1.

1 Conceptual Framework

Securitization

It is a process through which the future income or receivables (the money that is to become
due in future) of an organization, are transformed and sold as debt instruments (such as
bonds with a fixed rate of return). In respect of banks, a part of their loan portfolio can be
packed together and off-loaded in the form the debt instruments (called pass-through
certificate) to the prospective investors with the provision that the inflow of cash in the form
of recoveries shall be distributed among the investors. This allows the securitizing
organization/bank to get funds upfront, which can be put to more productive use in the
business.
Securitization is the process of conversion of existing assets or future cash flows into
marketable securities. In other words, securitisation deals with the conversion of assets
which are not marketable into marketable ones. For the purpose of distinction, the
conversion of existing assets into marketable securities is known as asset-backed
securitisation and the conversion of future cash flows into marketable securities is known as
future-flows securitization. Some of the assets that can be securitised are loans like car
loans, housing loans, et cetera and future cash flows like ticket sales, credit card payments,
car rentals or any other form of future receivables.
Suppose Mr. X wants to open a multiplex and is in need of funds for the same. To raise
funds, Mr. X can sell his future cash flows (cash flows arising from sale of movie tickets and
food items in the future) in the form of securities to raise money.
This will benefit investors as they will have a claim over the future cash flows generated
from the multiplex. Mr. X will also benefit as loan obligations will be met from cash flows
generated from the multiplex itself.

Mortgage Backed Securities (MBS)

The securitization of assets historically began with, and in sheer volume remains dominated
by residential mortgages. The receivables are generally secured by way of mortgage over the
property being financed, thereby enhancing the comfort for investors. This is because
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mortgaged property does not normally suffer erosion in its value like other physical assets
through depreciation. Rather, it is more likely that real estate appreciates in value over time.
Further,
• The receivables are medium to long-term, thus catering to the needs of different
categories of investors;
• The receivables consist of a large number of individual homogenous loans that have
been underwritten using standardized procedures. It is hence suitable for securitization.
• In the US where it originated, these mortgages were also secured by guarantees from
the Government;
• The receivables also satisfy investor preference for diversification of risk, as the
geographical spread and diversity of receivable profile is very large. In the Indian context,
the funds requirement in the housing sector is immense, estimated at Rs. 150,000 crore
during the current five-year plan. Of this, it is envisaged that about Rs 52,000 crore would
be financed by the formal sector. It is unlikely that this gap can be filled out of budgetary
allocation or regular bank credit. Securitisation allows this gap to be bridged by directly
accessing the capital markets without intermediation. Securitisation tends to lower the cost
at which the housing sector accesses funds. It also facilitates a sufficiently deep long term
debt market. It is estimated that about Rs 2,500 crore would be mobilized through the
securitisation route during the current five-year plan.
Asset Backed Securities (ABS) – Existing assets
(a) Auto loans:
Though securitization was made popular by housing finance companies, it has found wide
application in other areas of retail financing, particularly financing of cars and commercial
vehicles. In India, the auto sector has been thrown open to international participation, greatly
expanding the scope of the market. Auto loans (including installment and hire purchase
finance) broadly fulfill the features necessary in securitisation. The security in this case is
also considered good, because of title over a utility asset. The development of a second hand
market for cars in India has also meant that foreclosure is an effective tool in the hands of
auto loan financiers in delinquent cases. Originators are NBFCs and auto finance divisions
of commercial banks.
(b) Investments:
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Investments in long dated securities as also the periodical interest instruments on these
securities can also be pooled and securitized. This is considered relevant particularly for
Indian situation wherein the FIs are carrying huge portfolios in Government securities and
other debt instruments, which are creating huge asset-liability mismatches for the
institutions. Government securities issued domestically in Indian Rupee can be bundled and
used to back foreign currency denominated bonds issues. It would more be of the nature of
derivative. The subordinated Government securities are intended to absorb depreciation in
the value of the rupee thereby protecting to certain extent the senior securities that the
Government securities back. The senior securities are directed at the international capital
markets and are structured using offshore SPVs by countries like Mexico. Similarly, under
the STRIPs mechanism, the interest coupons on the Government dated securities are
separated and traded in the secondary markets. Such interest instruments can also be
bundled and securitized in the normal asset securitization method.
(c) Others:
Financiers of consumer durable, Corporates whose deferred trade receivables are not funded
by working capital finance, etc are Originators of other asset classes amenable to
securitisation. Corporate loans, in a homogeneous pool of assets, are also subject to
securitization there is virtually no known instance so far in the United States or in other
countries of an ABS transaction having failed. This is despite the fact that the markets for
ABS are exceptionally large. Industry experts attribute this to three main factors. ABS
transactions are always planned, prepared and carried out with great care. Second reason is
the intrinsic value of the paper and in particular the high level of transparency on the quality
of the underlying assets. Third, ABS transactions are sponsored generally by large and well
known institutions which can't afford to jeopardize their reputation with investors, the
majority of which are institutional investors.

Process of the securitization

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 Originator
Asset
Pool

SPV Credit

enhancement

Issue proceeds

Class "A"
Class "C"
Notes
Notes
Class "B"
Note
Notes
issue
Class "C"
Notes

Parties Involved in Securitization

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 Originator / Seller
– Originates assets either directly into the SPV or alternatively sells assets from existing
balance sheet to the SPV.
Servicer / Administrator / Mortgage Manager
– Post securitization, the seller/originator is typically appointed to act on behalf of the SPV
as the servicer of the asset portfolio.
– 3rd party servicers exist in the market to act as servicer where the originator/seller may not
have the expertise (e.g. staff and information systems) to service the assets.
– In some instances a back-up servicer is appointed.
– Some servicers may be formally evaluated for their servicing strength by the rating
agencies.

Manager

– Appointed to the SPV to make certain decisions regarding the operation of the
securitization program, e.g. the issue of debt securities, directing the trustee on
distribution payments, exercising call options etc.
– Often the Manager is a wholly owned subsidiary of the seller/originator.

Trustee

– For SPV trusts the Trustee is appointed to act on behalf of secured creditors. Grants a
charge of the assets of the SPV in favour of the Security Trustee.
– The Trustee owns the assets (either beneficial ownership or legal ownership) and debt
securities are issued in its name, e.g. Perpetual Trustees as trustee for XYZ 2005-1
Trust.
– The Trustee is directed by the Manager to make payments to investors and undertake
certain actions.

Security Trustee
– Takes benefit of a charge of the assets of the SPV.

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– Under certain circumstances (e.g. event of default) the Security Trustee may enforce the
charge, call meetings of secured creditors, and appoint a receiver/liquidator to realize the
assets of the SPV to repay secured creditors.
– The Security Trustee also acts in a fiduciary capacity and must act in the interests of
secured creditors

Rating Agencies

– Perform a credit assessment in respect of the assets to be securitized and the terms of the
debt securities to be issued.
– Assign a credit rating to the debt securities which provides a benchmark of credit
worthiness to potential investors / financiers involved in the securitization transaction.
– Following the closing date, undertake surveillance of the transaction and release
performance reporting.

Support Facility Providers

– Credit Support, e.g. monoline insurers.

– Liquidity Support, e.g. highly rated financial institutions.
– Derivative Providers (interest rate swaps, cross currency swaps, liability swaps), e.g.
highly rated financial institutions.
– Other, e.g. Redraw Facilities, Standby Guarantees, GIC etc
Arranger & Dealers
– Arranger: structures the profile of the debt securities to best meet investor demand, e.g.
tranche sizes, weighted average life, call dates etc. Also performs a co-ordination
function.
– Dealers/Underwriters: Lead Manager, Joint Lead Managers, Co Managers – distribute
the debt securities to investors and may also underwrite the placement. Also provide
secondary market support for the debt securities post closing.

