1

Debt Securitization Presented by

Bibin P VRoll No: 2

M PhilSms cusat

2

IntroductionThe 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.

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”.

4

Securitization is also differs from factoring, on following points.Securitization FactoringAssociated with loansDeals with loansNature is medium or

long termCollection work is done

by originator or agencyPart 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

5

Modus of OperandiIn securitization following parties are required1. Originator : An entity making loans to borrowers or having

receivable from customers.2. Special purpose vehicle(SPV) : The entity which buys assets

from originator and packages them in to security for further sale.

3. Investment Bank : A body that is Responsible for conducting the documentation work

4. Credit rating agency : To provide value addition to security .5. Insurance company/under writer : To provide cover against

redemption risk to investor and /or under subscription6. Obligator : Company that gives debt to other company as a

result of borrowing (debtor)7. Prospective investor : The party to whom securities are sold

6

Stages in securitizationThere are 5 stages involved in the working of

securitization1. Identification stage/ process2. Transfer stage/ process3. Issue stage/ process4. Redemption stage / process5. Credit rating stage/ process

7

Process of Securitization

Issue proceeds

Originator

Asset Pool

SPV

Note issue

Credit enhancement

Class A NotesClass B Notes

Class C Notes

Investor

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 . The basic process can be split up into 3 function.

1 .The originator function2 .The pooling function3 .The securitization function

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 certificates2 .Preferred stock certificates3 .Asset based commercial paper

10

Pass through certificateCash 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.

11

Pay through certificateThis 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.

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.

13

Types of Securitization1. Mortgaged Backed securitization (MBS)2. Mortgage pass through securitization3. Auto loan securitization (ALS) 4. Credit card segment5. Trade receivable6. Non asset based securitization7. Asset based securitization (ABS)

14

The following assets are generally securitized by financial institutions1. Term loans to financially reputed companies2. Receivables from government departments

and companies3. Credit card receivables4. Hire purchase loans like vehicle loans5. Lease finance6. Mortgage loans etc..;

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

1. Additional source of fund2. Greater profitability3. Enhancement of capital adequacy ratio4. Spreading of credit risk5. Lower cost of funding6. Provision of multiple instrument7. Higher rate of return8. Prevention of idle capital9. Better than traditional instrument.

16

History of securitization in IndiaSecuritization 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.

17

Housing financeShelter 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 .

18

Types of housing loans in marketsHome - 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 loansHome –improvement loansHome - purchase loansLand purchase loansHome loans to self-help groups (SHGs)/Micro finance

institutions (MFIs)Loans to NRIs

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.

20

National housing bank The NHB was established in 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

21

Objective of NHBTo promote housing financing in IndiaTo make housing credit more affordableTo augment resources for the sector and channelise

them for housingTo promote adequate housing finance institutions

networkTo 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

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

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.

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

25

Trends in housing financeRetail 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 financingA 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

26

THANK YOU