US20090281960A1

US20090281960A1 - System and method using securities issuance for risk transference

Info

Publication number: US20090281960A1
Application number: US12/437,831
Authority: US
Inventors: Derrell Hendrix
Original assignee: Derrell Hendrix
Current assignee: Karson Management (Bermuda) Ltd
Priority date: 2008-05-09
Filing date: 2009-05-08
Publication date: 2009-11-12
Also published as: US20130124434A1; US20130144806A1; US20090281962A1; US20090281961A1; US20130096957A1; US8219478B2; US8155985B2; US20090281842A1; US8768733B2

Abstract

Disclosed herein is a system and method for eliminating or transferring the non-economic risk of financial securities. The system and method serves to avoid non-economic losses in the first instance, and to counter the adverse capital impact of prior non-economic gap losses by providing capital relief consistent with a determined protected amount. An investor purchases from a financial institution a number of shares whose principal repayment at redemption is contingent upon the maturity proceeds of a designated fixed income securities (FIS) Portfolio. If the aggregate principal payment of the FIS Portfolio is less than a stipulated value, the shares are redeemed for less than the original purchase price. Otherwise the financial institution will repay the full principal amount of the shares at the stated redemption date. To secure the obligation to repay share principal, the financial institution pledges security that is invested in securities that are held in trust and margined periodically.

Description

CROSS REFERENCE TO RELATED APPLICATIONS

This application claims the benefit of U.S. Provisional Application No. 61/052,035, filed May 9, 2008; U.S. Provisional Application No. 61/052,048, filed May 9, 2008; U.S. Provisional Application No. 61/052,067, filed May 9, 2008; and U.S. Provisional Application No. 61/052,053, filed May 9, 2008. This application is related to the following co-pending non-provisional applications: “SYSTEM AND METHOD USING CONTRACT FOR RISK TRANSFERENCE,” filed May 8, 2009; “SYSTEM AND METHOD USING INSURANCE FOR RISK TRANSFERENCE,” filed May 8, 2009; and “SYSTEM AND METHOD USING ASSET SALE AND LOAN FOR RISK TRANSFERENCE,” filed May 8, 2009, all of which are hereby incorporated by reference in their entirety as if fully set forth herein.

FIELD OF THE INVENTION

The present invention relates generally to systems and methods for transferring/acquiring a defined risk/discount associated with a security or portfolio of securities. More specifically, the invention relates to systems and methods for transferring non-economic risk through the issuance and transfer of securities.

BACKGROUND OF THE INVENTION

A significant number of banks, insurance companies, and other financial institutions maintain partial or full interests in structured finance and fixed income securities (FIS). These securities may include, for instance, those backed by mortgages, home equity loans, credit card receivables, auto loans, and collateralized loan obligations, as well as collateralized debt obligations (CDOs) and credit default swaps on fixed income securities and CDOs of fixed income securities (collectively, FIS Portfolios). To collect value from FIS a financial institution may treat FIS as an asset which it either intends to trade, or hold to maturity and collect principal and interest payments. Regardless of whether it seeks to keep, transfer, or acquire FIS, it is important that the financial institution be able to determine the value of FIS, if not for purposes of market pricing, then for the fact that the value of held FIS will affect a financial institution's balance sheet and possibly its income statement. In addition, the reported value of FIS may affect its credit rating or otherwise influence the amount of capital necessary to maintain a given FIS or FIS Portfolio. However, given characteristic market and regulatory conditions it may be difficult to appropriately value, finance, or trade FIS, regardless of the credit quality of its underlying assets or cash flows.
Changes by accounting standards boards, such as the Financial Accounting Standards Board (FASB), that govern the accounting profession will affect the perceived value of FIS by modifying the accounting standards used to determine the fair value of FIS. For example, under prior International Financial Reporting Standards, and with changes to U.S. General Accepted Accounting Principles, the value of FIS has been increasingly tied to fair value as determined by the transferability of the FIS. Under these prior accounting standards the fair value was determined by the price that would be received to sell the asset or to transfer a liability in an orderly transaction between market participants at the measurement date; however, this accounting treatment contrasted with the previous practice of many financial institutions, which involved estimating fair value using financial models that determine an expected value of FIS or FIS Portfolios. As seen in, for example, FASB Staff Position 157-4, the more recent accounting standard position has been to permit some flexibility in determining fair value in distressed market conditions or in situations where there has been a significant decrease in the volume and level of activity for the asset or liability being valued. Despite these changes, the prevailing standards continue to focus on determining the value of the asset or liability under current market conditions. As a result, the current market value of the FIS, as defined for accounting purposes, may be significantly lower than the expected value of the collection of principal and interest on the underlying securities.
In another instance, changes in market supply and demand for certain classes of securities can also affect the perceived value of given FIS. For example, difficulties surrounding the decline of securities backed by sub-prime mortgages have affected the values of FIS under fair value accounting standards. Factors such as a perceived lack of transparency, as well as the presence of securities issued by highly leveraged entities investing in FIS Portfolios (such as structured investment vehicles and conduits), have led investors to largely exit certain sectors of the FIS market. Despite attempts to increase transparency in accounting standards, the main sources of investor concern relate to an impaired ability to establish a current estimated market value for FIS, estimate future market value or maturity value for FIS, and estimate correlations between various FIS investments. As a result, investors are willing to pay less to acquire the securities affected by these concerns.
In addition to other factors, the changes to accounting standards and variations in investor demand represent forces that give rise to non-economic changes in the value of FIS. (i.e., changes that are not attributable to changes in market interest rates or default probabilities, but rather in market supply and demand characteristics). Because they are not generally based on changes in the level of interest rates (the interest rate curve) and the credit quality of the underlying securities (i.e., the expected amount of repayment of principal at maturity or upon default, as determined by qualitative analysis or by use of a model), these non-economic changes in value have significant accounting consequences and, if the securities are sold, real economic consequences for the holders of FIS and participants in FIS markets. In the current environment, the above factors have resulted in an increasing number of market participants having determined that the current market or liquidation value for FIS is often significantly below the expected or model-based value, resulting in the booking of substantial losses or reductions in capital resources. This, in turn, has prompted many financial institutions and other holders of interest in FIS to either sell assets (to avoid future risk of loss) or raise capital (in order to preserve or restore regulatory or rating agency capital ratios). Many financial institutions with access to the equity market have elected to raise fully-dilutive equity capital in order to shore up capital adequacy measures, rather than sell and realize non-economic losses on FIS Portfolios.
As a result, it would be advantageous to have a method for an arm's-length solution for eliminating or reducing non-economic risk that supports a higher-than liquidation value for FIS and FIS Portfolios, and satisfies financial institution auditors, rating agencies, regulators and analysts in terms of capital relief.