Lawyers

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– Act for various parties involved in the transaction.
–The seller/originator’s counsel will generally issue a transaction opinion (i.e. covering
enforceability, true sale and insolvency) and a tax opinion (i.e. covering tax neutrality,
withholding tax etc).

Benefits of Securitizations
For the Seller.
The principal benefits for a Seller in securitizing its assets include:-
• Diversification of funding sources
A securitisation may provide the Seller with access to a new class of investors and
therefore, source of funds.
• Improved financial ratios
As the transaction is generally an asset sale, the Seller's asset base is reduced which may
improve return on assets (ROA) and return on equity (ROE) without adversely impacting
revenue streams. This would also result in an improved EVA position.
• Flexible finance
The Seller can vary the level of funding required dependent on its financing needs and the
volume of assets available for sale to the SPV.
• Invisible to customers
As the sale of assets is typically by way of equitable assignment, there is no notification
required to customers and the Seller maintains the direct relationship with those customers.
• Limitation of risk
As the transaction is an asset sale, recourse is generally limited to the level of credit
support provided by the Seller.

For the Investor.

The main benefits flowing for an Investor in acquiring debt securities issued under an
asset securitization programmed include:-
• High credit quality

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 Asset securitisation typically results in the securities issued carrying the highest possible
credit ratings afforded by the internationally recognized rating agencies.
• A diversification of investment opportunities Asset securitisation allows investors to
indirectly invest in a variety of asset classes.

NPA (non performing asset)

Action for enforcement of security interest can be initiated only if the secured asset is
classified as Non Performing Asset. Non Performing Asset means an asset or account of
borrower, which has been classified by a bank or financial institution as sub-standard,
doubtful or loss asset, in accordance with the directions or guidelines relating to asset
classification issued by RBI.
An amount due under any credit facility is treated as "past due" when it has not been paid
within 30 days from the due date. Due to the improvement in the payment and settlement
systems, recovery climate, up gradation of technology in the banking system, etc., it was
decided to dispense with 'past due' concept, with effect from March 31, 2001. Accordingly,
as from that date, a Non performing asset (NPA) shell be an advance where

i. Interest and /or installment of principal remain overdue for a period of more than 180 days
in respect of a Term Loan.
ii. The account remains 'out of order' for a period of more than 180 days, in respect of an
overdraft/ cash Credit(OD/CC).
iii. The bill remains overdue for a period of more than 180 days in the case of bills
purchased and discounted.
iv. Interest and/ or installment of principal remains overdue for two harvest seasons but for a
period not exceeding two half years in the case of an advance granted for agricultural
purpose.
v. Any amount to be received remains overdue for a period of more than 180 days in respect
of other accounts. With a view to moving towards international best practices and to ensure
greater transparency, it has been decided to adopt the '90 days overdue' norm for

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 identification of NPAs, form the year ending March 31, 2004. Accordingly, with effect
form March 31, 2004, a non-performing asset (NPA) shell be a loan or an advance where;
i. Interest and /or installment of principal remain overdue for a period of more than 90 days
in respect of a Term Loan.
ii. The account remains 'out of order' for a period of more than 90 days, inrespect of an
overdraft/ cash Credit (OD/CC).
iii. The bill remains overdue for a period of more than 90 days in the case of bills purchased
and discounted.
iv. Interest and/ or installment of principal remains overdue for two harvest seasons but for a
period not exceeding two half years in the case of an advance granted for agricultural
purpose.
v. Any amount to be received remains overdue for a period of more than 90 days in respect of
other accounts.

'Out of order'

An account should be treated as 'out of order' if the outstanding balance remains

continuously in excess of the sanctioned limit/ drawing power. In case where the
outstanding balance in the principal operating account is less than the sanctioned limit/
drawing power, but there are no credits continuously for six months as on the date of
balance sheet or credits are not enough to cover the interest debited during the same period,
these account should be treated as 'out of order'.

Overdue

Any amount due to the bank under any credit facility is 'overdue' if it is not paid on the due
date fixed by the bank. Non Performing Assets (NPA) is one of the biggest challenges
plaguing local banking. Since 1970s, over 93 countries have faced banking problems. Asia,
too, faced similar banking problems in 1997 which became popular as the Asian currency
crisis. According to the Ministry of Finance, non-performing assets (NPA) of public sector
banks in India range between Rs 70,000 crore to Rs 1 lakh crore. NPAs of banks and
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financial institutions (FI) account for over 5% of our GDP. Major lending institutions in
India, specially state-owned, are handicapped with mounting NPAs. Since most economic
expansions are funded by debt, businesses remain highly leveraged. No wonder financial
institutions like the IDBI and the IFCI have to be bailed out with hefty rescue packages. In
the early 1990s, the government had infused over Rs 20,000 crore in public sector banks to
recapitalise their eroded capital base. Hitherto, archaic laws tilted in favour of borrowers
made it difficult for banks and FIs to recover debts. But these sort of banking problems
forced policy makers to enact stringent laws to penalise defaulters. Countries like
Malaysia, Taiwan and Indonesia are way ahead of India and have successfully managed to
curtail NPAs.

Internal factors of NPA

• Defective Lending process

There are three cardinal principles of bank lending that have been followed by the
commercial banks since long. i. Principles of safety ii. Principle of liquidity iii. Principles
of profitability

I.Principles of safety By safety it means that the borrower is in a position to repay the loan
both principal and interest. The repayment of loan depends upon the borrowers:

a. Capacity to pay

b. Willingness to pay

Capacity to pay depends upon: 1. Tangible assets 2. Success in business Willingness to pay
depends on: 1. Character 2. Honest 3. Reputation of borrower The banker should, therefore
take utmost care in ensuring that the enterprise or business for which a loan is sought is a
sound one and the borrower is capable of carrying it out successfully .he should be a
person of integrity and good character.

• Inappropriate technology
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Due to inappropriate technology and management information system, market driven
decisions on real time basis can not be taken. Proper MIS and financial accounting system
is not implemented in the banks, which leads to poor credit collection, thus NPA. All the
branches of the bank should be computerized.

• Improper swot analysis

The improper strength, weakness, opportunity and threat analysis is another reason for rise
in NPAs. While providing unsecured advances the banks depend more on the honesty,
integrity, and financial soundness and credit worthiness of the borrower. Banks should
consider the borrowers own capital investment. it should collect credit information of the
borrowers from a. From bankers b. Enquiry from market/segment of trade, industry,
business. c. From external credit rating agencies. Analyse the balance sheet True picture of
business will be revealed on analysis of profit/loss a/c and balance sheet. Purpose of the
loan When bankers give loan, he should analyse the purpose of the loan. To ensure safety
and liquidity, banks should grant loan for productive purpose only. Bank should analyse
the profitability, viability, long term acceptability of the project while financing.

• Poor credit appraisal system

Poor credit appraisal is another factor for the rise in NPAs. Due to poor credit appraisal the
bank gives advances to those who are not able to repay it back. They should use good
credit appraisal to decrease the NPAs.

• Managerial deficiencies

The banker should always select the borrower very carefully and should take tangible
assets as security to safe guard its interests. When accepting securities banks should
consider the 1. Marketability 2. Acceptability 3. Safety 4. Transferability. The banker
should follow the principle of diversification of risk based on the famous maxim “do not
keep all the eggs in one basket”; it means that the banker should not grant advances to a
few big farms only or to concentrate them in few industries or in a few cities. If a new big
customer meets misfortune or certain traders or industries affected adversely, the overall
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position of the bank will not be affected. Like OSCB suffered loss due to the OTM
Cuttack, and Orissa hand loom industries. The biggest defaulters of OSCB are the OTM
(117.77lakhs), and the handloom sector Orissa hand loom WCS ltd (2439.60lakhs).

