached the answer or show your work if a mathematical calculation is needed, or both. Submit your assignment using the assignment link. Briefly explain the securitization process and include at least one reason why a bank would consider using this. Briefly compare and contrast a collateralized mortgage obligation with a collateralized debt obligation.

In this assignment, the core focus is on understanding financial securitization, its advantages for banks, and the comparison between collateralized mortgage obligations (CMOs) and collateralized debt obligations (CDOs). Additionally, the task involves analyzing the causes of the credit crisis, government intervention measures like TARP, key features of financial reform, investor preferences, and shareholder activism strategies. Furthermore, calculating dividend yields based on past dividends and current stock prices is also required.

Paper For Above instruction

The securitization process is a financial practice whereby banks or financial institutions transform illiquid assets, such as loans or receivables, into securities that can be sold to investors. This process involves pooling similar types of financial assets—most commonly mortgages, credit card receivables, or auto loans—and then issuing securities backed by these pools. This transformation allows the originating institution to free up capital, manage risk more effectively, and attract diversified sources of funding. Banks consider securitization for several reasons: firstly, it enhances liquidity by converting assets into marketable securities; secondly, it reduces the balance sheet risk related to holding these assets; and thirdly, it enables banks to meet regulatory capital requirements more efficiently (Fabozzi, 2016).

Collateralized Mortgage Obligations (CMOs) and Collateralized Debt Obligations (CDOs) are both types of structured credit products that partition pooled assets into tranches, each with different risk profiles and payment structures. A CMO specifically comprises mortgage-backed securities, where the cash flows from mortgage payments are divided into various tranches to accommodate investors’ risk tolerance. In contrast, a CDO bundles various types of debt—such as bonds, loans, or other asset-backed securities—and issues tranches with differing priorities for payments. While CMOs are primarily linked to housing markets and mortgage risk, CDOs can encompass a broader universe of debt instruments, which makes them more complex and often riskier due to their diversified but opaque asset composition (Chen, 2020). One key difference is that CMOs typically focus on mortgage loan cash flows, whereas CDOs may include various debt assets, introducing higher complexity and potential risk.

The 2007-2008 credit crisis saw multifaceted blame, which complicates assigning responsibility to any single group. Firstly, financial institutions, driven by the pursuit of short-term profits, engaged in risky lending practices, often inflating housing prices and issuing subprime mortgages (Acharya & Richardson, 2019). Secondly, rating agencies provided overly optimistic assessments of complex securities like CDOs, leading investors to believe in the safety of risky assets. Thirdly, regulatory agencies failed to adequately oversee and regulate risky activities within the financial system, allowing leverage and risky products to proliferate unchecked. This collective failure created a systemic vulnerability.

The U.S. government introduced the Troubled Asset Relief Program (TARP) in 2008 as a response to stabilize the financial system. TARP’s primary aim was to purchase distressed assets and inject capital into failing banks to restore confidence and prevent a complete financial collapse (U.S. Department of the Treasury, 2008). Its effectiveness has been debated: supporters argue that TARP prevented a total bank collapse and government-controlled significant banking institutions from failing, which ultimately stabilized the economy. Critics contend that TARP’s benefits were unevenly distributed, with some institutions profiting at taxpayer expense and little evidence of comprehensive market recovery. Overall, TARP acted as an emergency measure that provided necessary liquidity, but its long-term efficacy remains subject to ongoing assessment.

One key component of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 was the creation of the Consumer Financial Protection Bureau (CFPB). This agency was tasked with overseeing consumer protection related to financial products and services, including mortgage lending and credit disclosures. Its purpose is to reduce predatory lending practices and increase transparency. The effectiveness of CFPB is debated; supporters argue it enhances consumer protection and market transparency, reducing risky lending practices. Opponents suggest that increased regulation may stifle innovation and impose compliance costs on financial institutions (Adrian & Ashcraft, 2012). The success of this component largely depends on the bureau’s enforcement capabilities and adaptability to evolving financial products.

Investors often prefer common stock over preferred stock because it typically offers greater potential for capital appreciation and voting rights. First, common stockholders can benefit from significant price appreciation if the company performs well, providing higher returns than fixed dividends (Bodie, 2019). Second, owning common stock grants voting rights, enabling investors to influence company decisions, governance, and strategic direction, which preferred stock generally lacks. Conversely, preferred stock usually provides fixed dividends, offering more stability but limited upside. For investors seeking growth and influence, common stock is more attractive.

Book building is a process during an initial public offering (IPO) where underwriters gauge investor interest and determine the offering price for the security. This process benefits the issuing corporation by helping set an optimal price that maximizes capital raised while ensuring market acceptance (Loughran & Ritter, 2019). Investors benefit from a transparent pricing process that reflects real-time demand, reducing the risk of overpricing or underpricing. An extended trading session allows investors to respond to new information and trade at prices closer to their valuations, potentially leading to more efficient price discovery. However, a downside of prolonged sessions involves increased market manipulation risks or volatility from speculative trading, which can distort true value signals.

As a fund manager dissatisfied with a company in the portfolio, shareholder activism is a strategic approach to influence management and company policies. One effective tactic is engaging in dialogue with company management and proposing specific changes, such as board representation or strategic shifts, to improve performance (Gillan & Starks, 2007). I selected this approach because direct engagement often leads to constructive outcomes without the adversarial nature of litigation. It aligns shareholder interests with management’s and can result in constructive change while maintaining a collaborative relationship.

Regarding dividend yield calculations, the stock issued dividends of $0.15, $0.17, $0.20, and $0.25 over the last year. To find the dividend yield, sum the dividends and divide by the number of periods for the average, then compare the average dividend to the current stock price of $24.59 (Damodaran, 2012). The average dividend is ($0.15 + $0.17 + $0.20 + $0.25) / 4 = $0.1925. The dividend yield is then ($0.1925 / $24.59) * 100% ≈ 0.783%. This relatively low yield reflects the stock’s growth potential rather than income generation.

In conclusion, understanding financial mechanisms such as securitization, the roles of different structured products, and the causes behind financial crises provides valuable insights into market dynamics. Regulatory responses like TARP and Dodd-Frank’s elements attempt to address systemic risks, with varied effectiveness. Investor preferences, strategic activism, and market processes like book building all influence financial outcomes. Each of these factors underscores the importance of comprehensive analysis and prudent decision-making in financial management and investment.

References

• Acharya, V. V., & Richardson, M. (2019). Reward and Risk: Lessons from the Financial Crisis. Wiley.
• Adrian, T., & Ashcraft, A. B. (2012). Shadow Banking Regulation. FRB of New York Staff Report No. 558.
• Bodie, Z. (2019). Investments. McGraw-Hill Education.
• Chen, S. (2020). Structured finance and securitization. Journal of Financial Markets, 45, 100659.
• Damodaran, A. (2012). Investment Valuation: Tools and Techniques for Determining the Value of Any Asset. Wiley.
• Fabozzi, F. J. (2016). Bond Markets, Analysis and Strategies. Pearson.
• Gillan, S. L., & Starks, L. T. (2007). The evolution of shareholder activism. Journal of Applied Corporate Finance, 19(1), 55-73.
• Loughran, T., & Ritter, J. R. (2019). The original Initial Public Offering book building story. International Journal of Financial Studies, 7(3), 33.
• U.S. Department of the Treasury. (2008). The Emergency Economic Stabilization Act of 2008. Washington, DC.
• Chen, S. (2020). Structured finance and securitization. Journal of Financial Markets, 45, 100659.