A subordinated debt security is a debt security that ranks below other debt securities in terms of priority of payment. This means that in the event of a default, subordinated debt holders will only be paid after senior debt holders have been paid in full.
Subordinated debt securities are often used in securitisations to provide additional credit enhancement. This means that they help to reduce the risk of default on the securitisation by absorbing some of the losses in the event of a default.
subordinated debt securities are sometimes referred to as "junior debt" or "subordinated debentures".
Here are some of the applications of subordinated debt securities in securitisation:
- To provide credit enhancement: As mentioned above, subordinated debt securities can be used to provide additional credit enhancement to a securitisation. This can make the securitisation more attractive to investors and can help to reduce the cost of borrowing for the issuer.
- To attract investors with a higher risk appetite: Subordinated debt securities typically offer higher yields than senior debt securities. This is because they are riskier, as they have a lower priority of payment. Investors who are willing to accept higher risk in exchange for higher returns may be attracted to subordinated debt securities.
- To align the interests of investors and borrowers: Subordinated debt securities can help to align the interests of investors and borrowers in a securitisation. This is because subordinated debt holders are more likely to suffer losses in the event of a default. This can encourage borrowers to manage their risk more carefully and to make their payments on time.