• Absence of regular industrial visit

The irregularities in spot visit also increases the NPAs. Absence of regularly visit of bank
officials to the customer point decreases the collection of interest and principals on the
loan. The NPAs due to wilful defaulters can be collected by regular visits.

• Re loaning process

Non remittance of recoveries to higher financing agencies and re loaning of the same have
already affected the smooth operation of the credit cycle. Due to re loaning to the
defaulters and CCBs and PACs, the NPAs of OSCB is increasing day by day.

Impact on banking
Other than freeing up the blocked assets of banks, securitisation can transform banking in
other ways as well. The growth in credit off take of banks has been the second highest in the
last 55 years. But at the same time the incremental credit deposit ratio for the past one-year
has been greater than one. What this means in simple terms is that for every Rs 100 worth of
deposit coming into the system more than Rs 100 is being disbursed as credit. The growth of
credit off take though has not been matched with a growth in deposits. So the question that
arises is, with the deposit inflow being less than the credit outflow, how are the banks
funding this increased credit off take? Banks essentially have been selling their investments
in government securities. By selling their investments and giving out that money as loans,
the banks have been able to cater to the credit boom.
This form of funding credit growth cannot continue forever, primarily because banks have to
maintain an investment to the tune of 25 per cent of the net bank deposits in statutory
liquidity ratio (SLR) instruments (government and semi government securities). The fact
that they have been selling government paper to fund credit off take means that their
investment in government paper has been declining. Once the banks reach this level of 25

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per cent, they cannot sell any more government securities to generate liquidity. And given
the pace of credit off take, some banks could reach this level very fast. So banks, in order to
keep giving credit, need to ensure that more deposits keep coming in.
One way is obviously to increase interest rates. Another way is Securitization. Banks can
securitise the loans they have given out and use the money brought in by this to give out
more credit. A K Purwar, Chairman of State Bank of India, in a recent interview to a
business daily remarked that bank might securitise some of its loans to generate funds to
keep supporting the high credit off take instead of raising interest rates. Not only this,
securitisation also helps banks to sell off their bad loans (NPAs or non performing assets) to
asset reconstruction companies (ARCs). ARCs, which are typically publicly/government
owned, act as debt aggregators and are engaged in acquiring bad loans from the banks at a
discounted price, thereby helping banks to focus on core activities. On acquiring bad loans
ARCs restructure them and sell them to other investors as PTCs, thereby freeing the banking
system to focus on normal banking activities. Asset Reconstruction Company of India
Limited (ARCIL) was the first (till date remains the only ARC) to commence business in
India. ICICI Bank, Karur Vyasya Bank, Karnataka Bank, Citicorp (I) Finance, SBI, IDBI,
PNB, HDFC, HDFC Bank and some other banks have shareholding in ARCIL.A lot of
banks has been selling off their NPAs to ARCIL. ICICI bank- the second largest bank in
India has been the largest seller of bad loans to ARCIL last year. It sold 134 cases worth
Rs.8450 Crore. SBI and IDBI hold second and third positions. ARCIL is keen to see cash
flush foreign funds enter the distressed debt markets to help deepen it. What is happening
right now is that banks and FIs have been selling their NPAs to ARCIL and the same banks
and FIs are picking up the PTCs being issued by ARCIL and thus helping ARCIL to finance
the purchase. A recent report in a business daily quotes, Rajendra Kakkar, ARCIL's Chief
Executive as saying, "We have got a buyer, we have got a seller, it so happens that the seller
is the loan side of the same institutions and buyer is the treasury side."So the risk from the
balance sheet of banks and FIs is not being completely removed, as their investments into
PTCs issued by ARCIL will generate returns if and only if ARCIL is able to affect recovery
from defaulters.
A recent survey by the Economist magazine on International Banking, says that
securitisation is the way to go for Indian banking. As per the survey, "What may be more

13
important for the economy is to provide access for the 92% of Indian businesses that do not
use bank finance. That represents an enormous potential market for both local and foreign
banks, but the present structure of the banking system is not suitable for reaching these
businesses. Securitising micro-loans- bundling many loans together and selling the resulting
cash flow- may be the way of achieving economies of scale. One private bank, ICICI,
securitized $4.3 million of micro-loans last year. But most Indian banks are more interested
in competing for affluent customers".

Securitization of NPA in India

Quality of bank assets has visibly improved - standard assets as percent of all loan assets for
SCBs moved from 96.5% in FY06 to 97.5% in FY07, with decline reported in sub standard,
doubtful and loss assets. Standard assets for all SCBs in FY07 were higher by Rs 4,209 bn
compared to FY06, at Rs 18,432 bn. The proportion of standard assets rose across all bank
groups in FY07 with public sector banks showing a greater recovery compared to the other
two groups.

Source: RBI

As on 31 Mar 07, gross NPAs of SCBs were at Rs 505 bn, which was marginally lower
compared to Mar 06, as NPAs recovered and written-off exceeded the fresh addition of
NPAs during the year.
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Asset Classification in Banks

Source: RBI

The ratio of NPAs in overall advances has been declining and has touched 2.8% as on Mar
07 - Standard assets formed 97.2% of the total advances vis-à-vis 96.1 % in FY06 while
sub-standard assets formed 1%.

The value of gross NPAs for FY07 at Rs 505 bn was lower by 2.6% compared with FY06.
This declining trend has been seen for the last four fiscal years. Not only has the value of
gross NPAs fallen but also the recovery as a percent of gross NPA has been increasing.
Guidelines on sale/purchase of NPAs were issued in Jul 05, covering the procedures for
purchase/sale of NPAs, including valuation and pricing. The guidelines were partially
modified in 2007, wherein it was stipulated that at least 10% of the estimated cash flows
should be realised in the first year and at least 5% in each half year thereafter, subject to full
recovery in three years.

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 Source: RBI, D&B Research

The ratio of recovery to Gross NPAs has consistently been higher than addition of NPAs.
Even in absolute terms, the recoveries were higher compared to the additions, though FY07
was an exception. For FY07, the recovery of NPAs for the SCBs stood at Rs 261.6 bn,
which was marginally lower by Rs 0.5 bn compared to additions of NPAs.

NPA Recovery Trends of SCBs

Source: RBI, D&B Research

Scheduled commercial banks stepped up recovery efforts through numerous methods. In

addition to their own internal recovery processes, banks since 2004 have recovered to the
tune of Rs 12,250 mn through one-time settlement and compromise schemes for SMEs, Rs
6,330 mn through Lok Adalats, LVI Rs 130,030 mn through Debt Recovery Tribunals and
Rs 106,590 mn through SARFAESI Act. Through these four schemes SCBs have recovered
Rs 255,200 mn of non-performing loans between FY04-FY07, the rest recovered through

16
other internal schemes. In FY07, the total recovered amount was Rs 73,180 mn. Over the
years, the recovery methods adopted by SCBs have obviously paid-off.

Note: NPA recovery through OTS/DRTs/Lok Adalats/SARFAESI Act

Source: RBI, D&B Research

Loan restructuring
There has been a perceptible increase in the structuring of loans, both corporate as well as
noncorporate debt, which have been disbursed by Banks.
The restructuring has been done largely under the Corporate Debt Restructuring (CDR)
Mechanism. The total loan structured under this mechanism, since 2004 to 2007, is an
impressive Rs 89,420.5 mn.

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 Note: Total structured loan is the sum of non-corporate debt structured by SCBs and loans
under CDR
Source: RBI, D&B Research

As on Oct 2006, 152 cases have been approved by CDR cell amounting to Rs 786.1 bn.
Further, taking into account the withdrawal cases along with exited and merged ones, the net
cases under CDR stood at 108 with total debt consideration of Rs 526.9 bn.