SUMMARY OF THE INVENTION

Disclosed herein are methods and systems, including computer program products, for eliminating or transferring the non-economic risk of financial securities. The systems and methods serve to avoid non-economic losses in the first instance, and to counter the adverse capital impact of prior non-economic gap losses by providing income and capital relief. In addition, the systems and methods described herein have the effect of transferring risk and countering the adverse profit-and-loss and capital impact of a non-economic component of marking to market in relation to illiquid securities or credit derivatives portfolios. More specifically, the systems and methods described herein provide for transferring risk up to an amount equal to the difference between (a) the current liquidation or fair market value of an individual security or a portfolio of securities and, (b) a value that is equal to the present value of expected future principal payments discounted at an appropriate discount rate (e.g., the swap rate for the corresponding maturity) of the security or the portfolio of securities (the “Gap” risk).
According to an embodiment of the system and method, a share issuance program is implemented with respect to an asset, such as a FIS or FIS Portfolio. At inception, two parties enter into an agreement whereby the first party issues a number of shares whose value is in some proportion to the book value of a selected asset (e.g., a FIS or FIS Portfolio) owned by the first party, and whose principal repayment at redemption is contingent upon the proceeds of the selected asset. The second party agrees to purchase the shares for an agreed price, and as security for its obligation to repay share principal the first party pledges security. This security may be all or part of the selected asset, or may be another asset or group of assets that are agreed upon by the parties, that are held in trust and which may be margined periodically.
The redemption date of the shares is co-terminus with the maturity date of the selected asset, and the value of the shares depends on the ultimate maturity or default recovery proceeds of the selected asset (i.e., the aggregate principal payment (APP) of the selected asset) with respect to a stipulated “protected value.” The protected value of the shares may be in relation to the current book value of the selected asset and may be calculated based on the expected amount of repayment of principal at maturity or upon default, as determined by qualitative analysis of the selected asset or by use of a risk analysis and economic valuation model.
At the redemption date, the APP of the selected asset over the term of the program is calculated. If the APP of the selected asset is less than a stipulated protected value, there is a deficit and the shares are redeemed for the original purchase price, less the amount of the deficit. Where the amount of the deficit exceeds the face value of the shares, the shares are redeemed for no value. Accordingly, any remaining portion of the deficit over the face value of the shares is absorbed by the first party. If the APP of the selected asset is greater than the protected value, the first party is obligated to repay the full principal amount of the shares at the stated redemption date. In addition, to the extent that the APP exceeds the protected value the shares may provide for a profit sharing of the excess.
In another embodiment, the shares pay a dividend composed of a market rate of interest plus a risk premium. The market rate of interest may be a base dividend that is calculated with reference to a major interest rate index, and is paid based on the face amount of the shares. In addition, the dividend may comprise a bonus dividend that is based on a risk assessment of the selected asset and share program variables. The dividend is paid in exchange for the risk of foregoing redemption proceeds if the APP on the selected asset is less than the stipulated protected value.
In another embodiment, the selected asset is held to the redemption date under the control of a trustee. The trustee directs cash received from principal repayments and/or recovery cash flows from the selected asset to be held until the redemption date. Although the redemption date of the shares is generally determined to be co-terminus with the maturity profile of the selected asset, the parties to the program may agree to other redemption dates. As added security, the selected asset or portions thereof are not allowed to be sold or assigned without the prior written consent of the second party. At the redemption date, the trustee may be charged with determining the APP of the protected portfolio and calculating the difference between the protected value and the APP.
In another embodiment, the first party may redeem all or part of the shares prior to the redemption date by reducing the underlying security on a proportional basis, or by paying the second party a redemption premium. The redemption premium may be determined according to criteria that ensure that the second party receives a minimum return on its investment.
In another embodiment, a processing system is relied upon to execute one or more of the steps of the above programs. The processing system includes a processor, one or more input devices (such as a keyboard or mouse) for inputting data into the system, and one or more displays for outputting information to the user. The processing system also includes a memory for storing data and instructions executable by the processor, and for storing an operating system. The memory may also include instructions for modeling the Gap risk in various securities and security portfolios, determining the aggregate principal payments of a security portfolio, and determining loan variables and interest rates, in addition to various other steps as required by the programs herein.
These and other aspects and advantages will become apparent to those of ordinary skill in the art by reading the following detailed description, with reference where appropriate to the accompanying drawings. Further, it should be understood that the foregoing summary is merely illustrative and is not intended to limit in any manner the scope or range of equivalents to which the appended claims are lawfully entitled.

