RBI’s Draft Framework on Sale of Loan Exposures Could Deepen Loan Markets: Ind-Ra
The Reserve Bank of India’s (RBI) draft framework on the sale of loan exposures could lay the foundation of an efficient secondary market for loans, improve transparency and ensure proper credit risk pricing, says India Ratings and Research (Ind-Ra).
 
In a note, the ratings agency says, "Among other changes, the removal the minimum retention requirement, resale of purchased loans post a 12-month holding period and sell down of single standard assets are welcome moves to improve liquidity in the loan market. The proposed framework could facilitate long-term funding structures and encourage stronger bankruptcy remoteness in direct assignment transactions. The sale of stressed loans shall improve the speed of identification and resolutions of stress in the system."
 
Ind-Ra opines that an independent credit evaluation at the time of loan purchases, increased digitisation of collateral charges created while lending and standardisation of loan documentations could be focus areas that can further improve the lending landscape. 
 
The framework also encourages market participants to obtain an external credit rating for pools of standard asset during their purchase, says Ind-Ra adding that it believes this could further enhance transparency and improve price discovery.
 
According to the ratings agency, independent credit evaluations mentioned in the draft framework could prove critical. 
 
The draft framework mentions buyers may have the loan pools rated before purchasing so as to have a third-party view of their credit quality in addition to their own due diligence. Also, in case of transfer of stressed assets, it becomes critical to ensure that the valuation of the exposure and associated risk capital allocation are based on an assessment of the asset to meet its contractual debt obligations. 
 
Even restructured accounts have subsequently come under stress in some cases due to fundamental weaknesses in the business profile, heightened management risk or weak governance structures and unsustainable debt levels even after restructuring. 
 
Ind-Ra opines a third-party evaluation by a credit rating agency could provide an added layer of assessment and valuations for such exposures along with subsequent capital charge and provisioning norms could be linked to the outcome of such evaluation.
 
The ratings agency says it believes that the proposed framework could facilitate the development of a robust distressed asset ecosystem and speed-up the resolution of various stressed exposures. In particular, Ind-Ra says this is driven by the following two key characteristics of the proposed framework:
 
I. Early Identification and Resolution of Stressed Exposures: The draft framework has expanded the definition of stressed exposures to include both non-performing assets and special mention accounts. Also, the deregulation of the price discovery process will enable faster and more efficient pricing of exposures – especially when coupled with a wider range of eligible investors – as articulated earlier.
 
II. Enhanced Viability of Stressed Asset Takeover Structures: More importantly, the proposed framework will allow investors in stressed assets to classify the exposure as standard, although subject to any other exposure to the same entity on the investor’s books not being sub-standard on the date of the acquisition of the asset. This could significantly lower capital charge and provisioning requirements for the acquirer/investor of the stressed assets. Given that most stressed assets are restructured as well – often including a complete management overhaul, the rationalisation of the capital charge and provisions could make such assets more attractive to prospective acquirers.
 
According to Ind-Ra, the draft framework could provide boost to long-term funding structures. 
 
The Indian credit markets have for long been bereft of avenues for mobilising capital through long-term debt instruments. As a result, liability structures for corporate borrowers in sectors such as power generation and roads front load cash outflows during the project life. 
 
This, at least in part, reflects the non-availability of long-dated liabilities for the financial sector, the ratings agency says, adding, "Therefore, an ecosystem, which allows lenders to off-load long-dated exposures after a certain time period with reasonable foresightedness could enable borrowers to raise long-term debt instruments from the financial system in a cost-efficient manner."
 
The proposed framework in the current form requires the premium earned out of the sale of loan exposures to be excluded from the common equity tier 1 capital of the originator until the maturity of the exposure. 
 
For instance, a specialised infrastructure finance company funding a road asset (based on an annuity model) which chooses to sell-down its 15-year exposure two years after the commercial operational date could sell down the exposure at a premium, given that most of the project risk has been absorbed in the initial years itself. 
 
However, Ind-Ra says, even after selling the loan exposure – resulting in the complete transfer of risk to the transferee, the originator will not be able to utilise the premium earned from the sale of the asset to meet capital/equity requirements for funding other assets on the book. "This could weigh on the equity returns of the originator and therefore continue to discourage sale of long-term funding structures," the ratings agency added.
 