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 Source: Corporate Debt Restructuring Cell

Securitization via the SARFAESI Act has been the much-preferred route among banks in
recovering bad debts. According to RBI, as on Jun 07, the book value of total amount of
assets acquired by the SCs/ ARCs stood at Rs 255 bn. The security receipts subscribed to by
banks amounted to Rs 69 bn, while the security receipts redeemed amounted to Rs 6 bn.
Though the use of this route has largely been among the private and foreign banks.

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1.2 REVIEW OF LITERATURE

Buiter (2007) studied the causes of the financial crisis of 2007 and considered proposals for
mitigation and prevention of future crises. The crisis was the product of a 'perfect storm'
bringing together a number of microeconomic and macroeconomic pathologies. Among the
microeconomic systemic failures were: wanton securitisation, fundamental flaws in the
rating agencies' business model, and the procyclical behavior of leverage in much of the
financial system and of the Basel capital adequacy requirements, privately rational but
socially inefficient disintermediation, and competitive international de-regulation. Proximate
local drivers of the specific way in which these problems manifested themselves were
regulatory and supervisory failure in the US home loan market. Among the macroeconomic
pathologies that contributed to the crisis were, first, excessive global liquidity creation by
key central banks and, second, an ex-ante global saving glut, brought about by the entry of a
number of high-saving countries (notably China) into the global economy and a global
redistribution of wealth and income towards commodity exporters that also had, at least in
the short run, high propensities to save.

Irala, Reddy & Vadlamannati (2004) studied a wide variety of financial markets have been
characterized by the growth in securitization during the past twenty years as numerous
advantages accrue from holding financial assets in securitized rather than whole loan form.
Over the last decade securitization has migrated from the United States into Europe and the
rest of the world and taken a permanent hold on the fixed income market. Securitisation
refers to conversion of cash flows into marketable securities. It was a process through which
illiquid assets were packaged, converted into tradable securities and sold to third party
investors. Securitisation has arrived in a developing country like India much faster than
expected. Securitization may help Indian Banks reduce their regulatory, and sometimes
economic and capital requirements. While Securitization serves as a powerful tool of
financial reengineering, striking a securitization deal is not that simple. It involves
substantial costs, complexity and a longer time period to complete it.

Sowerbutts (2009), builded a simple model to look at the effect of securitisation on the
banking system. In this paper they build a model of asymmetric information in the
20
secondary market for loans and a 'lemons' problem faced by uninformed agents who buy
these loans. We show how certain conditions can sustain a secondary loan market even
when banks have inside information about their borrowers, but only when other investment
opportunities are good. Although the secondary loan market delivers welfare increases it is
also unstable. We show how the emergence of secondary markets can lead not only to a
fundamental increase in asset prices but also to a change in return correlations from negative
to positive across asset classes.

Pais (2005) examined the role of securitisation in the capital structure of banks. Three
aspects related to the issue of any security are analysed: first, the ex-ante characteristics of
the banks choosing this funding source; second, the market reaction to the security issues
announcement; and third, the ex-post characteristics of the issuing banks. The results
indicate that banks with worse capital ratios, low quality assets and poor performance are
more likely to use securitisation. It is also found that agency costs of managerial discretion
play a role in explaining an identified negative market reaction to the securitisation issue and
the subsequent bank investment behavior

Sinha (2006) said Capital adequacy stipulations at the global level have become more
demanding following the Basel Committee's initiative to introduce internal model-based
capital charge. This article considers the three alternative paradigms - Value at Risk (VaR),
Expected Shortfall (ES) and Expected Excess Loss (EEL) that may be used to determine the
regulatory capital. The study also articulates the methodology for dealing with the
granularity problem. Furthermore, it outlines the Indian banking sector scenario in respect of
capital adequacy for the period 1996-97 to 2002-03. Results of panel regression show that
Tier I CRAR of Indian commercial banks is positively related to operating efficiency and
has a negative relationship with NPA ratio. But no definite relationship between the CRAR
and bank size could be determined from the analysis.

Joshi (2003) analyzed Profitability and Viability of Development Financial Institutions are
directly affected by quality and performance of advances. The basic element of Sound NPA
Management System is quick identification of Non-performing advances, their containment
at minimum levels and ensuring that their impingement on the financials is minimum.
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Excessive Reliance on Collaterals has led Institutions to long drawn litigations and hence it
should not be sole criteria for sanction. Banks should manage their exposure limit to few
borrower(s) and linkage should be placed with net owned funds for developing control over
high leverages of borrower level. Exchange of credit information among banks would be
immense help to them to avoid possible NPAs. Management Information system and Market
intelligence should be utilized to their full potential

Singla (2008) examined financial management plays a crucial role in the growth of banking.
It is concerned with examining the profitability position of the selected sixteen banks
(BANKEX-based) for a period of five years (2000-01 to 2006-2007). The study reveals that
the profitability position was reasonable during the period of study when compared with the
previous years. Return on Investment proved that the overall profitability and the position of
selected banks was sustained at a moderate rate. With respect to debt equity position, it was
evident that the companies were maintaining 1:1 ratio, though at one point of time it was
very high. Interest coverage ratio was continuously increasing, which indicated the
company's ability to meet the interest obligations. Capital adequacy ratio was constant over
a period of time. During the study period, it was observed that the return on net worth had a
negative correlation with the debt equity ratio. Interest income to working funds also had a
negative association with interest coverage ratio and the Non-Performing Assets (NPA) to
net advances was negatively correlated with interest coverage ratio.

Balasubramanian (2007) examined Private sector banks play an important role in

development of Indian economy. After liberalization the banking industry under went major
changes. The economic reforms totally have changed the banking sector. RBI permitted new
banks to be started in the private sector as per the recommendation of Narashiman
committee. The Indian banking industry was dominated by public sector banks. But now the
situations have changed new generation banks with used of technology and professional
management has gained a reasonable position in the banking industry. The main idea of this
article is to make an evaluation of the financial performance of Indian private sector banks.

Sinha (2006) said For commercial banks operating in India, off balance sheet activities have
become important in the reform years because of the following reasons:
22
(i) The deregulation of the banking sector entry and relaxation of branch licensing policy
resulted in substantial decline in banking sector spread (in terms of total assets) compelling
the commercial banks to look for some other source of income.
(ii) The introduction of asset classification, income recognition and capital adequacy norms
made lending a relatively risky proposition. The paper seeks to compare the Indian
commercial banks (for the reform period) in respect of their ability to generate income out of
off balance sheet activities by using the Data Envelopment Approach. Further, the paper
seeks to find out, in the context of a panel data framework, the impact of operating
efficiency, capital adequacy and NPA incidence on the (off balance sheet) risk taking
behavior of the Indian commercial banks. The results obtained from the non-parametric
exercise show that the public sector commercial banks are lagging behind the private sector
commercial banks in terms of off balance sheet activities. This is one area where the banks
must pay adequate attention to improve their financial health. Further, almost all the
commercial banks exhibited decreasing returns to scale which is not very encouraging for
the banking sector. The econometric exercise indicates that off balance sheet activity is
positively related to operating profit ratio and negatively related to NPA ratio. This
reinforces the hypothesis that strong banks have greater market risk taking ability as
compared to the weak banks.

Arunkumar,Kotreshwar (2006) examined "Banks are in the business of managing risk, not
avoiding it . ."Risk is the fundamental element that drives financial behavior. Without risk,
the financial system would be vastly simplified. However, risk is omnipresent in the real
world. Financial Institutions, therefore, should manage the risk efficiently to survive in this
highly uncertain world. The future of banking will undoubtedly rest on risk management
dynamics. Only those banks that have efficient risk management system will survive in the
market in the long run. The effective management of credit risk is a critical component of
comprehensive risk management essential for long-term success of a banking institution.
Credit risk is the oldest and biggest risk that a bank, by virtue of its very nature of business,
inherits. This has, however, acquired a greater significance in the recent past for various
reasons. Foremost among them is the wind of economic liberalization that is blowing across
the globe. India is no exception to this swing towards market-driven economy. Better credit

23
portfolio diversification enhances the prospects of the reduced concentration credit risk as
empirically evidenced by direct relationship between concentration credit risk profile and
NPAs of public sector banks. "a bank's success lies in its ability to assume and aggregate
risk within tolerable and manageable limits."