BRIEF DESCRIPTION OF THE DRAWINGS

The invention is described below in connection with the following illustrative figures, wherein:

FIG. 1 is a schematic illustration of principal transactions of a share program at inception, according to an embodiment;

FIG. 2 is a schematic illustration of principal transactions of a share program over its term, according to an embodiment;

FIG. 3 is a schematic illustration of principal transactions of a share program at a maturity (redemption) date in which the aggregate principal payments of a protected portfolio are less than the protected value, according to an embodiment;

FIG. 4 is a schematic illustration of principal transactions of a share program at a maturity (redemption) date in which the aggregate principal payments of a protected portfolio are greater than the protected value, according to an embodiment;

FIG. 5 is a schematic illustration of principal transactions of a share program at inception and showing a multi-tiered investment entity and interaction with an investment advisor entity, according to an embodiment;

FIG. 6 is a schematic illustration of principal transactions of a share program over its term and showing a multi-tiered investment entity and interaction with an investment advisor entity, according to an embodiment;

FIG. 7 is a schematic illustration of principal transactions of a share program at a maturity (redemption) date and showing a multi-tiered investment entity and interaction with an investment advisor entity, according to an embodiment;

FIG. 8 is a schematic diagram of a processing system for implementing portions of the share program including gap risk modeling and determination of program variables, according to an embodiment;

FIG. 9 is a chart illustrating for a portfolio owner the value collected from a protected portfolio—with and without a share program in place—for various aggregate principal payment scenarios, according to an embodiment; and

FIG. 10 is a chart illustrating for a portfolio owner the benefit analysis for a given protected portfolio—with and without implementing a share program—for various aggregate principal payment scenarios, and including amounts due to an investor in the shares, according to an embodiment.

