Asset Securitization and Corporate Risk Allocation

Asset securitization is a financial innovation in which corporations sell financial assets to a specially formed entity that in turn taps financial markets for the purchase price. The device provides firms an alternative to raising capital through traditional debt and equity markets. Practitioners of the approach tout securitization as a means through which a firm can lower its overall cost of capital by limiting the risk facing investors in the securitized assets. Commentators have described asset securitization as "one of the most important financing vehicles in the United States." Interest in the device is increasing dramatically as more companies see it as a way to decrease their cost of capital. This Article examines the reasons for which asset securitization has become such a popular financing device. It develops an analytical model that focuses on the market failures that explain the reasons firms use asset securitization —identifying two possible explanations of the device and examining the normative problems associated with each.