Collateralisation

Collateralisation is a process used in finance where an asset is pledged as security for a loan or other obligation. If the borrower defaults on their obligations, the lender can seize and sell the collateral to recover their losses. This reduces the lender's risk, making them more willing to extend credit or offer more favorable terms. The value of the collateral is typically assessed and often needs to exceed the loan amount to provide an adequate buffer. Common forms of collateral include real estate, vehicles, securities, and inventory. In derivatives markets, collateralisation is crucial for managing counterparty risk, ensuring that potential losses from a trade are covered. The specific terms and conditions of collateralisation are usually detailed in a collateral agreement. This agreement outlines the type of collateral, its valuation method, and the circumstances under which it can be called upon. The process aims to protect the lender while allowing the borrower to access capital or financial products that might otherwise be unavailable.