DETAILED DESCRIPTION

While the present invention is capable of being embodied in various forms, for simplicity and illustrative purposes, the principles of the invention are described by referring to several embodiments thereof. It is understood, however, that the present disclosure is to be considered as an exemplification of the claimed subject matter, and is not intended to limit the appended claims to the specific embodiments illustrated. It will be apparent to one of ordinary skill in the art that the invention may be practiced without limitation to these specific details. In other instances, well-known methods and structures have not been described in detail so as not to unnecessarily obscure the invention.
In general, programs described below allow for a first entity, such as a financial institution, to avoid Gap losses in the first instance, and to mitigate the profit and loss and adverse capital impact of historical Gap losses. The tangible results of the program include the receipt of tier one capital by generating a profit, and the receipt of capital relief by restoring the valuation difference between the reported value—or fair market value—of an asset at the inception of the program and the protection value of the program.
As further described below, a preferred share program is implemented with regard to an asset, such as a FIS or FIS Portfolio, between two entities. Prior to implementation of the program, it may be determined that that one or more of a first party's assets are undervalued with respect to its perceived and modeled true economic value. Additionally or alternatively, the first party may desire to protect one or more assets against future losses in value due to market or non-economic factors. In order to increase profits, reduce risk and obtain capital relief in relation to the difference between the book value of the asset and its economic value, as well as to obtain other benefits, the first party may enter into an agreement with a second party to implement the share program with regard to one or more selected assets (the “Protected Asset”). The first party may be a bank, insurance company, financial institution, or any other owner of financial assets. The Protected Asset may be a single asset, a FIS or FIS Portfolio, or any other principal bearing asset or combination thereof, including a portfolio of multiple assets.
At inception, the first party offers a security in the form of shares (the “Shares”) whose principal repayment upon redemption is contingent upon the maturity proceeds of the Protected Asset 106. According to an agreement, the Shares are purchased by a second entity 104 at an agreed price (the “Share Purchase Price”). The second entity may be an investment firm or any purchaser of securities, including one or more individual investors. The face value of the issued Shares may be determined with respect to the determined Gap between the current liquidation value of the Protected Asset, and its economic value (i.e., the present value of expected future principal payments discounted at an appropriate discount rate of the Protected Asset, or a percentage thereof). Through the initial transaction, the first party realizes immediate capital relief equal to the Purchase Price of the shares.
The Shares have a redemption date (the “Redemption Date”) that is generally determined to be co-terminus with the maturity profile of the Protected Asset, although the parties may agree to a different date. At the Redemption Date, the second party redeems the shares according to the aggregate principal payments (APP) of the Protected Asset over the term of the program with respect to a given value (the “Protected Value”). The APP of the Protected Asset may be determined as the sum of all principal payments from the Protected Asset over the term, discounted at an appropriate discount rate. The Protected Value may be defined as an amount substantially equal to a percentage of the aggregate face value of the Protected Asset. Alternatively, the Protected Value may be substantially equal to the book value of the Protected Asset at a given date plus the Purchase Price of the Shares.
Through the initial transaction, the first party may realize immediate capital relief and may record an increase in risk-based capital equal to the purchase price of the Shares. In addition, the first party may book a profit where the book value of the selected asset on the transaction settlement date is less than the Protected Value.
To secure its obligation to redeem the Shares and to provide for Share dividends, the first party may pledge security (the “Share Security”). The Share Security may be the Protected Asset itself, or may be another asset or group of assets that are agreed upon by the parties, and which may be margined periodically. Over the term of the program, the Share Security is held in trust by the first party, or by a third party trustee, such as the Security Trustee.
According to the terms of the program and as compensation for taking on Gap risk associated with the Protected Asset, the second party collects from the first party a dividend on the Shares over the term of the program. The dividend generally has a base component (“Base Dividend”) that may be tied to a major interest rate index modified by a fixed or variable amount, and which is paid in proportion to the face amount of the Shares. For example, the Base Dividend may be equal to the 3 or 6 month LIBOR, Federal Reserve, or Prime Interest Rate, plus an additional 0.5% to 2.5%, or therebetween. In addition, this dividend may have a bonus component (“Bonus Dividend”) that may be determined according to a risk assessment of the Shares.
Prior to inception, the parties may make trust arrangements for the management of the Protected Asset, such as by establishing a trustee (the “Security Trustee”) to hold the Protected Asset for the term of the program. The Security Trustee may direct cash received from principal repayments and/or recovery cash flows from the Protected Asset to be held until the redemption date. As added security, the Protected Asset or portions thereof are not allowed to be sold or assigned without the prior written consent of the second party. At the redemption date, the Security Trustee will be charged with determining the APP of the Protected Asset and calculating the difference between the Protected Value and the APP, if any.
Where the APP is less than the Protected Value, a deficit exists and the first party is entitled to redeem the Shares for less than their face value. Thus, in the event of a deficit the principal repaid under the Shares at redemption is reduced by the amount of such deficit, up to an amount equal to the full face amount of the Shares. Alternatively, where the APP at the redemption date exceeds the Protected Value, an excess (or surplus) exists and the full value of the Shares is repaid to the second party. In addition, if there is an excess the second party is entitled to receive all or a portion of the excess in accordance with the terms of the agreement (“Profit Participation”). Accordingly, through the implementation of the program the first party experiences relief from the portion of the Gap risk associated with losses in the value of the Protected Asset that is covered by the Shares. Any losses experienced by the first party—in excess of those previously realized prior to the implementation of the program—are reduced by an amount up to the face value of the Shares. Through the purchase of the Shares, the second party effectively takes on the risk associated with any losses below the Protected Value, up to an amount equal to the face value of (or the amount paid for) the Shares.
The program may also provide for early redemption of the Shares by the first party. The first party may redeem all or part of the Shares prior to the Redemption Date by paying the second party a redemption premium, which may be agreed upon by the parties and which may be determined such that the second party receives a minimum return on its investment, or such that the second party can fulfill any necessary obligations to third party investors. Where the Protected Asset comprises a portfolio of assets, the first party may redeem a portion of the Shares prior to the Redemption Date by reducing the assets of the portfolio on a proportional basis.
To raise capital for the purchase of the Shares, a second party may issue certain equity notes or securities (the “Purchaser Securities”). These securities may be purchased by various third-party investors, and may carry with them a characteristic interest rate, fee and dividend arrangement. The Purchaser Securities may have basic equity payment arrangements that consist of a base dividend and a risk premium dividend (the “Base Security Payments”). The base dividend can be indexed to a major interest rate index plus a fixed spread, such as from 0.25% to 1.25%. The risk premium may be based on a percentage of the face value of the Purchaser Securities, such as from 3.0% to 7.0%. The Purchaser Securities may also provide variable dividends, which may include all or a portion of payments to the second party from any excess over the Protected Value, after servicing any management fees and base equity payments.
In addition, prior to inception or at inception of the program, the parties may coordinate with or consult an investment group to develop a specific share program that considers the amount of economic and non-economic risk associated with the portfolio.
Developing the program may include determining a non-economic value of the portfolio, determining a real economic value of the portfolio, determining a Share price or value, determining a Protected Value, determining a Base Dividend and Bonus Dividend for the Shares, determining a Profit Participation value or percentage, and determining the Redemption Date. In addition, the parties may determine the conditions for early redemption of the Shares, if any. The specific values for these and other variables may be determined utilizing economic and risk based models, and by using computer processing systems having software adapted to determining these and other values.
Additional aspects of the Share issuance program are apparent in view of the following examples, which are for explanatory purposes only and which are not in any way intended to limit the scope of the program.

