Structured Investment Vehicle (SIV)

What Is a Structured Investment Vehicle (SIV)?

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

A SIV, administered by a commercial bank or another asset manager, for example, a hedge fund, will issue asset-backed commercial paper (ABCP) to fund the purchase of these securities.

Structured investment vehicles are sometimes known as conduits.

Figuring out Structured Investment Vehicles (SIVs)

A structured investment vehicle (SIV) is a type of special-purpose fund that gets for the short-term by giving commercial paper, to invest in long-term assets with credit ratings among AAA and BBB. Long-term assets every now and again incorporate [structured finance products](/structured_investment_products, for example, mortgage-backed securities (MBS), asset-backed securities (ABS), and the safer tranches of collateralized debt obligations (CDOs).

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

For instance, a SIV that gets money from the 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 addresses the profit that the SIV pays to its investors, part of which is shared with the investment manager.

In effect, the commercial paper issued develops at some point inside two to 270 days, at which point, the issuers just issue more debt to repay developing debt. Along these lines, one can perceive how structured investment vehicles frequently utilize great amounts of leverage to produce returns. These financial vehicles are normally settled as offshore companies explicitly to stay away from regulations that banks and other financial institutions are subject to. Fundamentally, SIVs permit their overseeing financial institutions to utilize leverage such that the parent company would not be able to do, due to capital requirement regulations set by the government. Nonetheless, the high leverage employed is utilized to amplify returns; when combined with short-term borrowings, this opens the fund to liquidity in the money market.

SIVs as Conduits

A conduit is a bankruptcy-remote special purpose vehicle (SPV) or entity, and that means that it is a separate business entity and isn't rolled up into the sponsoring company's balance sheet. This is finished to free up the sponsor company's balance sheet and work on its financial ratios.

A SIV is a special sort of conduit since it pools asset-backed securities. Numerous SIVs are administered by large commercial banks or other [asset managers](/assetmanagement, for example, investment banks or hedge funds. They issue asset-backed commercial paper (ABCP) as a method for funding purchases of investment-grade securities and furthermore to earn the spread. Asset-backed commercial paper is a short-term money-market security that is issued by a SIV conduit, which is set up by a sponsoring financial institution. The maturity date of an ABCP is set at something like 270 days and issued either on an interest-bearing or discount basis.

SIV conduits ordinarily invest the majority of their portfolios in AAA and AA assets, which incorporate an allocation to private mortgage-backed securities. As opposed to a multi-dealer or securities arbitrage conduit, a SIV doesn't utilize credit enhancement, and the underlying SIV assets are marked-to-market in some measure week by week.

SIV sponsors may not be explicitly obligated for the performance of the ABCP issued however may endure reputational risk in the event that they don't repay investors. Consequently, a large commercial bank that is engaged with a weak SIV might have more incentive to repay investors rather than a small hedge fund or investment company explicitly set up for this type of arbitrage. It would be viewed as terrible business in the event that a large, notable bank let investors — who thought their money was safe in a cash-like asset — lose money on an ABCP investment.

History of SIVs and the Subprime Crisis

The main SIV was made by Nicholas Sossidis and Stephen Partridge of Citigroup in 1988. It was called Alpha Finance Corp. also, leveraged five times its initial capital amount. One more vehicle made 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 main set of SIVs. With time, their job and the capital allocated to them developed. Correspondingly, they became riskier and their leverage amount increased. By 2004, SIVs were overseeing just below $150 billion. In the subprime mortgage mania, this amount leaped to $400 billion in November 2007.

Structured investment vehicles are less regulated than other investment pools and are regularly held off the balance sheet by large financial institutions, for example, commercial banks and investment houses. This means that their activities don't affect the assets and liabilities of the bank that makes them. SIVs acquired a lot of consideration during the housing and subprime fallout of 2007; several billions in the value of off-balance sheet SIVs was written down or set into receivership as investors escaped from subprime mortgage-related assets. Numerous investors were surprised by the losses, since little was publicly had some significant awareness of the points of interest of SIVs, including such essential information as what assets are held and what regulations determine their activities.

There were no SIVS in operation in their original form by the 2010.

Illustration of SIV

IKB Deutsche Industriebank is a German bank that made loans to small and moderate sized German businesses. To broaden its business and create revenue from extra sources, the bank started buying bonds that originated in the U.S. market. The new division was called Rhineland Funding Capital Corp. also, fundamentally invested in subprime mortgage bonds. It issued commercial paper to finance the purchases and had a convoluted organizational structure including different substances. The paper was lapped by institutional investors, for example, the Minneapolis School District and the City of Oakland in California.

As the panic over asset-backed commercial paper immersed markets in 2007, investors would not roll over their paper in Rhineland Funding. Rhineland's leverage was to such an extent that it impacted IKB's operations. The bank would have sought financial protection on the off chance that it had not been saved by an eight billion euro credit facility from KfW, a German state bank.

Highlights

• SIVs assumed an important part in causing the subprime mortgage crisis.
• They use leverage, by reissuing commercial paper, to repay developing debt.
• The main SIVs were made by two employees from Citigroup in 1988.
• Structured investment vehicles (SIVs) endeavor to profit from the spread between short-term debt and long-term investments by giving commercial paper of changing maturities.