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RBI proposes new rules for minimum risk retention and minimum holding period for securitizations transactions in India

 

Home > Securitization > News on Securitization > Securitization in India > RBI proposes new rules for minimum risk retention and minimum holding period for securitizations transactions in India

 

April, 2010: 

Reserve Bank of India has proposed new rules for securitization as discussed in its second quarter monetary review policy on minimum risk retention (MRR) to align the interests of the issuers with that of the investors and securitization of the seasoned assets, minimum holding period (MHP) to ensure that the assets bundled and securitized are not toxic/ junk and ensure more effective screening of the loans. These rules are in line with the guidelines adopted by the regulators by the US and EU counterparts. See our news on the risk retention regulations in US here and in UK here that are significant to the development of securitization markets.

In case of Minimum Holding Period

It has been observed in most securitization cases in US, post sub-prime crisis, that, when credit risk is to be transferred to investors from the originator via SPV without originator’s retained or continued interest in the transaction, loan underlying standards become lax, there is no efficient screening of the assets resulting in greater credit risk being transpose. The originators have pooled in the assets, also called toxic/ junk as the risk was being shrug off and borne by investors as large, so the originator did not stand incentivised to screen the quality of the underlying assets efficiently. Thus, as is being thought by the US and EU regulators there should be some ‘skin in the game’ retained by the originators to align the interests of the originators with that of the investors.  

RBI has proposed that loans with repayments due for upto 24 months are to be held for at least nine months by the bank before securitizing. Whereas, loans with one time payment are to be held for 12 months before being considered eligible for securitization. Loans with repayments with maturity for more than 24 months are to be held in the bankers’ books for a period of 12 months before securitizing and loans having a maturity period of more than 24 months with bullet repayment shall not be eligible for securitization at all. 

In case of Minimum Risk Retention:

After much of debate for several months whether the originator should retain, a vertical piece, horizontal piece or retention should be L-shaped, RBI proposes the following:

 

Securitisation involves no Tranching, no Credit Enhancement

Involves Tranching

Involves Credit Enhancement

Tranching and credit enhancement

Loans with original maturity of 24 months or less

5% of the book value of the loan securitised

5% of the equity tranche issued by SPV

Exposure to first loss position.  5% of the book value of the loan securitised

5% Equity tranche OR Exposure to first loss position. 

Loans with original maturity of more 24 months

10% of the book value of the loan securitised

5% of the equity tranche and balance pari passu investment in all other tranches issued by SPV

Exposure to first loss position.  5% of the book value of the loan securitized and balance pari passu investment in all other tranches issued by SPV

5% Equity tranche OR Exposure to first loss position and balance pari passu investment in all other tranches issued by SPV

As per the circular issued by RBI, the total risk exposure of the originator to the SPV/ securitised instruments cannot be more than 20% for any securitization transaction undertaken. The guideline also prohibits originators to undertake securitization activities or assume securitization exposure in: 

  • Re-securitisation of asset
  • Synthetic securitization
  • Securitisation with revolving structures

RBI has sought feedback on the draft guidelines by May 10.  

Vinod Kothari Comments: As regards the proposals to insist on retention of risk and minimum holding period for loans to be securitised, the RBI is simply falling in line with the global practices, as both Europe and USA have already implemented same requirements.

However, there is a significant aspect of the RBI guidelines - extension of the securitization guidelines to bilateral deals too. This is very serious. The market in India had taken a direct assignment route, because the Feb 2006 guidelines were strangely not made applicable to direct assignments. There is no reason to carve out that exception - and the RBI has taken good 4 years to realise that. This would surely bring sophistication in the market.
On the whole, there is nothing objectionable in the proposed guidelines 

To see the full text of the guidelines click here  

[Reported by: Nidhi Bothra]

 
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