Share Issuance Program Example 1

In one example, a first party financial institution (the “Issuer”) and a second party investment group (the “Investor”) enter into an agreement to establish a share program for the mutual benefit of both parties. The parties select as the Protected Asset a FIS Portfolio (the “Protected Portfolio”) owned by the Issuer which the Issuer either determines to be undervalued in the current market, or desires to protect against future losses in value due to market conditions. In order to recognize a value for capital purposes of the Protected Portfolio that is more consistent with internal estimates of economic value, the Issuer coordinates with or consults the Investor or an investment advisor to develop a specific share program that takes into account the amount of economic and non-economic risk associated with the Protected Portfolio.
By agreement of the parties, the share program is established on a Protected Portfolio having a Book Value of 80, with the program having a Protected Value of 90, and with the Shares having an initial face value of 10. In addition, the profit participation for the Investor is determined to be 100% of any excess (i.e., the amount of the APP over the Protected Value). Referring to FIG. 1, at inception the Issuer 102 transfers control of the Protected Portfolio 106 to a third party trustee 108 and issues the Shares according to the specifics of the program. With the Shares backed by the Protected Portfolio 106 as the Share Security, the Investor 104 purchases the Shares issued by the Issuer 102 at their face value.
Referring to FIG. 2, over the term of the program the Investor 104 collects Share dividends from the Issuer 102. The trustee 108 directs cash received from principal repayments and/or recovery cash flows from the Protected Portfolio 106 to the Issuer 102. Accordingly, the Share dividends due to the Investor 104 may be paid by the Issuer 102 directly from the returns of the Protected Portfolio 106. Alternatively, the trustee may calculate the Share dividends and pay them directly to the Investor from the Protected Portfolio returns, with the balance of the returns going to the Issuer less any fees.
Referring to FIGS. 3 and 4, at the Redemption Date of the program, the APP of the Protected Portfolio 106 is determined by the trustee 108 of the Protected Portfolio or underlying security, and the difference between the Protected Value and APP is calculated. If there is a deficit (i.e., the APP is less than the Protected Value), the Shares are redeemed in an amount equal to the face value of the Shares less the amount of the deficit as applied to the value of the Shares, as shown in FIG. 3. Alternatively, as shown in FIG. 4, if there is an excess (i.e., the APP exceeds the Protected Value), then the Issuer 102 redeems the face value of the Shares and makes an additional payment to the Investor 104 of 100% of the profit, in accordance with the Profit Sharing figure of the program. Table 1 illustrates the potential share redemption amounts for this example.

TABLE 1

Program Payment Illustration

	Excess/
APP	(Deficit)	Impact to Investor	Impact to Issuer

70	(20)	No redemption of	Retains full share face
		principal; total loss	amount of 10; no
		of 10	redemption payment
85	(5)	Partial redemption	Retains partial share face
		payment of 5; partial	amount of 5; pays partial
		loss of 5	redemption payments of 5
90	0	Full redemption payment	Pays full redemption
		of 10; no loss	payment of 10
95	5	Full redemption payment	Pays full redemption
		of 10; no loss; receives	payment of 10; pays 100%
		100% of excess	of excess

Given a Protected Value of 90 and an APP of 70 at the redemption date, there is a deficit of 20. In this scenario, because the Shares have a face value of 10 the total loss to the Investor is limited to 10. The remaining portion of the deficit is absorbed by the Issuer. Accordingly, in this scenario the resulting deficit is borne equally by both the Investor and the Issuer.
For an APP of 85 at the redemption date, there is a resulting deficit of 5. This deficit is reflected in a decrease in the value of the Shares, giving them a redemption value of 5 as well. In this scenario, the loss in value is substantially absorbed by the Investor, while the Issuer maintains a profit of 5 over the term of the Program, having only made a redemption payment of 5, while retaining the other half of the initial face value of the Shares received from the Investor at issuance.
For an APP of 90 at the redemption date, the APP is equal to the Protected Value of the underlying Protected Portfolio and no excess or deficit is recorded. In this scenario, the Investor receives the full value of the Shares when the Issuer makes a full redemption payment of 10. The benefit to the Issuer is in having received an upfront infusion of capital and in transferring the Gap risk of the portfolio substantially to the Investor.
For an APP of 95 at the redemption date, there is a resulting excess of 5. Given the Profit Participation value of 100%, the entire excess is paid by the Issuer to the Investor. In addition, the Shares purchased by the Investor are redeemed at their full face value.
As is shown in this example, initial losses in value of the Protected Portfolio below the Protected Value are absorbed by the Investor. Any further losses beyond the value of the Shares are then absorbed by the Issuer.

