What is a Payout Event?
A payout event refers to the accelerated repayment of bond principal, usually on an asset-backed security (ABS).
How Does a Payout Event Work?
A payout event is also referred to as early amortization or early calls.
A payout event normally happens when the amount of delinquencies on the loans underlying an ABS suddenly increases. Also, it can happen when the issuer's net profit after servicing fees, charge-offs, and other costs drops below a certain level or when the sponsor or the servicer declares bankruptcy.
When a payout event occurs, all principal and interest payments are paid to investors regardless of the intended schedule for the return of the principal. Once a payout event occurs, it cannot be taken back or undone.
Why Does a Payout Event Matter?
A payout event is a way for investors to alleviate the effects of declining credit performance or a liquidity crisis. Most rating agencies require asset-backed securities to provide payout event language as criteria for rating the debt. Though this lowers the risks associated with asset-backed securities, payout events themselves contain risks in that an investor may not earn all the interest promised over the life of the security if a payout event happens.