The ratings agency suggests that this premium could instead be gradually included in the tier 1 capital of the transferor in line with the amortisation of the exposure through its residual tenure. Also, each of these transactions should be undertaken at an arms-length with a transparent valuation methodology – reflective of the risk profile of the exposure. 
 
"In such cases, an independent assessment of the credit risk in such exposures must be carried out via external credit ratings wherever not already available – in line with the existent regulations for capital market debt instruments," Ind-Ra says.
 
The ratings agency says it has already articulated on the significance of commingling risk, as the originator generally acts as the servicer in Indian securitisation transactions. 
 
It says, "The proposed framework clearly articulates that the transferred interest should stand completely isolated from the seller i.e., put beyond the seller’s as well as its creditors' reach, even in the event of bankruptcy of the seller. Also, the framework requires the structure to ensure that there is no commingling of cash flows for an asset assignment or transferred by the transferor. In case this cannot be ensured, the transferor will be required to maintain capital, as if the asset was never transferred. This becomes especially meaningful in case of direct assignment structures – which are covered under this framework as a special case of sale of loan exposures." 
 
"However, further clarity would be required with regard to the scenarios which could lead to the regulator to perceive the presence of material commingling of cash flows – or whether in all such assignment transactions, a separate collection and payment account (for instance via NACH amendments on day one of the direct assignment transaction) will be required to be set up to avoid commingling risk. This, however, could prove to be challenging in case of asset classes where the collection continues to be predominantly in cash and could also dampen the return accretive characteristics of direct assignment structures for such asset classes," the ratings agency says.
 
Despite its merits, Ind-Ra says it believes that the proposed framework could discourage lenders from proactively providing against stressed assets. This is because, it says, the framework does not allow profits from the sale of stressed assets being used to reverse excess provisions made in the past, but they can only be utilised to meet the shortfall or loss on account of sale of other stressed assets. 
 
Also, the framework does not allow such profits to be included as a part of the Tier 1 capital of the lender, rather they are eligible only for inclusion as Tier II capital, which according to the ratings agency would encourage lenders to maintain their provision coverage ratio only to the extent of the regulatory minimum.
 
Ind-Ra says it believes that further clarity is required on two additional points in the framework:
 
i. The draft framework disallows the use of credit enhancement in direct assignment transactions. This could make it difficult for transferors to benefit from the partial credit guarantee scheme (announced in August 2019 and extended till 31 March 2021). Thus, transactions availing such partial credit guarantee under the scheme should be treated as an exception to this provision in the framework. 
 
ii. The draft framework also requires the transferor to ensure registration of the security interest for the exposure and subsequent transfer of the interest to the transferee along with any necessary documentation to such effect. This could in various cases require modification to the charge documents – which could provide be operationally onerous and could result in the incidence of various regulatory levies such as stamp duty.
 
 
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    mahesh.bhatt

    2 hours ago

    Golmaal returns Future Group is now Reliance Retails India Retails markets ready for reliable rape rip sessions 24*7? GoI MRTP Competition kills Rich so they can get richer policy Mahesh Bhatt

    Cooperative Banks Move to a Single Regulator – RBI, and Not a Day Too Soon!
    Failure of the Punjab and Maharashtra Cooperative (PMC) Bank triggered the Union government into taking action, which resulted in amending the Banking Regulation Act 1949, bringing the cooperative banks within the direct regulatory ambit of the Reserve Bank of India (RBI), putting a full stop to dual regulation of the cooperative banking sector. The ordinance does not include primary cooperative societies, the principal constituents of the state cooperative banks (StCB) and district cooperative central banks (DCCBs). Only those urban cooperative banks (UCBs) and multi state cooperative banks (MS-UCBs) and the rest of the rural cooperative credit structures which fall within the ambit of the National Bank for Agriculture & Rural Development (NABARD) supervision will be subject to such amended regulation.
     
    The preamble to the ordinance on the Banking Regulation Act 1949 Amendment makes it clear that the cooperative banks are not well managed; not properly regulated; and the affairs conducted are detrimental to the interests of the depositors. They also lack professionalism, good governance and sound banking practices. The objective of the amendment is to correct all of them. It is important to view this ordinance in the backdrop of the latest report on UCBs chaired by R Gandhi, when he was the deputy governor.
     