Share Issuance Program Example 2

In another example, a first party financial institution (the “Issuer”) and a second party investment group (the “Investor”) enter into an agreement to establish a share program for the mutual benefit of both parties. Referring generally to FIGS. 5-7, the parties have selected as the Protected Asset a FIS Portfolio (the “Protected Portfolio”) owned by the Issuer 202 which the Issuer either determines to be undervalued in the current market, or desires to protect against future losses in value due to market conditions. In order to recognize a value for capital purposes of the Protected Portfolio 206 that is more consistent with internal estimates of actual economic value, the Issuer 202 coordinates with or consults the Investor 204 and an investment advisor 212 to develop a specific share program that takes into account the amount of economic and non-economic risk associated with the Protected Portfolio 206.
At the outset of the program, the face value of the Protected Portfolio 206 is determined to be 1,000, and the book value (transferability value) is determined to be 800. By agreement of the parties, the share program is established with a Protected Value that is 90% of the face value of the, or 900, and with the Shares having an initial value that is 10% of the face value of the Protected Portfolio, or 100. In addition, the profit participation for the Investor is determined to be 60% of any excess, or the amount of the APP over the Protected Value, with the remainder being collected by the Issuer. According to other terms of the program, the Shares pay a dividend composed of a Base Dividend on the face amount of the Shares equal to the 6-month LIBOR plus a spread of 0.5% per annum, and a Bonus Dividend equal to 5.0% per annum. In addition, the Issuer may redeem all or part of the Shares prior to the Redemption Date by reducing the Protected Portfolio on a proportional basis, or by paying the Investor a redemption premium such that the Investor receives a minimum return equal to 15% per annum on its investment.
Referring to FIG. 5, at inception the Issuer 202 transfers control of the Protected Portfolio 206 to a third party trustee 208 and issues the Shares according to the specifics of the program. With the Shares backed by the Protected Portfolio 206 as the Share Security, the Investor 204 purchases the Shares issued by the Issuer 202 at their face value. In order to raise capital to purchase the Shares, the Investor 204 issues notes Purchaser Securities that are purchased by third-party investors 210.
Referring to FIG. 6, over the term of the program the Investor 204 collects Share dividends from the Issuer 202. The trustee 208 directs cash received from principal repayments and/or recovery cash flows from the Protected Portfolio 206 to the Issuer 202. Accordingly, the Share dividends due to the Investor 204 are paid by the Issuer 202 directly from the returns of the Protected Portfolio 206. Alternatively, the trustee may calculate the Share dividends and pay them directly to the Investor from the Protected Portfolio returns, with the balance of the returns going to the Issuer less any fees. In addition, over the term of the program the Investor 204 pays payments and dividends on the Purchaser Securities to the third-party investors 210, according to the terms of the Purchaser Securities.
Referring to FIG. 7, at the Redemption Date of the program, the APP of the Protected Portfolio is determined by the trustee 208, and the difference between the Protected Value and APP is calculated. If there is a deficit (the APP is less than the Protected Value), the Shares are redeemed in an amount equal to the face value of the Shares less the amount of the deficit as applied to the value of the Shares. Alternatively, if there is an excess (the APP exceeds the Protected Value), then the Issuer 202 redeems the face value of the Shares and makes an additional payment to the Investor 204 of 60% of the profit, in accordance to the Profit Sharing figure of the program. In addition, at the Redemption Date the third-party investors 210 redeem the Purchaser Securities, including a portion of any profit collected by the Investor 204, or as otherwise in accordance with the terms of the Purchaser Securities.
Tables 2 and 3 provide illustrations of the economics for the Issuer 202 and Investor 204, respectively, according to the terms in the example agreement and for various APP scenarios. In addition, FIG. 9 provides an illustration of the value collected from the Protected Portfolio 206 by the Issuer 202 for various APP scenarios, both with and without the share program having been implemented. FIG. 10 provides an illustration of the benefit analysis for the Issuer 202 both with and without the share program having been implemented, and additionally shows the payments due to the Investor according to various APP scenarios.

TABLE 2

Illustration of Share Issuer Economics

APP Scenarios

	100%	95%	90%	85%	80%	75%	70%	65%	60%

Cash received at inception	100	100	100	100	100	100	100	100	100
APP to Issuer at Maturity	1,000	950	900	850	800	750	700	650	600
Bond gain/(loss) without	200	150	100	50	—	(50)	(100)	(150)	(200)
Program
Redemption payment to	100	100	100	50	—	—	—	—	—
Investor
Excess payments to	60	30	—	—	—	—	—	—	—
Investor
Net to Issuer w/Program	940	920	900	900	900	850	800	750	700
Net to Issuer w/out	1,000	950	900	850	800	750	700	650	600
Program
Issuer benefit/(cost)	140	120	100	100	100	50	—	(50)	(100)
with Program
Issuer benefit/(cost)	200	150	100	50	—	(50)	(100)	(150)	(200)
without Program

TABLE 3

Illustration of Investor Economics

APP Scenarios

	100%	95%	90%	85%	80%	75%	70%	65%	60%

Investor Share purchase	(100)	(100)	(100)	(100)	(100)	(100)	(100)	(100)	(100)
Redemption payments	100	100	100	50	—	—	—	—	—
Excess payments	60	30	—	—	—	—	—	—	—
Investor net gain/(loss)	60	30	—	(50)	(100)	(100)	(100)	(100)	(100)