Bhaumik (2005) Used bank-level data from India, for nine years (1995-1996 to 2003-2004),
He examined banks' behavior in the context of emerging credit markets. Our results indicate
that the credit market behavior of banks in emerging markets is determined by past trends,
the diversity of the potential pool of borrowers to whom a bank can lend, and regulations
regarding treatment of NPA and lending restrictions imposed by the Reserve Bank of India.
Finally, we find evidence that suggest that credit disbursal by banks can be facilitated by
regulatory and institutional changes that help banks mitigate the problems associated with
enforcement of debt covenants and treatment of NPA on the balance sheets. On the basis of
these results, we speculate on some possible policy recommendations.

Das (2002) analysed a solution to the problem of NPA in the small scale industries under the
present circumstances of banking and insurance working together under the same roof. What
is stressed in this article is the pressing need of the small-scale entrepreneur for becoming
aware and educated in modern business management holding a professional attitude toward
rational decision-making and banks have to facilitate that process as a part of the credit
policy sold by them.

Ramakumar (2007) examined the recovery of stressed assets or Non-performing Assets

(NPA) through legal and regulatory recourses is critical to the sustainability of banks. In the
past fifteen years, policymakers have been experimenting with several legislations to
improve the recovery mechanism in banks. An important fall out of these stringent measures
is that the defaulters have realized that one-time settlement with lending banks is more
beneficial than resorting to litigation which has less chances of success as more favorable
legislations for banks are in place. This paper revisits the various legislations and regulations
that address the recovery of NPAs and evaluates their impact on recovery performance of
banks.

24
Gambacorta (2007) increased in securitization activity has modified the functioning of credit
markets by reducing the fundamental role of liquidity transformation performed by financial
intermediaries. We claim that the changing role of banks from originate and hold to
originate, repackage and sell has also modified banks' abilities to grant credit and the
effectiveness of the bank lending channel of monetary policy. Using a large sample of
European banks, we find that the use of securitisation appears to shelter banks' loan supply
from the effects of monetary policy. Securitisation activity has also strengthened the
capacity of banks to supply new loans but this capacity depends upon business cycle
conditions as well as upon banks' risk positions. In this respect the recent experience of the
sub-prime mortgage loans crisis is very instructive.

Kanwal (2007) studied the tool of securitization found its place in the Indian capital markets
in the year 1991 when the first deal of securitization took place .This paper reviews the
current scenario of the securitization market in India and then goes on to adopt a three
pronged focus. After briefly introducing the concept of securitization popularly known as
"Asset Securitization", it presents the different perspectives of the stakeholder’s viz. the
Originator, Investor and the Indian Economy. Thereby it identifies the multidimensional
benefits of securitization for India whose capital markets are still developing. The
originator's perspective basically focuses on the benefits accruing to the originator of the
securitization deal. The Investors Perspective focuses on the benefits accruing to the
Investor who invests in a securitization deal with the help of a vehicle called the special
purpose entity, thereby funding the originator for his financial requirement. Lastly The
Economy's Perspective identifies how the national economy would be benefited by
introducing the mechanism of securitization in its capital markets.

Ferguson (2007) said Asset securitization is a burgeoning trend in Russia as companies

burdened by poor credit ratings seek access to capital at lower costs than they would be
allowed in traditional equity or debt markets. In other countries, non-performing loan
portfolios are assets that are frequently securitized. But securitization of these bad loans has
not occurred in Russia at the levels one might expect. This has been due to both a relatively
small amount of loans that under-perform as well as legal and regulatory impediments that
have discouraged investors and lenders alike. However, expansion of consumer credit in
25
Russia and the circumstances under which it is occurring indicate that the level of non-
performing loans is due to rapidly increase and as the rationale for maintaining the
impediments that stand in the way of securitizing these loans is being re-examined, those
impediments are being scaled back to make way for market participants to engage in such
securitizations. Thus, this article anticipates a significant rise in the level of non-performing,
which will be logically paired with an increased interest of Russian lenders in securitizing
these assets.

Jobst (2005) provided a comprehensive overview of the gradual evolution of the supervisory
policy adopted by the Basle Committee for the regulatory treatment of asset securitisation.
We carefully highlight the pathology of the new “securitisation framework” to facilitate a
general understanding of what constitutes the current state of computing adequate capital
requirements for securitized credit exposures. Although we incorporate a simplified
sensitivity analysis of the varying levels of capital charges depending on the security design
of asset securitization transactions, we do not engage in a profound analysis of the benefits
and drawbacks implicated in the new securitisation framework.

Vallabh(2007) explored an empirical approach to the analysis of Non-Performing Assets

(NPAs) of public, private, and foreign sector banks in India. The NPAs are considered as an
important parameter to judge the performance and financial health of banks. The level of
NPAs is one of the drivers of financial stability and growth of the banking sector. This paper
aims to find the fundamental factors which impact NPAs of banks. A model consisting of
two types of factors, viz., macroeconomic factors and bank-specific parameters, is
developed and the behavior of NPAs of the three categories of banks is observed. This
model tries to extend the methodology of widely-known Altman model. The empirical
analysis assesses how macroeconomic factors and bank-specific parameters affect NPAs of
a particular category of banks. The macroeconomic factors of the model included are GDP
growth rate and excise duty, and the bank-specific parameters are Credit Deposit Ratio
(CDR), loan exposure to priority sector, Capital Adequacy Ratio (CAR), and liquidity risk.
The results show that movement in NPAs over the years can be explained well by the factors
considered in the model for the public and private sector banks. The co linearity between
independent variables was measured by Durbin-Watson test and VIF characteristic and it
26
was found to be a little for public and private banks. The factors included in the model
explains 97.1% (adjusted R-square value of regression results) of variations in NPAs of
public banks and 76.9% of the same of private banks. The other important results derived
from the analysis include the finding that banks' exposure to priority sector lending reduces
NPAs.

Uzun (2007) offered a comprehensive comparison of the characteristics between banks that
securitize and banks that do not and to provide evidence of the capital arbitrage theory of
securitization.
Design/methodology/approach – First, the fundamental financial similarities and differences
between banks that securitize assets and banks that do not participate in the securitization
market are tested. Second, variables that help predict whether a bank securitizes assets are
analyzed. Third, the determinants of securitization extent in banks that securitize assets are
investigated – for general securitization extent and for specific type of asset securitized.
Using a sample of 112 banks that securitize different assets, a matched sample of banks that
do not securitize based on entity type and size is created. A quarterly panel data set of these
banks dating back to 2001 is used.Findings – The results indicate that bank size is a
significant determinant of whether a bank securitizes. Further, overall securitization extent is
negatively related to the bank's capital ratio (in support of capital arbitrage theory), but this
result is primarily driven by credit card securitization.
Originality/value – Utilizing a unique data set of quarterly data from bank Call Reports; the
panel data set is large relative to past studies. A matched sample approach was used to test
fundamental financial similarities and differences between securitizing and non-securitizing
banks. In addition to aggregated securitization, an examination was made of how different
classes of assets affect the banks' risk-based capital ratios and test the capital arbitrage
theory of securitization.