    The R Gandhi (2015) report says: “As UCBs form an important vehicle for financial inclusion and facilitate payment and settlement, it may be appropriate to support their growth and proliferation further in the background of the differentiated bank model. However, the question remains whether unrestrained growth can be allowed, keeping in view the restricted ability of UCBs to raise capital, lack of level playing field in regulation and supervision and absence of a resolution mechanism at par with commercial banks.” 
     
    UCBs now have high aspirations of competing with commercial banks and they expect RBI to provide relaxations in various regulatory restrictions. 
     
    In countries like Canada, the cooperative banks pose a formidable challenge to commercial banks and the former follow the capital regulations of Basel, conduct elections regularly, associations of cooperatives conduct induction courses and retreats for board members on governance. Without harming the principles of cooperatives, cooperative banks pose a stiff competition to the commercial banks.
     
    A study was conducted on behalf of Gandhi committee to ascertain the range of loans granted by scheduled and non-scheduled UCBs. The study shows diametrically opposite trends in the range of loans granted by the two types of cooperative banks. While the scheduled banks granted 59.6% of the total loans in the largest loan size ranging from the Rs1 crore to 5 crore range and the above Rs5 crore segment, the non-scheduled banks catered to the small loan segments up to Rs10 lakh in a substantial way as this segment constituted 59.5% of the loans granted by this component of UCBs. 
     
    The study further supports the premise that large MS-UCBs have aligned their business models and goals with those of commercial banks while availing of the concessions granted to the sector. Even this study could not bring out the frauds and maleficence of banks like PMC because the fraud has been traced to an even earlier period. 
     
    The report says; "Major considerations to be kept in mind are the aspirations of large UCBs, conflicts of interest, decline in cooperativeness, regulatory arbitrage, limitations on raising capital, limited resolution powers of RBI, the capital structure of UCBs and opportunities for growth that will accrue after such conversions.” 
     
    The UCBs are subject to annual inspections by the RBI. Yet it could not hold them accountable for the large scale frauds in UCBs.
     
    Insofar as StCBs and DCCBs are concerned, they are under the supervision of NABARD and the board appointments are supposed to be done as per the ‘fit and proper’ criteria fixed by RBI. Elections to the cooperative societies are conducted by the registrar of cooperative societies. Cooperative societies as per cooperative statute are member-driven, member-controlled and member-protected. If members who are large in numbers choose to abdicate their responsibilities or do not take enough interest in their activities, jeopardising the interests of other stakeholders and particularly the non-member depositors, the remedy rests only with the registrar.  
     
    In so far as banking is concerned, it is only RBI that regulates all, and all UCBs are subject to inspections by the RBI annually or whenever any aberration comes to their notice even during a year. Depositors’ constituency for long has been asking for a representation on the board and this can be done only by an amendment to the Cooperative Act. 
     
    The latest Report on Trend and Progress of Banking in India from RBI (December 2019) has stated that the importance of cooperative banks in India lies in their ‘grassroots’ integration into the life and ethos of the widest sections of society and their being effective instruments of financial inclusion. They account for about 10% of total assets of the scheduled commercial banks in 2017-18. The report also clarifies that the combined balance sheet of UCBs witnessed robust expansion underscoring the effectiveness of measures taken to strengthen their financials.
     
    Although 89.5% of the UCBs’ resource base happens to be deposits, their growth is muted and remains well-below the average of 13.9% achieved during 2007-08 to 2016-17. A capital adequacy; asset quality; management; earnings; liquidity; and systems and control (CAMELS) rating model is used to classify UCBs for regulatory and supervisory purposes. UCBs in the top-ranking categories— with ratings A and B—accounted for 78% of the sector. Only 4% to 5% are in D category for the past five years. And yet, the well-rated UCBs have defalcated with impunity for years. Will this ordinance rectify this malady? 
     
    UCBs are under the regulation of RBI and the registrar of cooperatives of the state government where they were situated. The regulatory conflicts were being resolved through the Task Force on Co-operative Urban Banks (TAFCUB) during the past 10 years to the satisfaction of both banks and the regulators at the altar of RBI.
     
    During the last two decades, the Marathe Committee, the Madhava Rao Committee, the Malegam Committee, the Gandhi Committee and RBI’ Vision of UCBs have gone on record on the measures to be taken for strengthening them in the face of a series of frauds and maleficence and even closure of several UCBs in Gujarat, Maharashtra, and Andhra Pradesh. 
     
