Toxic asset is a financial asset of low quality and high risk, whose book value is higher than the market price and therefore will be very difficult to sell, that is , it is an illiquid asset.
For the company that owns the toxic asset, it has a much greater value than what it would really get for it if it were sold. Toxic assets can be tangible (such as real estate), intangible (a patent) or financial (a loan). On a company’s balance sheet, non-current assets are more likely to be considered toxic assets than current assets (such as commercial stocks or balances in current currency).
Toxic assets can generate serious problems for a company if its weight within the total assets is significant, since the affected entity will be forced to carry out an adjustment in its valuation, making it more real (according to the market) and therefore Both assuming losses. Sometimes this can even lead to bankruptcy of the company, as happened with numerous US banks during the subprime crisis .
Although the concept of toxic assets began to be used in the wake of the 2008 financial crisis for real estate and CDS , there is already a history of toxic assets in the 17th and 18th centuries, but it was during the 19th when market development Financial and stock market led to the spread of this type of problem. One of the most significant cases was the rescue in 1890 of Baring Brothers (one of the main banks of the United Kingdom) by the Bank of England, due to its overexposure to the public debt of the Argentine Republic, which was finally Make an asset valued according to a solvency of the debtor much higher than the real one.
As for more current examples, we could possibly say that the biggest trigger for the financial crisis of 2007 was precisely toxic assets, specifically subprime mortgages . These consisted of mortgage loans to people of low solvency (and therefore could hardly repay the entire debt) valued by the rating agencies as assets of a higher quality than the real one. Mortgage banks subsequently sold those assets to other entities at unreal prices, but when the first defaults began to occur, buyers of these toxic assets were forced to lower their book value, suffering large losses.
Another example of a toxic asset is the one that affected the Spanish financial system in the 2008 financial crisis (making the creation of a bad bank necessary ) is real estate. In the years prior to the crisis, the oversizing of the Spanish real estate sector and its consequent price bubble resulted in an overvaluation of the real estate assets that remained in the hands of the banks after the eviction processes. These properties were later very difficult to sell at their book value, so different alternatives were sought, such as their use for social rent, the creation of real estate departments within the entities or the creation of a bad bank (Sareb) to manage the sale of these assets at prices more adjusted to the new reality of the market.