Asset-backed investments and unsecured investments: Differences and approaches to risk assessment

In brief:

• An asset-backed investment is based on the cash flows generated by specific assets or asset portfolios (for example, loans), whereas an unsecured investment depends primarily on the issuer's ability to meet its obligations.

• The investment structure is essential when assessing risk; the investor must understand where the cash flow comes from, how late payments are managed and what factors can affect the investment's results.

• Loan-backed securities (ABS) make it possible to gain exposure to an entire loan portfolio rather than a single borrower, thereby diversifying risk and linking the return to the performance of the underlying assets.

• Regulation helps ensure transparency and supervision, but it does not guarantee a profit or the preservation of capital. Investors still have to assess the investment structure and risks themselves.

• Asset backing does not eliminate all risks. Such investments are also exposed to credit risk, recovery risk, market, liquidity and structural risks, so it is important to carry out thorough analysis before investing.

When investing, the potential profit is often assessed, but it is no less important to understand how a particular investment is structured. It is precisely the investment structure that determines what risks exist, how they are managed and what rights an investor may have in various scenarios.

The question to which attention should primarily be paid is whether a particular instrument is an asset-backed investment or an unsecured investment. Although risks exist in both cases, understanding these differences helps to make more informed decisions and to better assess your investment portfolio.

In this article, we will look at what the concept "asset-backed" means, how loan-backed securities work, how the investment structure affects risk, and how the investment products offered by TWINO fit into this context.

What does "asset-backed" mean?

An asset-backed investment is based on a set of specific, identifiable financial assets whose generated cash flow provides regular payments to investors. Most often, these assets are consumer or mortgage loans, car leasing agreements, credit card debts or loans to businesses. This is the core of what does asset-backed mean: the value is tied to a concrete pool of assets.

In the case of an unsecured investment, on the other hand, its value is not supported by a specific tangible or financial asset (for example, real estate, vehicles, equipment or receivables). If the issuer of the investment or the borrower runs into financial difficulties, the investor has no right to claim a specific collateral asset.

The most typical example of an unsecured investment is shares, but they also include unsecured corporate bonds, some consumer loans, private loans to businesses and alternative investments.

Since an unsecured investment is not based on a specific collateral asset, it usually involves a higher risk, but not always a lower investment quality or a worse return potential.

How does the difference between these two types of investment manifest in practice?

Unsecured investment

You invest in a company's debt instrument and rely on its ability to repay the debt. In this model, it is important to assess the following before investing:

• The issuer's financial position.

• The credit rating (if one is available).

• The business model.

• The historical payment discipline.

• The return offered relative to the risk.

Asset-backed investment

You invest in a security based on, for example, a portfolio of 10,000 loans, and the return is linked to the cash flows generated by this portfolio. The main difference is that in this case, as an investor, you will analyse not only the issuer but also the quality, structure and performance of the assets underlying the investment.

Secured and unsecured investments: The main differences

Investments can be divided into secured and unsecured depending on what the security of the investment is based on and where the cash flow comes from. Although both types of investment can be part of an investment portfolio, their risk profiles differ substantially. The secured vs unsecured investment distinction comes down to the source of the cash flow.

Asset-backed investments

Asset-backed investments are based on specific assets or an asset portfolio. In such cases, the investment's cash flow is usually linked to the payments of the underlying assets, for example loan repayments, leasing payments or other regular income.

The main source of risk here is the quality of the assets themselves and their performance. Therefore, when assessing such investments, it is essential to analyse the structure of the asset portfolio, diversification, repayment discipline and the possible value of the collateral. The return arises from the cash flows generated by the underlying assets.

Unsecured investments

Unsecured investments, in turn, are based on the obligations of the issuer or borrower rather than on the backing of specific assets. In such cases, the investor's cash flow is directly dependent on the issuer's ability to meet its financial obligations.

The main source of risk is the issuer's financial position, solvency and creditworthiness. Therefore, when assessing unsecured investments, attention should mainly be paid to the issuer's financial indicators, business stability, debt level and ability to ensure payments over the long term. The return in this case is linked to the issuer's ability to meet its obligations within the specified term.

It is important to remember that neither of these types of investment is automatically better than the other. Both secured and unsecured investments have their own risks, but the nature of these risks is different. Therefore, the choice should be assessed not only by the potential return, but also by what risk is being taken on and how well the investor understands this risk.

How does investment structure risk affect the investor?

When it comes to investments, market risk or credit risk is often mentioned. However, investment structure risk is equally important.

The investment structure describes how a particular investment model works in practice:

• Where the cash flow comes from.

• What happens if some payments are delayed.

• How asset management is organised.

• What rights the investor has in various situations.

The more complex the structure, the more carefully the investor must understand its operating mechanism.

The question that every investor should ask before investing is:

"What actually generates the cash flow from which I will receive my return?"

The answer to this question often helps to understand the risk much better than simply comparing interest rates.

