SSRG International Journal of Economics Management Studies (SSRG - IJEMS) – Volume 5 Issue 6 – June 2018

Structured Finance and Securitization in India

Akhil M P
Research scholar, Department of commerce, University of Kerala, Thiruvananthapuram
Ambalathuvila veedu. Muthiyavila .Kattakada. Kerala. India

Abstract
Structured financing is customized debt new form of debt financing that meets the
financing which fulfills the needs of the issuer where need of issuer needs as per the situation demands
other standard financial products cannot meet. The where the standard financial products cannot meet.
popular as well as widely used structured financing Securitization involves packaging and structuring of a
alternative is securitization. The market for bundle of cash generating assets (receivables,
securitization products in India shows a greater mortgage loans, futures revenues) in to marketable
growth and tends to innovation. The securitized securities which can be easily sold able to investor.
products are blamed as one of the causes of the
International financial crisis in 2008 why because the II. STRUCTURED FINANCE
market for securitized products is unregulated. Its
impact on Indian economy was either limited or no Structured finance is an innovative financing
impact because of India’s restrictive market instrument which meets the issuer and investors needs
practices. After the economic crisis, Indian banking that standard financial products cannot meet.
regulators imposed a prudential regulation on Structured finance involves the pooling of assets and
assignment and securitization of standard and non- the subsequent sale to institutional investors of claims
performing assets in tone with global norms. Apart on the cash flows backed by these pools. An
from direct assignment by one financial institution to important characteristic of this type of finance is the
other, there are two major structures namely pass- delinking of the collateral assets pool from the credit
through structure and pay – through structure. In risk of the originator, usually through the use of a
India pass-through structure is extensively used, in special purpose vehicle. The most popular and widely
rare cases pay-through structure used within the used structure is securitization, securitization involves
pass- through structure. Pass- through structure is structuring and pooling of cash generating assets into
typically in the form of securitized paper called pass- marketable securities through creating a special
through certificates (PTCs). There is no purpose vehicle.The market for securitization
institutionalized set up for regulating securitization in products in India shows a greater growth and tends to
India. Reserve Bank of India (RBI) is now supporting innovation. The securitized products are blamed as
securitization market. The RBI has also significantly one of the causes of International financial crisis in
contributed to the market by constantly reviewing and 2008 why because market of securitized products is
strictly implementing the Priority Sector Lending unregulated. Its impact on Indian economy was either
(PSL) norms. Indian banks and NBFCs are showing limited or no impact because of India’s restrictive
an increased participation in the securitization market practices. After the economic crisis Indian
market. Major areas of securitized products are banking regulators imposed a prudential regulation on
housing loan, commercial vehicle loan, and assignment and securitization of standard and non-
microfinance. This paper concentrates on structured performing assets in tone with global norms. Apart
finance and securitization in the Indian scenario. from direct assignment by one financial institution to
other, there is two major structures namely pass –
Keywords – Structured Financing, Securitization, through structure and pay – through structure. In
Pass–through Structure, Special Purpose Vehicle India pass - through structure is extensively used, in
rare cases pay-through structure used with in the pass-
I. INTRODUCTION through structure. Pass- through structure is typically
in the form of securitized paper called pass-through
Structured financing is the process of certificates (PTCs). There is no institutionalized setup
generation of marketable securities through pooling for regulating securitization in India, the Reserve
of assets usually through a special purpose vehicle Bank of India (RBI) is supporting securitization
(SPV), which reduces the credit risk of originator and market. The RBI has also significantly contributed to
also imported cash generation from the assets. It the market by constantly reviewing and strictly
involves the conversion of cash flow from a portfolio implementing the Priority Sector Lending (PSL)
of assets in negotiable instruments or assignable debts norms. Indian banks and NBFCs are showing an
which are sold to investors Careful regulation is a increased participation in the securitization market.
prerequisite for structured finance to ensure Major areas of securitized products are housing loan,
consistency across the globe. Structured financing is a commercial vehicle loan and micro finance.

