Asset-Backed Commercial Paper (ABCP)

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Definition of 'Asset-Backed Commercial Paper (ABCP)'

Asset-backed commercial paper (ABCP) is a type of short-term debt security that is backed by a pool of assets, such as loans or receivables. ABCP is issued by a special purpose vehicle (SPV), which is a legal entity that is created specifically to issue the paper. The SPV typically borrows money from investors by issuing ABCP, and then uses the proceeds to purchase the assets that back the paper.

ABCP is often used by banks and other financial institutions to raise funds for short-term purposes, such as meeting regulatory capital requirements or funding working capital needs. ABCP is considered to be a relatively safe investment, as the assets that back the paper are typically high-quality and liquid. However, ABCP can be subject to credit risk, as the value of the assets that back the paper can decline if the borrowers default on their loans.

ABCP is often used as a funding source for structured finance transactions, such as collateralized debt obligations (CDOs). In a CDO, a pool of assets, such as mortgages or loans, is securitized and sold to investors in the form of bonds. The bonds are backed by the cash flows from the underlying assets, and the credit risk of the bonds is determined by the credit quality of the assets in the pool.

ABCP has been a popular funding source for structured finance transactions in recent years, but it has also been the subject of controversy. In 2007, the collapse of the subprime mortgage market led to a crisis in the ABCP market, as investors lost confidence in the credit quality of the assets that backed the paper. This crisis led to a number of reforms in the ABCP market, including the creation of a new regulatory framework for ABCP issuers.

Despite the reforms, ABCP remains a controversial investment. Some critics argue that ABCP is a form of shadow banking, and that it poses a systemic risk to the financial system. Others argue that ABCP is a legitimate investment tool, and that it provides an important source of funding for the economy.

The debate over ABCP is likely to continue for some time. However, it is clear that ABCP is a complex and risky investment, and that investors should carefully consider the risks before investing in ABCP.

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