Asset-backed securities explained

In financial markets, so-called asset-backed securities (Asset-Backed Securities or ABS) are widely used. By purchasing them, the investor gains exposure not to a single individual borrower, but to an entire asset portfolio.

The most popular assets that generate ABS cash flows:

• Consumer loans - borrowers' monthly payments.

• Mortgage loans - home loan payments.

• Car leasing agreements - leasing payments.

• Business loans - loan payments made by companies.

• Credit card debts - repayments by credit card users.

• Commercial receivables - debtor payments by companies.

In the European alternative investment sector, consumer loan and business loan portfolios are particularly widespread.

How do loan-backed investments work?

It is precisely loan portfolios that are one of the most common types of asset backing. Let us briefly and simply recall the mechanism of loan-backed securities.

• Loans are issued to end borrowers.

• These loans are combined into a portfolio.

• Securities are issued on the basis of the portfolio.

• The payments made by borrowers generate cash flow.

• This cash flow is used for payments to investors.

In this way, the investor indirectly gains exposure not to a single borrower, but to a specific loan portfolio, achieving greater risk diversification and linking the return to the performance of the underlying assets.

This is precisely the principle used by the loan-related investment products offered by TWINO, in which the underlying assets are loans. It is important to emphasise that this does not mean guaranteed profit or the absence of risk, but rather a specific investment structure that the investor can assess.

How does the model offered by TWINO fit into the asset-backed securities segment?

The investment products available on the TWINO platform are based on underlying loans, which are used as the economic basis for the securities.

For the investor, this means that:

• The investment is tied to specific loan portfolios.

• The return mechanism is based on the cash flows generated by these loans.

• It is possible to assess information about the underlying assets.

• The investment risks are linked both to the borrowers' payment discipline and to the structure itself.

Alternative investment regulation: What does it mean for the investor?

Before entrusting their money to one of the investment platforms, investors are strongly advised to make sure whether this platform is officially licensed, operates in accordance with the applicable regulation and observes investor protection principles.

It is no less important to understand what exactly regulation helps to ensure:

• Information disclosure requirements.

• Supervision mechanisms.

• Client fund management standards.

• Compliance with regulatory requirements.

However, it is also important not to misunderstand the significance of regulation. Its aim is to create a more transparent and controlled market environment in which investors can make more informed decisions.

At the same time, the fact that a platform is licensed and complies with regulatory requirements does not protect investors from investment risk and does not guarantee a profit.

Therefore, when assessing an investment, you must always look both at the regulatory aspects and at the investment structure itself, the underlying assets and the risks.

What risks does asset backing not eliminate?

One of the most common misconceptions is the belief that asset backing automatically means complete safety.

In reality, asset-backed investments are also exposed to various risks. The investor may lose part or all of the invested capital.

Credit risk

If some borrowers are unable to meet their obligations, this can affect the results of the loan portfolio.

Recovery risk

Even if debts are collected, the duration and outcome of the actual recovery process may differ from the initial forecasts.

Market risk

A deterioration in the economic situation can affect borrowers' solvency and the overall quality of the portfolio.

Liquidity risk

In some cases, it may not be possible to sell an investment immediately or at the desired price.

Structural risk

The investor must understand how the structure of the specific security works and how various scenarios can affect the result.

How to assess different investment structures?

When carrying out an assessment of an investment structure, include the answers to these key questions:

• What is the asset underlying the offer?

• Where does the cash flow come from?

• What are the main risk factors?

• How are late payments managed?

• What information is available to the investor?

• What is the regulator's supervision?

The better an investor understands these aspects, the easier it is to make a decision that matches their risk tolerance and financial goals.

Conclusions

The investment structure is one of the most important factors affecting risk. Therefore, when assessing various options, it is essential to understand the difference between secured and unsecured investments.

Asset-backed investments are based on the cash flows generated by specific assets or asset portfolios, whereas in the case of unsecured investments the investor primarily relies on the issuer's ability to meet its obligations.

This does not mean that one model is risk-free or automatically superior to the other. However, understanding this difference helps to better assess the potential risks and to make more considered investment decisions.

Frequently asked questions

What is an asset-backed investment?

These are investments based on specific financial assets or asset portfolios that generate the cash flow for payments to investors.

What is an unsecured investment?

An unsecured investment is based primarily on the issuer's or borrower's ability to meet obligations, without a specific asset portfolio serving as the basis for the investment.

How do loan-backed investments work?

Loans are combined into a portfolio, and the investors' return is linked to the payments made by the borrowers of these loans.

Does asset backing guarantee a profit?

No. Asset backing changes the risk structure, but it does not eliminate credit risk, recovery risk or other investment risks.

Learn more about TWINO asset-backed securities

If you want to understand in depth how loan-backed securities work and what investment products can be found on the TWINO platform, take a look at the FAQ section, assess the offering and make sure it matches your investment goals and risk tolerance.

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This material is for informational purposes and is not individual investment advice.