ISSN: 2393 – 9152 http://www.internationaljournalssrg.org Page 26

 SSRG International Journal of Economics Management Studies (SSRG - IJEMS) – Volume 5 Issue 6 – June 2018

III. SECURITIZATION - AN OVERVIEW securities are used to pay the transferor for the assets
acquired by the SPV.
The term securitization may be referred to as
creation of security in any financial transaction. In Securitization transactions deal with various
this respect, security means a financial claim which is asset classes that include, among others, mortgages,
generally exhibited in the form of a document and automobile loans, aircraft, equipment and municipal
whose essential feature is marketability. Therefore, leases, credit card receivables, hospital, retail, royalty
securitization, or in other words, asset or receivable and trade receivables, real estate, purchase contracts
securitization means creation of marketable or for natural resource assets such as oil, gas and timber,
tradable securities based on cash flows of an entity’s student and home equity loans, etc., and has emerged
assets or receivables. It is a device of structured as an efficient and cost-effective efficiency resource
financing (i.e. the financing that is tailored as per the raising mechanism with the potential to integrate the
risk‐return and maturity needs of the investors) by apparently illiquid underlying assets with the capital
way of which the originator pools together its interest markets.
in perceptible cash flows on assets receivables over
time, sell such interest to an entity known as Special From an originator’s perspective, the main
Purpose Vehicle (SPV), or Special Purpose Entity advantages of securitization include the ability to
(SPE) and thereby achieve the purpose of financing. raise finance at a relatively low cost, partial or total
removal of assets from its balance sheet,
IV. KEY CONCEPTS diversification of funding sources, access to the
capital markets for unrated entities and access to
Securitization is a process through which liquidity. Thus it serves as an effective balance sheet
homogenous illiquid financial assets are pooled and management tool for originators, through which
repackaged into marketable securities. Generally, the hidden values could be identified and unlocked, asset-
assets are held in a bankruptcy remote vehicle termed liability mismatch, currency, commodity and interest
as a Special Purpose Vehicle (SPV) or are otherwise rate risks could be hedged and an enhanced return on
secured in a manner that gives the investors a first capital and equity could be managed through the
ranking right to those assets. continuous churning of portfolio. Additionally, banks
that raise funds through securitization are able to
The intent of securitization typically is to reduce their regulatory, and sometimes economic,
ensure that repayment of the securities issued to capital requirements.
investors is dependent upon the securitized assets and
therefore will not be affected by the insolvency of any From an investor’s perspective,
other party including the entity securitizing the assets. securitization offers an alternative investment
Most securitization issues are rated by an accredited medium which, for a given rating level, usually offers
credit rating agency. The rating applies to the a safer investment avenue and higher risk-adjusted
securities that are issued to investors and indicates the returns compared to equivalent rated bank or
likelihood of payment of interest and payment of corporate debt.
principal in full and on time.
Depending on the originator’s financing
Securitization involves isolation of specific requirements, and the characteristics of the
risks, evaluation of the same, allocating the risks to underlying assets, funding can be arranged through
various participants in the transaction (based on who term securities, balance sheet warehouse facilities or
is best equipped to mitigate the respective risks), asset backed commercial paper.
mitigating the risks through appropriate credit
enhancement structures and pricing the residual risk V. PARTICIPANTS
borne by the originator. It entails evaluating the
transaction from the legal, regulatory, taxation and The following parties are involved in a typical
accounting implications from the perspective of securitization transaction:
various participants.
A. Originator
In a securitization transaction, the assets to This is the entity which requires the
be securitized are transferred by the asset owner (the financing and hence drives the deal. Typically the
originator or transferor) to a special purpose vehicle Originator owns the assets or cashflows around which
(SPV) as the asset purchaser. The SPV may be a the transaction is structured.
corporation, trust or other independent legal entity.
The SPV issues securities to public or private B. SPV (Special Purpose Vehicle)
investors, which are backed (i.e. secured) by the An SPV is typically used in a structured
income flows generated by the assets securitized and transaction for ensuring bankruptcy remoteness from
sometimes also by the underlying assets themselves. the Originator. The SPV is the issuer of securities.
The net proceeds received from the issuance of the Typically the ownership of the cashflows or assets

ISSN: 2393 – 9152 http://www.internationaljournalssrg.org Page 27

 SSRG International Journal of Economics Management Studies (SSRG - IJEMS) – Volume 5 Issue 6 – June 2018