Dionne,Montréal and Harchaoui (2002) examined the rapid growth of off-balance-sheet

activities raises a number of interesting issues regarding the relationship between banks
capital, securitization and risk. This paper is the first attempt that empirically investigates
this relationship. The evidence for Canada over the 1988–1998 period indicates that a)
securitization has negative effects on both Tier 1 and Total risk-based capital ratios, and b)
27
there exists a positive statistical link between securitization and banks’ risk. These results
seem to accord with Kim and Santomero (1988) result, that banks might be induced to shift
to more risky assets under the current capital requirements for credit risk.

Jobst (2007) surveyed the attendant benefits and drawbacks of asset securitisation on both
financial institutions and firms. It also elicits salient lessons to be learned about the
securitisation of SME-related obligations from a cursory review of SME securitisation in
Germany as a foray of asset securitisation in a bank-centered financial system paired with a
strong presence of SMEs in industrial production.

Ali ,Tisdell (2000) explained the various types of Collateralized Debt Obligation (CDO)
securitizations and provides an overview of "CONDOR" (Collateralized Originated Notes
Diversified Obligor Revenues), a CDO securitisation programme established by Citibank in
Australia, in late 1999. The article also discusses one of the major legal issues confronting
securitizations in Australia: whether or not there has been a "true sale" of the securitized
assets to the securitisation vehicle. CONDOR has the ability to issue differentially-rated
series of debt instruments against Australian government and corporate debt securities
(including asset-backed securities), corporate loans, project finance loans, infrastructure
finance loans, housing loans, trade receivables, auto receivables and other receivables. It is
also authorized to implement synthetic securitizations of loans and other receivables.
Establishing that there has been a true sale of the assets being securitized to the
securitisation vehicle is a necessary pre-condition to obtaining off-balance sheet treatment
for those assets. In addition, where the securitized assets include loans, a true sale is required
to ensure that the risk capital held against the loans is freed-up. This article examines the
legal mechanisms for the sale of securitized assets in Australia, stamp duty-efficient sale
structures, and the issue of whether notice of the sale must be given to the underlying
obligors.

Vink and Thibeault (2008) provided empirical evidence demonstrating a relationship

between the nature of the assets and the primary market spread. The model also provides
predictions on how other pricing characteristics affect spread, since little is known about
how and why spreads of asset-backed securities are influenced by loan tranche
28
characteristics. We find that default and recovery risk characteristics represent the most
important group in explaining loan spread variability. Within this group, the credit rating
dummies are the most important variables to determine loan spread at issue. Nonetheless,
credit rating is not a sufficient statistic for the determination of spreads. We find that the
nature of the assets has a substantial impact on the spread across all samples, indicating that
primary market spread with backing assets that cannot easily be replaced is significantly
higher relative to issues with assets that can easily be obtained. Of the remaining
characteristics, only marketability explains a significant portion of the spreads’ variability.
In addition, variations of the specifications were estimated in order to asses the robustness of
the conclusions concerning the determinants of loan spreads.

Vink and Thibeault (2008) said the capital market in which asset-backed securities are
issued and traded is composed of three main categories: ABS, MBS and CDOs. We were
able to examine a total number of 3,467 loans (worth €548.85 billion) of which 1,102 (worth
€163.90 billion) have been classified as ABS. MBS issues represent 1,783 issues (worth
€320.83 billion), and 582 are CDO issues (worth €64.12 billion). We have investigated how
common pricing factors compare for the main classes of securities. Due to the differences in
the assets related to these securities, the relevant pricing factors for these securities should
differ, too. Taking these three classes as a whole, we have documented that the assets
attached as collateral for the securities differ between security classes, but that there are also
important univariate differences to consider. We found that most of the common pricing
characteristics between ABS, MBS and CDO differ significantly. Furthermore, applying the
same pricing estimation model to each security class revealed that most of the common
pricing characteristics associated with these classes have a different impact on the primary
market spread exhibited by the value of the coefficients. The regression analyses we
performed suggest that ABS, MBS and CDOs are in fact different instruments, as implied by
the differences in impact of the pricing factors on the loan spread between these security
classes.

Yener,Gambacorta and Marqués (2007) examined the dramatic increase in securitisation

activity has modified the functioning of credit markets by reducing the fundamental role of
liquidity transformation performed by financial intermediaries. We claim that the changing
29
role of banks from “originate and hold” to “originate, repackage and sell” has also modified
banks’ abilities to grant credit and the effectiveness of the bank lending channel of monetary
policy. Using a large sample of European banks, we find that the use of securitisation
appears to shelter banks’ loan supply from the effects of monetary policy. Securitisation
activity has also strengthened the capacity of banks to supply new loans but this capacity
depends upon business cycle conditions and, notably, upon banks’ risks positions. In this
respect, the recent experience of the sub-prime mortgage loans crisis is very instructive.

Loutskina ,Strahan (2006) showed that securitization reduces the influence of bank financial
condition on loan supply. Low-cost funding and increased balance-sheet liquidity raise bank
willingness to approve mortgages that are hard to sell (jumbo mortgages), while having no
effect on their willingness to approve mortgages easy to sell (non-jumbos). Thus, the
increasing depth of the mortgage secondary market fostered by securitization has reduced
the impact of local funding shocks on credit supply. By extension, securitization has
weakened the link from bank funding conditions to credit supply in aggregate, thereby
mitigating the real effects of monetary policy.

Ali , De and Robbe (2003) provided a practitioner-oriented guide to the key legal and
structuring issues that arise in innovative securitisation transactions, under Anglo-Australian
law. The transactions on which the book focuses are the securitisation of non-traditional
assets and the disaggregation of financial assets into their component risks and the synthetic
securitisation of discrete risks. Securitisation - An Introduction, Credit Derivatives - The
Gateway to Synthetic Securitisation, Synthetic Securitisation - Should Every Bank have One
Synthetic Arbitrage - Merger of Credit Derivatives, Securitisation and Asset Management,
Insurance Securitisation - Convergence of the Insurance and Capital Markets, Hedge Fund
Securitisation - Repackaging Funds of Hedge Funds, Intellectual Property Securitisation -
Crystallizing the Value of Brand Names and Ideas, Whole of Business Securitisation -
Unlocking the Wealth Within.

Sud (2008) said Securitization is a form of off-balance sheet financing that is increasingly
being used in the EBRD's countries of operations. Securitisation is significant not only as a
financing tool, but also as an engine for change in economies that are seeking to modernize
30
their infrastructure. This article reviews the development of the securitisation market in
Russia, the efforts that have been made to improve the legal framework and the challenges
that still remain.

Loutskina and Strahan (2006) showed securitization reduces the influence of bank financial
condition on loan supply. Low-cost funding and increased balance-sheet liquidity raise bank
willingness to approve mortgages that are hard to sell (jumbo mortgages), while having no
effect on their willingness to approve mortgages easy to sell (non-jumbos). Thus, the
increasing depth of the mortgage secondary market fostered by securitization has reduced
the impact of local funding shocks on credit supply. By extension, securitization has
weakened the link from bank funding conditions to credit supply in aggregate, thereby
mitigating the real effects of monetary policy.

Biswas, Biswas (2008) said Unorganized manufacturing sector of India is operating under
increasing returns to scale despite the industries being predominantly traditional in nature.
Scarcity of capital compels this sector to operate at a sub-optimal level. Scheduled
commercial terms highlighted>banks plagued with NPAs under directed lending primarily
due information asymmetry and monitoring problems, not only restrict supply of loans to
this sector but also fail to ensure productive use of the capital advanced to this sector.
Informal sources of financing is highly important to this sector and these financers having
full information about borrowers are in a position to monitor the functioning of the latter
often bundling of financing with other relations and at times through equity participation.
Thus, informal financing ensures most productive use of scarce resource, which is reflected
in terms highlighted>terms of increasing returns to scale. Significantly positive regression
coefficient of the value added per enterprise on the proportion of non-institutional finances
in total outstanding loan and a negative coefficient of the regression on the share of
institutional finances are again manifestation of the differences in the utilization of the
finances and the quality of financial services provided by the two sources. It is argued that in
order to provide adequate finances to these industries terms highlighted>banks may operate
through these informal institutions that would not only ensure proper screening, timely
delivery and effective monitoring but also ensure proper use of the fund and thus safe

31
repayment for the bank. It would thus provide a good opportunity to terms
highlighted>banks to do business with a vast sector of the economy.