    The government of India even brought out a comprehensive 97th Amendment to the Constitution of India in 2011 as a Model Cooperative Act to be enacted by the state governments. None except the government of Orissa showed interest. Had this Act been passed and implemented in letter and spirit there would have been no need for the ordinance now. 
     
    No state is keen on legal reforms to cooperatives. Cooperatives are the seedbed of politics and every prominent politician of the country, barring some Rajya Sabha or Legislative Council Members, everyone started his/her political career with a cooperative society as the base. One may well say that cooperatives without politics are lame and politics without cooperatives is blind. Viewed from this perspective, this ordinance makes a great difference. It sets at naught all political interferences beyond the primary cooperative societies.
    Several commercial banks, fully under the regulation of the RBI since 1949, have also been victims of frauds and maleficence. Several banks, both in the public and private sectors, like SBI, ICICI, PNB etc continue to hit the headlines on such a count. 
     
    The difference is that in all such cases, the interests of depositors have been protected. There were mergers or amalgamations but there were very few occasions wherein the affected banks were closed or deposits barred from withdrawal. It should be worthy to recall that even in case of commercial banks the deposits are secured to the same extent as UCBs/MSCBs, viz., Rs1 lakh earlier, recently enhanced to Rs5 lakh per depositor.  
     
    Several UCBs are already part of the national payments system. Financial inclusion demands customer centricity and smart technology applications, apart from financial learning at the institutional and client level. 
     
    Rural credit cooperatives have been in the throes of change: accounting practices,  (from single entry book keeping to double entry book keeping), technology change; regulatory changes and structural changes. They have come into the mainstream of financial inclusion agenda of the country. 
     
    When NABARD has a new guard, it would have allowed scope for the new management to carry out the required improvements to the short term cooperative credit structure instead of clubbing them with the UCBs. All the DCCBs have already been brought under the regulation of RBI notwithstanding the ordinance. Further, RBI invested in computerization of both the UCBs and rural cooperative societies and banks with the allocation of Rs4 lakh per UCB and a maintenance cost of Rs15,000 per month for a period of three years post-implementation. The government of India in their 2017-18 budget allocated Rs1900 crore towards computerization of the Primary Agricultural Credit Societies (PACS). This initiative should have been properly monitored to ensure transparency, better accounting practices and better customer service on par with commercial banks. To search for a solution of lost opportunity in the ordinance does not reflect a good governance practice.
     
    Though the organisation may introduce appropriate strategies, it is the culture of the organisation and governance that would require to be looked at in cooperatives. They can improve the bottom-lines through reduced costs; enhance customer experience; and strengthen security and compliance through state-of-the art encryption practices, audit trails and security certifications. Customers always need their data to be safe and secure. 
     
    When the problem rests with the regulator – lax inspections, lack of transparency in dealing with the banks and improving governance, the remedy is sought through a legislative amendment! This may perhaps provide a better lever to RBI to merge weak UCBs with strong ones and disable closures as a solution to protect the interests of depositors. Will the PMC depositors now get fully all their deposits and interest?  We should wait and see. 
     
    Development of cooperatives is no longer an option, but a compelling necessity to achieve financial inclusion. Implementation of the ordinance should only strengthen the cooperative system and not eliminate them under the guise of regulation. 
     
    (The author is an economist and risk management specialist.
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    COMMENTS

    kalemohan

    1 day ago

    Who and how is RBI going to pay the blocked money of investors generally sr.citizens who are the preys in the scam made by politicians and board members in UCBs?

    kalemohan

    1 day ago

    But what about the corrupt inspectors of reserve bank who are deputed for co-op bank inspection.Please study the case of Pen Co-op.bank.

    REPLY

    vinoda

    In Reply to kalemohan 1 day ago

    Kindly share more details please. Thanks

    manojkamrarti

    4 days ago

    Former Dy Governor Mr R. Gandhi nowhere deserve credit for this ordinance. He was silent spectator in the mess and his socalled report nowhere cites previous all time best report by K.Madhav Rao (1999) which laid emphasis on legislative changes in Banking regulation act 1949 to remove legal loopholes to stop every day scams of urban cooperative banks.

    R.Gandhi report (2015) nowhere explained deep rooted evil created due to Banking laws and amendment act 1984 (during our former PM Dr Manmohan singh as governor 1982-1985). The major amendments laid the foundation of all future scams in urban cooperative banks due to silence of then Governor Dr Manmohan Singh WHO IS LIABLE FOR ALL SCAMS SINCE 1984 .