around which the transaction is structured is The Structurer also brings together the originator,
transferred from the Originator to the SPV at the time credit protection provider, the investors and other
of execution of the transaction. The SPV is typically parties to a deal. In some cases the Investor also acts
an entity with narrowly defined purposes and as the Structurer.
activities and usually has independent
trustees/directors. The SPV needs to be capital VI. REASONS FOR SECURITISATION
efficient (i.e. nominally capitalized) and tax efficient
(i.e. multiple taxation should be avoided). A. Meeting regulatory requirements - Banks must
have mandatory minimum exposure levels in
C. Investors identified priority sectors.
The investors are the providers of funds
and could be individuals or institutional investors like B. Alternate and rated instruments - Securitization
banks, financial institutions, mutual funds, provident is a plain vanilla option for funding outside of the
funds, pension funds, insurance companies, etc. balance sheet. When done through PTCs that are
rated, there is some level of comfort with the
D. Obligor(s) instrument due to third party validation.
The Obligor is the Originators debtor. The
amount outstanding from the Obligor is the asset that C. Cost of financing - As the originator has already
is transferred to the SPV. The credit standing of the invested time and effort on risk analysis at the
Obligor(s) is of paramount importance in a time of lending, securitization allows the
securitization transaction. purchaser to take comfort from this analysis,
thereby reducing the total cost of financing.
E. Guarantor / Credit Protection Provider /
Insurer D. Frees up capital for lending - Originators can
These are entities that provide protection securitize assets from their balance sheets,
to the Investor for the investment made in the thereby increasing the pool of available capital
securities and the returns thereon against identified that can be used for investment. In addition, since
risks. Typically, on the happening of pre-identified securitization normally requires less capital to
events, affecting the underlying assets or cashflows, support it than traditional on-balance sheet
or the payment ability of the Obligors, these entities funding, it enhances return on capital.
pay moneys that are passed on to the Investor.
E. Reduces credit exposure to a specific type of
F. Rating Agency asset - If a particular class of lending forms a
Since structured finance deals are generally larger proportion of the balance sheet as a whole,
complex with intricate payment structures and legal then securitization can remove some of the assets
mechanisms, rating of the transaction by an (of a particular class) from the balance sheet.
independent qualified rating agency plays an
important role in attracting Investors. F. Makes non-tradable assets tradable - This, along
with the promotion of a regular market for
G. Administrator or Servicer securitized paper, enhances liquidity in a variety
The Servicer performs the functions of of previously illiquid financial assets.
collecting the cashflows, maintaining the assets,
keeping records and general monitoring of the VII. SECURITIZATION IN INDIA
Obligors. In many cases, especially in the Indian
context, the Originator also performs the role of the The major players in the asset securitization
Servicer. market in India are Commercials Banks (FIs), Public
Sector undertakings (PSUs), Corporate Entities,
H. Agent and Trustee Governmental Agencies, Mutual Funds, NBFCs, etc.
The Trustee is the manager of the SPV and Securitization in India has been in existence since
plays a key role in the transaction. The trustee early 1990s. The Securitization and Reconstruction
generally administers the transaction, manages the of Financial Assets and Enforcement of Security
inflow and outflow of moneys, and does all acts and Interest (SARFAESI) Act was enacted in 2002. The
deeds for protecting the rights of the Investors, objective behind its enactment was the sale or
including initiating legal action against various securitization of Non‐Performing Loans (NPLs) by
participants in case of any breach of terms and banks and financial institutions in favor of Assets
triggering payment from various credit enhancement Reconstruction Companies (ARCs) registered with
structures etc. the Reserve Bank of India (RBI) under SARFAESI.
These guidelines are expected to have a far reaching
I. Structurer impact on several issues and facilitate the
Normally, an investment banker acts as the development of a vibrant and robust securitization
Structurer and designs and executes the transaction.

ISSN: 2393 – 9152 http://www.internationaljournalssrg.org Page 28

 SSRG International Journal of Economics Management Studies (SSRG - IJEMS) – Volume 5 Issue 6 – June 2018