Arora ,Vashisht and Bansal (2009) conducted to analyze and compare the performance (in
terms of loan disbursement and non- performing assets) of credit schemes of selected banks
for the last five years. A positive relationship is also found between total loan disbursement
and total Non-Performing Assets Outstanding (NPA O/S) of selected banks. This paper is
divided into two parts. In the first part, bank-wise as well as year-wise comparisons are done
with the help of Compound Annual Growth Rate (CAGR), mean and standard deviation;
and in the second part, a positive relationship is found between total loan disbursement and
total NPA O/S of selected banks with the help of a correlation technique.

Sumon Bhaumik, and Piesse (2008) discussed about the relationship between ownership
and financial performance of banks in emerging markets, literature about cross-ownership
differences in credit market behavior of banks in emerging economies is sparse. Using bank-
level data from India and a portfolio-choice model for nine years (1995-96 to 2003-04), we
examine banks' behavior in the context of credit markets of an emerging market economy,
namely, India. Our results indicate that, in India, the data for the domestic banks fit well the
aforementioned portfolio-choice model, especially for private banks, but the model cannot
explain the behaviors of foreign banks. In general, allocation of assets between risk-free
government securities and risky credit is affected by past allocation patterns, stock exchange
listing (for private banks), risk averseness of banks, regulations regarding treatment of NPA,
and ability of banks to recover doubtful credit. It is also evident that banks deal with
changing levels of systematic risk by altering the ratio of securitized to non-securitized
credit. These results have implications for disbursal of credit to small and medium
enterprises in India.

Ramsay (1993) said inancial innovation has both social and economic benefits it is
necessary to understand the factors which facilitate or impede financial innovation. In this
article the author explores the role which legal regulation plays in financial innovation by
using the example of securitisation. By reviewing the history of securitisation in Australia, it
is demonstrated that legal regulation has both hindered and promoted financial innovation.
32
Singla (2008) examined how financial management plays a crucial role in the growth of
banking. It is concerned with examining the profitability position of the selected sixteen
banks (BANKEX-based) for a period of five years (2000-01 to 2006-2007). The study
reveals that the profitability position was reasonable during the period of study when
compared with the previous years. Return on Investment proved that the overall profitability
and the position of selected banks were sustained at a moderate rate. With respect to debt
equity position, it was evident that the companies were maintaining 1:1 ratio, though at one
point of time it was very high. Interest coverage ratio was continuously increasing, which
indicated the company's ability to meet the interest obligations. Capital adequacy ratio was
constant over a period of time. During the study period, it was observed that the return on
net worth had a negative correlation with the debt equity ratio. Interest income to working
funds also had a negative association with interest coverage ratio and the Non-Performing
Assets (NPA) to net advances was negatively correlated with interest coverage ratio

Sowerbutts (2009) examined a simple model to look at the elect of securitization on the
banking system. In this paper we build a model of asymmetric information in the secondary
market for loans and a `lemons' problem faced by uninformed agents who buy these loans.
We show how certain conditions can sustain a secondary loan market even when banks have
inside information about their borrowers, but only when other investment opportunities are
good. Although the secondary loan market delivers welfare increases it is also unstable. We
show how the emergence of secondary markets can lead not only to a fundamental increase
in asset prices but also to a change in return correlations from negative to positive across
asset classes.

Das (2002) tried to seek a solution to the problem of NPA in the small scale industries under
the present circumstances of banking and insurance working together under the same roof.
What is stressed in this article is the pressing need of the small-scale entrepreneur for
becoming aware and educated in modern business management holding a professional
attitude toward rational decision-making and banks have to facilitate that process as a part of
the credit policy sold by them.

33
Sinha (2008) initiated a system of Prompt Corrective Action (PCA) with various trigger
points and mandatory and discretionary responses by the supervising authority on a real time
basis. The PCA framework relies on three major indicators of banking sector performance:
Net Non Performing Asset (NPA), Capital-To-Risk-Weighted Assets Ratio (CRAR) and
Return on Assets (ROA). The present paper seeks to combine the ratio approach adopted by
the Reserve Bank of India with the Assurance Region based measure of technical efficiency
to find out a composite Data Envelopment Analysis (DEA) based efficiency indicator of 28
observed commercial banks for 2002-03 to 2004-05. The results show that the observed
private sector commercial banks have higher mean technical efficiency score compared to
those of the public sector commercial banks. Out of the 28 observed commercial banks
considered for the study, six were found to be efficient. A study of the technical efficiency
scores across ownership groups reveal that the observed private sector banks have higher
mean technical efficiency scores compared to their public sector counterparts. Finally, most
of the observed commercial banks exhibit decreasing returns to scale for the period under
observation.

Kalita (2008) started as a follow up measures of the economic liberalization and financial
sector reforms in the country. The banking sector being the life line of the economy was
treated with utmost importance in the financial sector reforms. The reforms were aimed at to
make the Indian banking industry more competitive, versatile, efficient, productive, to
follow international accounting standard and to free from the government's control. The
reforms in the banking industry started in the early 1990s have been continued till now. The
paper makes an effort to first gather the major reforms measures and policies regarding the
banking industry by the govt. of India and the Central Bank of India (i.e. Reserve Bank of
India) during the last fifteen years. Secondly, the paper will try to study the major impacts of
those reforms upon the banking industry. A positive responds is seen in the field of
enhancing the role of market forces, regarding prudential regulations norms, introduction of
CAMELS supervisory rating system, reduction of NPAs and regarding the up gradation of
technology. But at the same time the reform has failed to bring up a banking system which is
at par with the international level and still the Indian banking sector is mainly controlled by

34
the govt. as public sector banks being the leader in all the spheres of the banking network in
the country.

Jobst (2003) established an intrinsic connection between asset securitisation and financial
market stability in the light of altered financial intermediation. After a brief presentation of
the nature of securitisation per se, we introduce both theoretical considerations and empirical
observations to identify possible sources of systemic risk in loan securitisation. In particular,
we focus on asymmetric information and the security design as determined by the tradability
of credit risk transfer. We argue that regulatory disregard of these issues does not only
destabilizes securitization markets but also induce profound disruptions to mutual payment
obligations of financial intermediaries.

Jobst (2004) provided a comprehensive overview of the gradual evolution of the supervisory
policy adopted by the Basle Committee for the regulatory treatment of asset securitisation.
We carefully highlight the pathology of the new "securitisation framework" to facilitate a
general understanding of what constitutes the current state of computing adequate capital
requirements for securities credit exposures. Although we incorporate a simplified
sensitivity analysis of the varying levels of capital charges depending on the security design
of asset securitisation transactions, we do not engage in a profound analysis of the benefits
and drawbacks implicated in the new securitization framework.

