Securitization.ppt
- 2. Objectives Concept Securitization structure Credit enhancement methods Securitization market in India
- 3. Concept Securitization is the process of pooling and repackaging of homogeneous illiquid financial assets into marketable securities that can be sold to investors. The systematic process , where loans and other receivables are pooled, packaged, rated and sold in the market in the form of asset backed securities
- 4. Concept The pooled financial assets and the underlying cash flow are used to create guarantees for securities that are offered on retail to institutional investors. For example, a Finance Company can securitize its housing loan portfolios into financial instruments with fixed return which is based on the maturity profile of the housing loans.
- 5. Concept If the Company has Rs 200 crore worth of housing loan, and is due to earn 11% on them, it can securitize these loans into financial instruments with 10% return with safeguards against defaults. The Principal and the interest repayment on the securitized instruments are met from the financial assets which are securitized.
- 6. Concept In the Securitization process, the illiquid financial assets are transferred into a more liquid form of assets and are distributed to a broad range of investors through the capital market. Securitization is backed by a wide variety of assets such as vehicles, construction equipment, real estate and personal loans
- 7. Securitization – Parties involved Primary parties i) The Originator ii ) Special Purpose Vehicle iii ) The Investor
- 8. Securitization – Parties involved Secondary Parties: i ) The Obligor ii ) Credit rating agency iii ) Administrator iv) Trustee v ) Structurer
- 9. Assets to be securitized Any pool of assets that has clearly defined predictable cash flows with historical Information on payments, default and loss pattern, documentation and nature of loan. Any form of loan receivables like housing loans, consumer loans, vehicles loans, lease rental, credit card receivables, government receivables, trade receivables could be Securitized.
- 10. Essential Characteristics for Assets to be securitized Assets should have consistent cash flows Default rate should be low Principal should be totally amortized at maturity. Underlying collateral should be marketable There should be diverse obligators so that the risk is diversified Underlying assets should have standard documentation
- 11. Securitization – The Process Securitization of assets involve following major steps: i) Transfer of Assets ii ) Issue of Securities iii ) Servicing of securities
- 12. Transfer of Assets The Originator or the lending institution has to identify the receivables to be securitized. The receivables are segregated into baskets or pools, based on the type of credit, geographical area and mortgage pattern. Mortgage pledges, are aggregated into pools of assets of similar nature in term of payment pattern and documentation. Identifies pools of assets are then transferred to the SPV as follows:
- 13. Transfer of Assets Methods of transfer: i ) Novation ii ) Assignment iii ) Sub participation
- 14. Documentation Legal agreements are required to define the rights and obligations of the originator , SPV and the investor. A transfer agreement is made between the originator and SPV covering the sale of existing receivables, an obligation of the originator to repurchase at breach of warrant etc. An administration agreement is signed between the originator and the SPV covering the administration fees, liability for acts and omissions etc. Security trust deed is made to create security in the favor of the investor over the SPV ‘s assets.
- 15. Issue of Securities After acquiring the assets, SPV comes out with securities. The securities issued may be pass through certificates, pay through certificates ,interest only or principal only stripped structures and asset based commercial papers. The maturity of the issued securities is structured to match the maturity of the securitized loans.
- 16. Issue of securities Issued securities are credit rated or are guaranteed by an external institution to enhance the marketability. While rating the pass through securities, rating agencies normally focus on the asset quality of the loan pool. Getting guarantee or underwriting the issue provides credit enhancement, i.e. a sense of confidence regarding timely payment of the Interest and principal is instilled by credit rating and Enhancement.
- 17. Servicing of securities Repayment of the securitized loan and bill received by the originator are passed on to the SPV. This facilitates the servicing of securities to the investors. Sometimes special agents are appointed for collection of dues from the obligors, on a commission basis. The originator may be appointed as a servicer. i.e as a collection Agent under securitization. Pass through Certificate holders hold SPV responsible for payment Of their principal and interest.
- 18. Credit enhancement As such, the investors seek additional security in the form of credit enhancement. Securitized instruments with credit enhancement get a high level of credit rating and marketability of the instrument is made easier .