As is again shown in this example, initial losses in value of the Protected Portfolio below the Protected Value are absorbed by the Investor. Any further losses beyond the value of the Shares are then absorbed by the Issuer. Moreover, the Issuer is able to essentially secure the value of the Protected Portfolio at the Protected Value over a significant range of losses.
Referring to FIG. 8, the variables for the share program are calculated using a processing system 300 that has software adapted to determining these values. The processing system 300 has a processor 302 for executing instructions from the memory 310, processing input from the input devices 306, communicating with the display 304, and processing data from any other peripherals. The processor 302, display 304, input devices 306, network interface 328, and other peripherals may be communicably coupled via a single data bus 308. Alternatively, these and other components may be joined by multiple buses, or several individual dedicated buses. The network interface 328 may communicably couple the processing system 300 to an external network of other processing systems. In addition, multiple processing systems may be linked via the network in order to coordinate the determination of variables for the share program.
The memory 310 has stored therein an operating system 312 and a multiplicity of software programs 314 designed to operate on the operating system 312. These software programs include: a program 316 that calculates the principal payments of the Protected Portfolio 316, a program 318 that calculates the interest of the Protected Portfolio, a program 320 that calculates the APP of the Protected Portfolio on an ongoing basis, a program 322 that models the Gap risk associated with the Protected Portfolio, a program 324 that models the program variables under various scenarios, and a program 326 that calculates the payments due each party under the terms of the program.
While the invention has been described in terms of several preferred embodiments, it should be understood that there are many alterations, permutations, and equivalents that fall within the scope of this invention. It should also be noted that there are alternative ways of implementing both the process and apparatus of the present invention. For example, steps do not necessarily need to occur in the orders shown in the accompanying figures, and may be rearranged as appropriate. It is therefore intended that the appended claim includes all such alterations, permutations, and equivalents as fall within the true spirit and scope of the present invention.
The invention can be implemented in digital electronic circuitry, or in computer hardware, firmware, software, or in combinations of them. The invention can be implemented as a computer program product, i.e., a computer program tangibly embodied in an information carrier, e.g., in a machine readable storage device or in a propagated signal, for execution by, or to control the operation of, data processing apparatus, e.g., a programmable processor, a computer, or multiple computers. A computer program can be written in any form of programming language, including compiled or interpreted languages, and it can be deployed in any form, including as a stand alone program or as a module, component, subroutine, or other unit suitable for use in a computing environment. A computer program can be deployed to be executed on one computer or on multiple computers at one site or distributed across multiple sites and interconnected by a communication network.
Method steps of the invention can be performed by one or more programmable processors executing a computer program to perform functions of the invention by operating on input data and generating output. Method steps can also be performed by, and apparatus of the invention can be implemented as, special purpose logic circuitry, e.g., an FPGA (field programmable gate array) or an ASIC (application specific integrated circuit).
Processors suitable for the execution of a computer program include, by way of example, both general and special purpose microprocessors, and any one or more processors of any kind of digital computer. Generally, a processor will receive instructions and data from a read only memory or a random access memory or both. The essential elements of a computer are a processor for executing instructions and one or more memory devices for storing instructions and data. Generally, a computer will also include, or be operatively coupled to receive data from or transfer data to, or both, one or more mass storage devices for storing data, e.g., magnetic, magneto optical disks, or optical disks. Information carriers suitable for embodying computer program instructions and data include all forms of non volatile memory, including by way of example semiconductor memory devices, e.g., EPROM, EEPROM, and flash memory devices; magnetic disks, e.g., internal hard disks or removable disks; magneto optical disks; and CD ROM and DVD-ROM disks. The processor and the memory can be supplemented by, or incorporated in special purpose logic circuitry.
All references, including publications, patent applications, and patents, cited herein are hereby incorporated by reference to the same extent as if each reference were individually and specifically indicated to be incorporated by reference and were set forth in its entirety herein.
The use of the terms “a” and “an” and “the” and similar references in the context of this disclosure (especially in the context of the following claims) are to be construed to cover both the singular and the plural, unless otherwise indicated herein or clearly contradicted by context. All methods described herein can be performed in any suitable order unless otherwise indicated herein or otherwise clearly contradicted by context. The use of any and all examples, or exemplary language (e.g., such as, preferred, preferably) provided herein, is intended merely to further illustrate the content of the disclosure and does not pose a limitation on the scope of the claims. No language in the specification should be construed as indicating any non-claimed element as essential to the practice of the present disclosure.
Multiple embodiments are described herein, including the best mode known to the inventors for practicing the claimed invention. Of these, variations of the disclosed embodiments will become apparent to those of ordinary skill in the art upon reading the foregoing disclosure. The inventors expect skilled artisans to employ such variations as appropriate (e.g., altering or combining features or embodiments), and the inventors intend for the invention to be practiced otherwise than as specifically described herein.
Accordingly, this invention includes all modifications and equivalents of the subject matter recited in the claims appended hereto as permitted by applicable law. Moreover, any combination of the above described elements in all possible variations thereof is encompassed by the invention unless otherwise indicated herein or otherwise clearly contradicted by context.
The use of individual numerical values are stated as approximations as though the values were preceded by the word “about” or “approximately.” Similarly, the numerical values in the various ranges specified in this application, unless expressly indicated otherwise, are stated as approximations as though the minimum and maximum values within the stated ranges were both preceded by the word “about” or “approximately.” In this manner, variations above and below the stated ranges can be used to achieve substantially the same results as values within the ranges. As used herein, the terms “about” and “approximately” when referring to a numerical value shall have their plain and ordinary meanings to a person of ordinary skill in the art to which the disclosed subject matter is most closely related or the art relevant to the range or element at issue. The amount of broadening from the strict numerical boundary depends upon many factors. For example, some of the factors which may be considered include the criticality of the element and/or the effect a given amount of variation will have on the performance of the claimed subject matter, as well as other considerations known to those of skill in the art. As used herein, the use of differing amounts of significant digits for different numerical values is not meant to limit how the use of the words “about” or “approximately” will serve to broaden a particular numerical value or range. Thus, as a general matter, “about” or “approximately” broaden the numerical value. Also, the disclosure of ranges is intended as a continuous range including every value between the minimum and maximum values plus the broadening of the range afforded by the use of the term “about” or “approximately.” Thus, recitation of ranges of values herein are merely intended to serve as a shorthand method of referring individually to each separate value falling within the range, unless otherwise indicated herein, and each separate value is incorporated into the specification as if it were individually recited herein.
It is to be understood that any ranges, ratios and ranges of ratios that can be formed by, or derived from, any of the data disclosed herein represent further embodiments of the present disclosure and are included as part of the disclosure as though they were explicitly set forth. This includes ranges that can be formed that do or do not include a finite upper and/or lower boundary. Accordingly, a person of ordinary skill in the art most closely related to a particular range, ratio or range of ratios will appreciate that such values are unambiguously derivable from the data presented herein.

