Debt securitisation

very easy to understand the concept.

1. Debt Securitization Presented by Bibin P V Roll No: 2 M Phil Sms cusat 1

2. Introduction The financial system all over the world is in transforming stage . The capital, money and debt markets are getting widened and deepened. The development of debt market increases the efficiency of capital market. The debt or assets securitization plays very important role. It is the debt market which has provided more impetus for capital formation than equity market in the economically advance countries. Debt or asset securitization assumes a significant role and it is one of the most innovative techniques introduced in the debt market. 2

3. Meaning and Definition Securitization of debt or asset refers to the process of liquidating the illiquid and long term assets like loans and receivables of financial institutions like banks by issuing marketable securities against them. The definition can be stated as “ A carefully structured process where by loans and other receivables are packaged , underwritten and sold in the form of asset backed securities”. 3

4. Securitization is also differs from factoring, on following points. Securitization Factoring Associated with loans Deals with loans Nature is medium or long term Collection work is done by originator or agency Part of credit risk can be absorbed by originator Associated with book debts Deals with bills receivables Nature is short term Collection work is done by factor himself Whole credit risk is on the shoulder of factor 4

5. Modus of Operandi In securitization following parties are required Originator : An entity making loans to borrowers or having receivable from customers. Special purpose vehicle(SP V ) : The entity which buys assets from originator and packages them in to security for further sale. Investment Bank : A body that is Responsible for conducting the documentation work Credit rating agency : To provide value addition to security . Insurance company/under writer : To provide cover against redemption risk to investor and /or under subscription Obligator : Company that gives debt to other company as a result of borrowing (debtor) Prospective investor : The party to whom securities are sold 5

6. Stages in securitization There are 5 stages involved in the working of securitization Identification stage/ process Transfer stage/ process Issue stage/ process Redemption stage / process Credit rating stage/ process 6

7. Process of Securitization Issue proceeds Originator Asset Pool SPV Note issue Credit enhancement Class A Notes Class B Notes Class C Notes Investor 7

8. Securitization : Operational Mechanism The crucial link in the Securitization chain is the creation of a special purpose vehicle (SPV). The SPV intermediates between the primary market for the underlying asset and the secondary market for the asset backed security .The SPV is a separate entity , incorporated in consonance with prevailing laws . T he basic process can be split up into 3 function. 1 .The originator function 2 .The pooling function 3 .The securitization function 8

9. Methods of Securitization As stated earlier, securitization is liquidating long term assets in to marketable securities, the asset’s quality , amount of amortization , default experience of original borrower, financial reputation and soundness etc ., is vital There are 3 important Methods of Securitization 1 .Pass through and Pay through certificates 2 .Preferred stock certificates 3 .Asset based commercial paper 9

10. Pass through certificate Cash flows are ‘passed through’ to the holders of the securities in the form of monthly payments of interest, principal & pre-payments They reflect ownership right in the assets backing the securities Pre-payment precisely reflects the payment on the underlying mortgage . If it is a home loan with monthly payments, the payments on securities would also be monthly but at a slightly less coupon rate than the loan. 10

11. Pay through certificate This permits the issuer to restructure receivables flow to offer investment maturities to the investors associated with varied yields and risk .The issuer owns the receivables and sells the debt backed by the assets. The cash flows can be remade into various debt tranches with different maturities. 11

12. Preferred stock certificates : it is issued by a subsidiary company against the trade debts and consumer receivables of its parent company Asset-based commercial papers : The SPV purchase portfolio of mortgages from different sources (various lending institutions) and they are combined into a single group on the basis of interest rates, maturity dates and underlying collaterals . Then it transferred in to trust and issue mortgage backed securities. 12

13. Types of Securitization Mortgaged Backed securitization (MBS) Mortgage pass through securitization Auto loan securitization (ALS) Credit card segment Trade receivable Non asset based securitization Asset based securitization (ABS) 13

14. The following assets are generally securitized by financial institutions Term loans to financially reputed companies Receivables from government departments and companies Credit card receivables Hire purchase loans like vehicle loans Lease finance Mortgage loans etc..; 14

15. Benefit of securitization Securitization provides benefits to all the parties such as, the originator, investor and the regulatory authorities . Some of them are as below Additional source of fund Greater profitability Enhancement of capital adequacy ratio Spreading of credit risk Lower cost of funding Provision of multiple instrument Higher rate of return Prevention of idle capital Better than traditional instrument. 15