- 19. Types of Credit Enhancement External Credit enhancement: a) Insurance b ) Third Party guarantee, c ) Letter of credit Internal Credit Enhancement: a) Credit trenching (Senior/sub-ordinate) b ) Over collateralization c ) Cash collateral d ) Spread account e ) Triggered amortization
- 20. Structure of Securities Structure of the securities vary from one another in accounting technique and legal standing. Types of Structure of Securities: i) Pass through certificates ii ) Pay through certificates iii ) Preferred Stock certificates
- 21. Types of Securitization Securities issued by the SPV are backed by : Assets backed securities, Mortgage backed securities, Corporate Debts Future Flows
- 22. Credit Enhancement The term refers to the various methods used to reallocate the risks. Generally, the investors of securitized instruments have a direct exposure to the performance of the underlying asset or mortgage and have limited or no recourse to the originator. The loss to the investors may vary in frequency. severity and timing depending on the asset Characteristics, origination and administration.
- 23. Factoring and Securitization Factoring: Book debts of mfg and trading companies Trade debts and receivables Short term in nature Securities are not issued on the basis of loans receivables Collection work is carried out by factor, Entire credit risk is passed( in case of without recourse)
- 24. Securitization Mainly associated with financial companies Deals with loans and receivables of hire purchase and financial services, Medium and long term in future, Securities are issued on the basis of underlying assets, Collection work is carried out by the administrator or the originator, A part of the risk is absorbed by the originator
- 25. Securitized securities and convential securities Securitization is packaging of a pool of financial assets into marketable securities. Conventional securities like bonds and debentures are different from this in nature, structure and source of repayment Securitized instruments are derivatives of the traditional debts- the receivables ,The instrument is highly secured with underlying assets and guarantees Bonds or debentures are long term promissory notes for raising long term capital. They may be secured or unsecured. Securitized securities can be structured to achieve a desired level of risk and rating but this is not feasible in the case of traditional securities.
- 26. Securitized Securities and Convential Securities In securitization, the source of repayment is the pool of assets and the SPV pays the investors. The earning power and profitability of the issuing company is the source of payment for debts and bonds
- 27. Effect of Securitization on Balance Sheet 1) Capital Relief: Securitization provides capital relief. FI and banks are required to maintain CRAR . In Securitization ,assets are taken off from the Balance Sheet and CRAR is not required to be maintained to that extent. The Cost of Capital coverage for the assets in question is eliminated since the assets are removed from the balance sheet.
- 28. Effect of Securitization on Balance Sheet Income Statement Effect: a ) Recognizing profits b ) Timing of income c ) Low cost of funds d ) Impact on financial ratio
- 29. Benefits of Securitization Securitization offers a number of advantages To the seller, investor and the debt markets. Securitization increases the number of debt Instruments in the market for the financial System. It also widens the market by attracting new players on account of availability of superior assets.
- 30. Benefits of Securitization To Originator: i) Improves liquidity ii ) Better Asset Liability Management iii ) No Opportunity cost of capital iv )Improves transparency v ) Provides market access vi ) Low cost funding
- 31. Benefits of Securitization For Investors a ) More avenues b ) Credit enhancement provides good quality assets, c ) Reduces risks d ) The prevalence of secondary market offers liquidity e ) Better financial management
- 32. Securitization in India i ) Nature of Securitization : Asset based securitization funds are preferred to the securitization of receivables 2) Beneficiaries : FI, Banks, NBFc using truck/auto pools 3 ) Structure: Mostly transfer of beneficial interest in assets and not legal title. 4 ) Market: Two way quotes required to create liquidity and develop market.
- 33. Securitization in India 5 ) Raising of Funds: Only restricted to QIBs and not to retail investors, 6 ) The Problem of Stamp Duty: Issue of Securities attracts stamp duty which is an obstacle. 7 ) Requirement of registration of immovable property
- 34. Legal Framework All securitization transactions are based on General laws like Transfer of Property Act, Contract Act and Indian Trust Act. Absence of a specific statutory law governing The rights of parties affect investors perception about such transactions