    Even learned Raghuram Rajan have also failed to address this issue since his active involvement with RBI since 2008 to 2016 in different capacities. He also remained silent over the corrupt amendments of 1984 during Dr Manmohan singh as Governor.

    Now Govt of India have taken really effective step by making legislative changes which were recommended by K.Madhav Rao committee report (1999) not by R.Gandhi (2015).

    vinoda

    5 days ago

    Compliments Sir for comprehending this so very nicely and factually. I doubt if @RBI will be finally able to digest the forbidden fruit of UCB. I have been following up @RBI officers since last 2 years and they have perfected the art of passing the buck, if nobody then to the Courts. RBI is only an antidote for UCB and I doubt that it can cure the malaise of cooperative banking. I seek help and intervention to resolve my issue positively so much to avoid approaching the Hon' BOMBAY High Court. No offence meant to anybody.

    spicesich

    5 days ago

    IT IS A WELCOME MOVE. WHETHER RBI IS EQUIPPED WITH SUFFICIENT STAFF TO MANAGE THE SUPERVISION?. CONSIDERING THE UNEVEN GROWTH OF UCBs SOME STANDARDISATION IS REQUIRED IN GAUGING THE FINANCIAL PARAMETERS.
    IN MAHARASHTRA WE HAVE MORE THAN 600 UCBs.

    REPLY

    vinoda

    In Reply to spicesich 5 days ago

    I second your concerns:

    vydhya31

    6 days ago

    These president and Directors of UCBs are all the parking places for political party henchmen to take care of finacial needs of the ruling parties.

    Many of them get doctorates to show off and cheat people to lure depositors. .

    Even keeping Board of directors is a risky thing with this revolutionery change.

    bala.mathur

    6 days ago

    Keep the crooked Politicians and their greedy, crony capitalist friends at bay, and the risk quotient to any bank will come down exponentially.

    SEBI allows more option in pricing of preferential issue
    The Securities and Exchange Board of India (SEBI) on Thursday announced provision of an additional option to the pricing methodology for preferential issuance.
     
    The SEBI Board took the decision to provide temporary relief to companies amid the pandemic. 
     
    The said option in pricing should be available for the preferential issues made between July 1, 2020 or the date of notification of amendment to the regulations, whichever is later and December 31, 2020, the regulator said in a statement.
     
    "In case of frequently traded shares, the price of the equity shares to be allotted pursuant to the preferential issue shall be not less than higher the average of weekly high and low of the volume weighted average price of the related equity shares quoted on the recognised stock exchange during the 12 weeks preceding the relevant date," it said.
     
    Further, the specified securities allotted on a preferential basis using the new pricing formula shall be locked in for three years, it said.
     
    The existing pricing guideline for preferential issue, for frequently-traded shares, as prescribed under Regulation 164(1) of the ICDR Regulations shall also continue to remain in force. The issuer may choose any of the formula.
     
    The SEBI board also approved amendments to its takeover regulations under which acquisition through stock exchange settlement process through bulk or block deals should be permitted during the open offer, subject to conditions.
     
    In case of indirect acquisitions where public announcement of an open offer has been made, an amount equivalent to 100 per cent of the consideration payable under the open offer must be deposited two working days before the date of detailed public statement. The escrow account shall be in the form of cash or bank guarantee.
     
    In case of delays in making open offer attributable to the acts of omission or commission of the acquirer, a simple interest of 10 per cent should be paid to all the shareholders who had tendered the shares in the open offer, the board said.
     
    It has also approved amendments to the regulations for prohibition of insider-trading. The amendments included maintaining a structured digital database containing the nature of unpublished price sensitive information and the names of persons who have shared the information. It also talks about automation of the process of filing disclosures to stock exchanges, restriction on trading window not to be made applicable for transactions as prescribed by the SEBI.
     
    "Entities to file the non-compliances of the code of conduct with the stock exchanges and amounts, if any, collected for such non-compliances shall be credited to Investor Protection Education Fund, administered by the board under the SEBI Act," it said.
     
    Disclaimer: Information, facts or opinions expressed in this news article are presented as sourced from IANS and do not reflect views of Moneylife and hence Moneylife is not responsible or liable for the same. As a source and news provider, IANS is responsible for accuracy, completeness, suitability and validity of any information in this article.
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