16. History of securitization in India Securitization in India began in the early 1990’s ,with CRISIL rating the first securitization program in 1991-1992, of an auto loan . City bank securitized auto loans and placed a paper with GIC mutual fund worth about Rs 16 cores. Securitization began with the sale of consumer loan pools, and originators directly sold loans to buyers. They acted as servicers and collected installments due on the loans. Creation of transferable securities backed by pool receivables (known as PTCs) becomes common in late 1990 through most of the 90’s securitization of the Indian markets . From 2000 till today ABS& RMBS have fuelled the growth of the Indian securitization market. 16

17. Housing finance Shelter being one of the 3 basic needs , every human being aspires to own a home. Homes are not just houses-they are environments which project the aspirations of individual families to live a better life. In India ,up to the late 1970’s housing finance was a key constraint to ownership of a house. The concept of housing finance was pioneered by housing development finance corporation(HDFC)in Oct .1977. Housing finance is a business of financial intermediation wherein the money raised through various sources such as public deposits , institutional borrowings , refinance from NHB and their own capital , is lend to borrowers for purchasing house. These intermediaries lend money by accepting mortgage by deposit of title deeds of the residential property . 17

18. Types of housing loans in markets Home - equity loans : A form of finance to the customer by way of mortgage of existing property to the financier for taking a loans for some other purpose .Current market value basis of the property to provide loans Home –extension loans Home –improvement loans Home - purchase loans Land purchase loans Home loans to self-help groups (SHGs)/Micro finance institutions (MFIs) Loans to NRIs 18

19. Housing finance in India The responsibility to provide housing finance largely rested with the govt of India till the mid-eighties . The setting up of the National housing Bank (NHB) a fully owned subsidiary of the RBI in 1998, as the apex institution ,marked the beginning of the emergence of housing finance as a fund-based financial service in the country. It has grown in volume and depth with the entry of a number specialized financial institutions/companies in the public, private and joint sector, although it is at an early stage of development. 19

20. National housing bank The NHB was established i n 1988 under the NHB Act 1987, to operate as a principal agency to promote housing finance institutions (HFIs) at both local & regional level, and to provide financial and other support to them. The HFIs include institutions , whether incorporated or not, that primarily transact or have as one of their principal objects the transacting of the business of providing finance for housing, either directly or indirectly 20

21. Objective of NHB To promote housing financing in India To make housing credit more affordable To augment resources for the sector and channelise them for housing To promote adequate housing finance institutions network To encourage augmentation of supply of buildable land and also building materials for housing and to upgrade the housing stock in the country To encourage public agencies to emerge as facilitators and suppliers of serviced land , for housing 21

22. Residential Mortgage-Backed Securitization ( MBSs) NHB launched the pilot issues of MBSs in AUG 2000. The primary lenders create mortgages against loans provided by them to the purchasers of houses The mortgages held as assets generate cash flows represented by repayment of both principal as well as interest on the loans. The secondary mortgage market involves the conversion of mortgages into financial instruments and the sale of these instruments to prospective investors 22

23. Reverse- Mortgage Loan ( RML) There has been an increase in the residential-house price in the past few years , which have created considerable ‘home equity wealth’. For most senior citizens, the house is the largest component of their wealth. Reverse mortgage seeks to monetize the house as an asset and ,specifically, the owner’s equity in the house. It is a mortgage loan for senior citizens(over 60 years),who generally are not eligible for any form of mortgage loan .The loan is given on single or joint basis with the spouse , even if one of the spouses is below 60 years . Reverse mortgage is a loan that allows senior citizens to convert home equity into cash , without leaving their homes and without making monthly – mortgage payments. 23

24. The borrower can repay loan and accumulated interest and have mortgage released without resorting to sale of the property Maximum period of loan will be 15 years, the payment will not be made by the lender. Borrower will be responsible for paying property tax , housing- insurance premium Senior citizens owing a house but having inadequate income to meet their needs such as renovation /repair / hospitalisation,etc 24

25. Trends in housing finance Retail home loan market is well integrated in to the broader financial sector and the capital market Large market segment dependent on formal financial system for credit availability Technology to be packaged with financing A parallel intervention in terms of mortgage guarantee has been introduced for mitigating the credit risk associated with the segment Union budget support(fiscal) towards Housing and Housing finance sector 25

26. THANK YOU 26