market in India. Funds of a firm get blocked in were modest with UK and France being the dominant
various types of assets such as loans, advances, markets. Bulk of the volumes was accounted for by
receivables etc. To meet its growing funds traditional MBS and ABS (mainly CDOs)
requirements, a firm has to raise additional funds transactions. However, at present, Europe provides a
from the market while the existing assets continue to thriving securitization market. Between 1997 and
remain on its books. This adversely affects the capital 2003, the market grew at an average rate of 23% per
adequacy and debt equity ratio of the firm and may annum from US$ 66 billion (in 1997) to US$ 285
also raise its cost of capital. An alternate available is billion (in 2004). In fact, the growth rate for the
to use the existing illiquid assets for raising funds by European market between 2001 and 2004 being 39%
converting them into negotiable instrument. much exceeds the growth rate of the US markets
during the same period. In 2005, the year to date
The market for securitization products in volumes of securitized paper amount to US$ 71.5
India shown a greater growth and tends to innovation. billion as against US$ 72.6 billion in the
The securitized products were blamed as one of the corresponding period in 2004. MBS (60%) and ABS
cause in connection with financial crisis of 2008 why including CDO (28%) continue to dominate the
because of which is unregulated. Impact on Indian issuances in Europe. In terms of countries of origin,
economy was limited or no impact because of India’s UK leads the pack with a market share of around
restrictive market practice. After the economic crisis 45%, followed by Italy with a share of around 14%,
Indian banking regulators imposed a prudential while Spain and Netherlands have around 8% share
regulation on assignment and securitization of each. Other significant countries of origin are
standard and non-performing assets tone with global Germany and France. In terms of currencies of
norms. A part from direct assignment by one financial issuance, around 64% of the issuances are Euro
institution to other there are two major structures denominated, around 21% are denominated in GBP
namely pass –through structure and pay – through while the remaining are denominated in US$.
structure. In India pass - through structure is
extensively used, rarely pay-through structure used IX. INDIAN EXPERIENCE
with in the pass- through structure. Pass- through
structure is typically in the form of securitized paper The Indian securitization market has seen the
called pass-through certificates (PTCs). emergence of diverse asset classes though volumes
are driven by traditional asset classes such as auto
VIII. THE SECURITIZATION MARKET - loan receivables and mortgage backed receivables.
INTERNATIONAL EXPERIENCE The fiscal year 2003-04 witnessed around 82% of the
market volumes being contributed by auto loan
The securitization market in the US has a receivables and mortgage backed receivables.
fairly long vintage, with the Federal Government Emerging asset classes include toll receivables,
supporting the MBS market through institutions like telecom receivables, electricity receivables, fee
the Freddie Mac, Fannie Mae and Ginnae Mae. Over receivables, deferred tax receivables, etc. The market
the last quarter of a century, securitization has has already witnessed the entry of international
become one of the largest sources of debt financing in players such as IFC in the role of credit protection
the US representing around 30% of the total providers. The government is also expected to emerge
outstanding US bond market and is enjoying gradually as a key market participant with increasing
extraordinary growth. Between 1996 and 2004, the realization of the potency of securitization as a means
market grew at an average rate of 19% per annum to raise low cost resources. However, the markets
from US$ 152 billion (in 1996) to US$ 624 billion (in remain shallow as issuances continue to be restricted
2004). In fact, the growth rate has been showing an to a handful of high quality originators and a majority
uptrend in the recent past with the CAGR between of the transactions are bilateral. Moreover, the
2001 and 2004 being 28%. Despite being the most investor base continues to remain small, especially for
matured market, traditional asset classes such as the the long-tenured transactions.
MBS (72%) and ABS including CDOs (14%) have
driven the volumes in the US, the balance being The first securitization transaction in the
contributed by FFS transactions (credit cards, student Indian market happened in 1991 where Citibank N.A
fees, etc.). In 2005, the market issuances till date originated an auto loan receivables securitization
gross up to US$ 176 billion (as compared to US$ 167 deal. In the next six years, the market witnessed 12
billion achieved during the same period in 2004). The more ABS issuances, all auto loan receivable
share of the traditional asset classes like MBS stands securitization transactions. In 1997, the markets
at 70% with ABS including CDOs contributing to suffered a major setback as the auto loan market
around 19% of the issuance volumes. crashed on account of a number of defaults from
Non-Banking Finance Companies (NBFCs). The
European securitization market began in the market for securitized instruments started picking up
mid-1980s with UK leading the way with an MBS again in fiscal year 2000-01. The year witnessed a
issue in 1986. For a long period, issuance volumes total volume of Rs. 29.00 billion (~US$ 640 million)

ISSN: 2393 – 9152 http://www.internationaljournalssrg.org Page 29

 SSRG International Journal of Economics Management Studies (SSRG - IJEMS) – Volume 5 Issue 6 – June 2018

