The Role of Bank Credit Enhancements in Securitization

oes the advance of securitization—a key element in the evolution from banking to “shadow banking” (Pozsar et al. 2010)1—signal the decline of traditional banking? Not necessarily, for banks play a vital role in the securitization process at a number of stages, including the provision of credit enhancements.2 Credit enhancements are protection, in the form of financial support, to cover losses on securitized assets in adverse conditions (Standard and Poor’s 2008). They are in effect the “magic elixir” that enables bankers to convert pools of even poorly rated loans or mortgages into highly rated securities. Some enhancements, such as standby letters of credit, are very much in the spirit of traditional banking and are thus far from the world of shadow banking. This article looks at enhancements provided by banks in the securitization market. We start with a set of new facts on the evolution of enhancement volume provided by U.S. bank holding companies (BHCs). We highlight the importance of bank-provided enhancements in the securitization market by comparing their market share with that of financial guaranties sold by insurance companies, one of the main sellers of credit protection in the securitization market. Contrary to the notion