Claims

1. A method for implementing a share issuance program for quantifying and transferring non-economic risk between a first party and a second party, said method comprising:

receiving data representing an asset belonging to the first party, wherein the data includes a market value of the asset and principal payments of the asset;

receiving a redemption date for the program;

generating an economic value of the asset based on the data representing the asset;

calculating a protected value for the asset based on the economic value;

calculating a share value based on the market value and the protected value of the asset, wherein the first party issues shares under the program whose principal repayment upon redemption is contingent on aggregate principal payments (APP) of the asset, and where the second party agrees under the program to purchase the shares for the share value;

determining the APP of the asset as of the redemption date; and

calculating a share redemption value based on the APP, the share value, and the protected value, such that when the APP exceeds the protected value the share redemption value is equal to the share value, and when the APP is less than the protected value the share redemption value is reduced by the amount that the APP is less than the protected value up to an amount equal to the share value; and

indicating the share redemption value;

wherein at least one of the steps of generating the economic value, calculating the protected value; calculating the share value; determining the APP, and calculating the share redemption value is performed by a computer.

2. The method of claim 1 wherein calculating an economic value of the asset comprises:

performing a risk analysis based on the data representing the asset; and

determining the net present value of expected future principal payments according to the risk analysis.

3. The method of claim 1 wherein the second party is entitled under the program to receive a portion of any APP that exceeds the protected value (“profit participation”), and wherein the method further comprises the steps of:

calculating any profit participation due under the program; and

indicating the amount of profit participation due under the program.

4. The method of claim 1 wherein the data representing the asset further includes a maturity date of the asset, and wherein the redemption date for the program is the maturity date of the asset.

5. The method of claim 1 further comprising the step of calculating a share dividend value having a base component based on a major interest rate index, wherein the first party agrees under the program to periodically pay the second party the share dividend value.

6. The method of claim 5 wherein the share dividend value also has a bonus component that is a based on a risk assessment of the asset.

7. The method of claim 1 further comprising the step of determining a redemption premium for the early redemption of shares, wherein the first party is permitted under the program to redeem all or part of the shares prior to the redemption date by paying the second party the redemption premium.

8. A computer-readable medium for implementing a share issuance program for quantifying and transferring non-economic risk between a first party and a second party, the computer-readable medium bearing a computer program containing instructions which, when implemented by a computer, cause the computer to execute the steps of:

receiving a redemption date for the share issuance program;

calculating a protected value for the asset based on the economic value;

calculating a share value based on the market value and the protected value of the asset, wherein the first party issues shares under the share issuance program whose principal repayment upon redemption is contingent on aggregate principal payments (APP) of the asset, and where the second party agrees under the share issuance program to purchase the shares for the share value;

determining the APP of the asset as of the redemption date; and

displaying the share redemption value.

9. The computer-readable medium of claim 8 wherein calculating an economic value of the asset comprises:

performing a risk analysis based on the data representing the asset; and

10. The computer-readable medium of claim 8 wherein the second party is entitled under the program to receive a portion of any APP that exceeds the protected value (“profit participation”), and wherein the computer program further contains instructions for:

calculating any profit participation due under the share issuance program; and

displaying the amount of profit participation due under the share issuance program.

11. The computer-readable medium of claim 8 wherein the data representing the asset further includes a maturity date of the asset, and wherein the redemption date for the share issuance program is the maturity date of the asset.

12. The computer-readable medium of claim 8 wherein the computer program further contains instructions for calculating a share dividend value having a base component based on a major interest rate index, wherein the first party agrees under the share issuance program to periodically pay the second party the share dividend value.

13. The computer-readable medium of claim 12 wherein the share dividend value also has a bonus component that is based on a risk assessment of the asset.

14. The computer-readable medium of claim 8 wherein the computer program further contains instructions for determining a redemption premium for the early redemption of shares, wherein the first party is permitted under the share issuance program to redeem all or part of the shares prior to the redemption date by paying the second party the redemption premium.

15. An apparatus for executing a share issuance program for quantifying and implementing the transfer of non-economic risk between a first party and a second party comprising:

a processor;

a display;

a memory coupled to the processor and containing instructions executable by the processor which, when implemented by the processor, cause the processor to execute the steps of:

receiving a redemption date for the program;

calculating a protected value for the asset based on the economic value;

determining the APP of the asset as of the redemption date; and

displaying the share redemption value on the display.

16. The apparatus of claim 15 wherein calculating an economic value of the asset comprises:

performing a risk analysis based on the data representing the asset; and

17. The apparatus of claim 15 wherein the second party is entitled under the program to receive a portion of any APP that exceeds the protected value (“profit participation”), and wherein the memory further contains instructions for:

calculating any profit participation due under the program; and

indicating the amount of profit participation due under the program.

18. The apparatus of claim 15 wherein the data representing the asset further includes a maturity date of the asset, and wherein the redemption date for the program is the maturity date of the asset.

19. The apparatus of claim 15 wherein the memory further contains instructions for calculating a share dividend value having a base component based on a major interest rate index, wherein the first party agrees under the program to periodically pay the second party the share dividend value.

20. The apparatus of claim 19 wherein the share dividend value also has a bonus component that is based on a risk assessment of the asset.

21. The apparatus of claim 15 wherein the memory further contains instructions for determining a redemption premium for the early redemption of shares, wherein the first party is permitted under the program to redeem all or part of the shares prior to the redemption date by paying the second party the redemption premium.