from 19 issuances by eight originators. The fiscal markets (May 2003), carving out a prepayment
year 2001-02 witnessed 25 issuances from 11 tranche to insulate other senior tranches from
originators totaling Rs. 36.82 billion (~US$ 820 prepayment risk (Oct 2003) and issuance of a multi-
million). This was followed by 73 issuances from 18 obligor CDO (Jan 2004) are among the many firsts to
originators amounting to Rs. 77.66 billion (~US$ the bank’s credit in India. Besides, the bank has also
1,725 million) in fiscal year 2002-03, 87 issuances worked on other innovations such as offering floating
from 22 originators amounting to Rs. 137.62 billion yield structures linked to transparent benchmarks,
(~US$ 3,050 million) in fiscal year 2003-04, while in revolving structures, etc. and ramped up its market
fiscal year 2004-05, there have been 123 issuances in issuances further.
all from 27 originators, grossing up to Rs. 313.08
billion (~US$ 7,116 million). Thus between fiscal Efforts such as these helped the bank achieve
years 2001-02 and 2004-05, the securitization market a volume of Rs. 8.26 billion in fiscal year 2002-03
in India has registered a growth rate of over 100% per and ramp it up more than tenfold to Rs. 129.57 billion
annum. Despite this scorching pace of growth, the in fiscal year 2004-05.
market size, in comparison with the developed
international markets (US$ 626 billion in the US and With a legal framework specific to
US$ 282 billion in Europe in 2004), might not seem securitization being put in place, rationalization of
to be noteworthy. However, the same assumes stamp duty considerations for securitization (which
significance given the fact that the Indian markets earlier ranged anywhere between 10% and 28% in
have started growing only in the last couple of years. various states) being effected in six of the 28 states, a
detailed accounting framework for securitization laid
On the origination side, the participants are down by the Institute of Chartered Accountants of
primarily banks, Non-Banking Finance Companies India (ICAI) and Reserve Bank of India (the central
(NBFCs), Housing Finance Institutions (HFIs) and to bank in the country) taking steps to encourage
a very limited extent, corporates. On the investment securitization in India by offering capital relief on
side, Mutual Funds are major participants in the mortgage backed assets to banks and financial
securitization 1 Source: Global Structured Finance institutions investing in securitized papers, it could
Research, J.P. Morgan Securities Inc., New York now be said that the Indian market has overcome the
weekly publications between September 2004 and initial challenges and is gradually coming of age.
April 2005 market, apart from the aforesaid players, With time, it is expected that the market participants
especially in the shorter-terms. Besides, insurance will increasingly be forced to compete and be judged
companies and corporates, to a limited extent have through their internal strength and capital base rather
started investing in these papers. than by the external support from the central bank or
the government while market penetration of financial
ICICI Bank, the second largest commercial institutions in the area of loan origination in future
bank in India has been an active player in the will be determined more by the volume of loans
domestic securitization market since 1997. Presently originated during a period than by the amount of
ranked the largest player in the market on the loans owned at a particular point of time. As the
originating side with an overall share of around 42% structure of the financial system evolves over time, it
(for fiscal year 2004-05), the bank has contributed to is expected that securitization will play a much more
a considerable extent in expanding the market important role in the future. However, the
horizons primarily by enhancing origination volumes securitization market in India still continues to lack
and attracting different investor categories as well the requisite depth, which manifests in the form of
through innovative structuring and pioneering securitized papers attracting a premium over
marketing efforts within a short span of time. corporate bonds with comparable risk profiles. It is
hoped that with time, as pass through certificates
Issuances of largest single transactions in issued in the process of securitization are recognized
terms of size domestically in almost all underlying as securities like the regular debt instruments such as
asset classes stand to the bank’s credit [auto pool bonds, debentures, etc., the market would gather
receivables Rs. 16.32 billion (US$ 370.91 million); further momentum and the illiquidity premium
mortgage backed receivables Rs. 11.94 billion (US$ prevailing now would eventually disappear.
271.36 million); personal consumer loan backed
receivables Rs. 6.56 billion (US$ 149.09 million); X. CONCLUSION
multi-obligor CDO Rs. 0.94 billion (US$ 21.36
million)]. Securitization in an emerging market like
India has huge growth potential. The introduction of
Introduction of temporal trenching (Nov SecuritizationActis a step towards the development
2001) non-funded risk participation (Sep 2002), book and regulation of an efficient securitization and
building (Dec 2002) and market making (Apr 2003) structured finance market. Further, India’s market
of securitized papers, par issuances as against the offers great potential to the foreign players to explore
practice of premium issuances prevalent in the and create niche for themselves.India has been trying

ISSN: 2393 – 9152 http://www.internationaljournalssrg.org Page 30

 SSRG International Journal of Economics Management Studies (SSRG - IJEMS) – Volume 5 Issue 6 – June 2018

hard to catch up with the latest economic

developments. Securitization and structured finance
has only been a recent phenomenon, with the
regulatory provisions only recently being introduced.
There is however increasing acceptance of this
mechanism in Indian market and it has a great future
in the growing Indian economy.

REFERENCE
[1] Agboyibor, P. K., Tallot, P. and P. (2008). “France: A New
Legal Framework For Securitization”, Structured Finance
Department, Orrick, Paris
[2] Kanwal, A. (2007). “Asset Securitisation in India: The
Ignitive Tool for the Indian Capital Markets”, International
Journal of Business Research
[3] Securitization: The Financial Instrument of the Future, Wiley
[4] Khan, M. Y. (2007). Financial Services, The McGraw-Hill
Companies.
[5] www.rbi.org.in
[6] www.books.google.co.in
[7] www.securitisation.it
[8] www.crisil.com
[9] www.wikipedia.com
[10] www.investopedia.com

ISSN: 2393 – 9152 http://www.internationaljournalssrg.org Page 31