Ali (2000) said Credit derivatives are transforming the ways in which banks and other
financial institutions manage credit risk. In contrast to traditional methods of credit risk
management, such as loan syndications, risk participations and conventional asset-backed
securitizations, credit derivatives permit financial institutions to unbundle and separately
lay-off the credit risk on their loan and bond portfolios and trading books. This article
explains the legal structure of the main types of credit derivatives (credit default swaps,
credit spread products, total rate of return swaps, and credit-linked notes) and examines the
key regulatory issues facing credit derivatives in Australia. The first of these issues relates
to the status of credit derivatives under the Australian Corporations Law, that is whether
such derivatives are "futures contracts". Parties who deal in or advise on futures contracts
are subject to licensing requirements. In addition, futures contracts can only, under the
35
Corporations Law, be transacted on a futures exchange or in a specifically exempted futures
market. Failure to comply with these requirements attracts both civil and criminal penalties.
The question of whether a credit derivative (or any other derivative) is a "futures contract"
will, if the reforms proposed in the Financial Services Reform Bill 2000, are enacted be
superseded by the question of whether a credit derivative is a "financial product". A party
who deals in or advises on financial products will be subject to licensing requirements. In
addition, parties who conduct markets in financial products will be required to hold a new
financial product market license. Again, non-compliance with these licensing requirements
will attract civil as well as criminal penalties. The status of a credit derivative as a futures
contract or a financial product also has significant implications for the application of the
Australian gaming and wagering legislation. Futures contracts enjoy the benefit of a
statutory safe harbor from that legislation. This protection has also been extended to
financial products under the Financial Services Reform Bill. Finally, there is a concern that
credit derivatives are contracts of insurance under Australian law and, consequently, that a
dealer in credit derivatives will be considered to be conducting an insurance business.
Parties, who carry on an insurance business in Australia, must, under the Australian
Insurance Act 1973, be formally authorized to do so by the Australian Prudential Regulation
Authority. A party that breaches this requirement will be subject to criminal penalties. In
addition, it is likely that, in these circumstances, the credit derivatives transacted by the
dealer will be unenforceable.

1.3 Rationale

Securitisation is the process of conversion of existing assets or future cash flows into
marketable securities Banks can securitise the loans they have given out and use the money
brought in by this to give out more credit. It is a process through which illiquid assets are
packaged, converted into tradable securities and sold to third party investors. Securitization
has arrived in a developing country like India much faster than expected. Securitization may
help Indian Banks reduce their regulatory, and sometimes economic and capital
requirements. While Securitization serves as a powerful tool of financial reengineering,
striking a securitization deal is not that simple. It involves substantial costs, complexity and

36
a longer time period to complete it. Securitization reduces the influence of bank financial
condition on loan supply.
The market for securitization of loans is growing very fast .It is the beneficial for the banks.
The study will be focused that the profitability position of the banks will be improve after
the process of securitization or not and also compare with the previous years.

1.4 Objectives of the study

1. To evaluate the impact of securitization on the profitability of the public and
private banks.
2. To evaluate the impact of securitization on the Management efficiencies of the
public and private banks.
3. To evaluate the impact of securitization on the Liquidity of the public and private banks.
4. To compare profitability, before and after securitization of public and private banks.
5. To compare Mnagemnt efficiencies before and after securitization of public and
private banks.
6. To compare liquidity before and after securitization of public and private banks.

Research methodology

2.1 The study

The study was descriptive in nature

2.2 Sample design

2.2.1 Population: The total population wear all the public and private banks.
2.2.2 Sample size: 15 banks(five private and ten public).

2.2.3 Sample elements: The sampling element were the securitized asset, net operating
profit, earning per share, return on net capital and dividend yield ratio of
individual bank.

2.2.4 Sampling techniques : Purposive sampling techniques was applied

37
2.3 Tools used for data collection: The data were collected through the websites of
different bank and moneycontrol.com

2.4 Tools used for data analysis: Simple linear regression was applied between
securitized assets as an independent variable and net operating profit, earning per
share, return on net capital and dividend yield as dependent variable and U-Test
were applied to check the before and after effect of securitization.

Results of regression

Public sector banks

38
Hypothesis Banks(public) R.Square t- Beta Significance Regression Results
RATIO value Level Equation Sig./insig.
H01 .725 - -.851 0.2 % RNW= significant
RETURN ON 4.589 20.037+
NET WORTH (-.026) NPA
H02 EARNING .109 -.988 -.330 35.2% EPS= Insignificant
PER SHARE 321.650+
(-.595) NPA
H03 NET PROFIT .119 - -.483 33.0 % NPM= Insignificant
MARGIN 1.558 11.633+
(-.007) NPA
H04 RETURN ON .098 -.931 -.313 37.9 % ROA Insignificant
ASSETS =1342.419+
(-3.674) NPA
H05 CURRENT .325 1.962 .570 8.5 % CR= Insignificant
RATIO 0.115+0.000
NPA
H06 ASSETS .379 - -.616 5.8 ATA= Insignificant
TURNOVER 2.212 5.783+
RATIO (-.007) NPA

H07 CAPITAL .420 - -.648 4.3 CTR significant

TURNOVER 2.409 =1.458+
RATIO (-.002) NPA

H08 TOTAL .540 - -.735 1.5 TI/CM= . significant

INCOME/CAP 3.064 459+0.000
ITAL NPA
EMPLOYED

Ho1:-There is no relationship between securitization of NPA and Return on net worth

of Public sector banks.
The findings indicate that at 5 percent level of significance (t = -4.589, Significant at 0.2%)
the null hypothesis is rejected. The beta value (-.851) indicates significant relationship
between the securitization of NPA and return on net worth of public sector banks. Results of

39
the linear regressions clearly show that, securitization of NPA effect the return on net worth
of Public sector banks.

Ho2:-There is no relationship between securitization of NPA and Earning per share of

Public sector banks.
The findings indicate that at 5 percent level of significance (t = -.988, Significant at 35.2%)
the null hypothesis is Accepted. The beta value (-.330) indicates significant relationship
between the securitization of NPA and earning per share of public sector banks. Results of
the linear regressions clearly show that, securitization of NPA does not effect the earning per
share of Public sector banks.

Ho3:-There is no relationship between securitization of NPA and Net profit margin of

Public sector banks.
The findings indicate that at 5 percent level of significance (t = -1.558, Significant at 33%)
the null hypothesis is Accepted. The beta value (-.483) indicates significant relationship
between the securitization of NPA and Net profit margin of public sector banks. Results of
the linear regressions clearly show that, securitization of NPA does not effect the net profit
margin of Public sector banks.

Ho4:-There is no relationship between securitization of NPA and return on assets of

Public sector banks.
The findings indicate that at 5 percent level of significance (t = -.931, Significant at 37.9%)
the null hypothesis is Accepted. The beta value (-.313) indicates significant relationship
between the securitization of NPA and return on assets of public sector banks. Results of the
linear regressions clearly show that, securitization of NPA does not effect the return on
assets of Public sector banks.

Ho5:-There is no relationship between securitization of NPA and current ratio of

Public sector banks.
The findings indicate that at 5 percent level of significance (t = 1.962, Significant at 8.5%)
the null hypothesis is Accepted. The beta value (.570) indicates significant relationship

40
between the securitization of NPA and current ratio of public sector banks. Results of the
linear regressions clearly show that, securitization of NPA does not effect the current ratio of
Public sector banks.

Ho6:-There is no relationship between securitization of NPA and assets turnover ratio

of Public sector banks.
The findings indicate that at 5 percent level of significance (t = -2.212, Significant at 5.8 %)
the null hypothesis is Accepted. The beta value (.616) indicates significant relationship
between the securitization of NPA and Assets turnover ratio of public sector banks. Results
of the linear regressions clearly show that, securitization of NPA does not effect the assets
turnover ratio of Public sector banks.

Ho7:-There is no relationship between securitization of NPA and capital turnover ratio

of Public sector banks.
The findings indicate that at 5 percent level of significance (t = -2.409, Significant at 4.3 %)
the null hypothesis is rejected. The beta value (-.648) indicates significant relationship
between the securitization of NPA and Assets turnover ratio of public sector banks. Results
of the linear regressions clearly show that, securitization of NPA effect the assets turnover
ratio of Public sector banks.

Ho8:-There is no relationship between securitization of NPA and Total

income/capital employed ratio of Public sector banks.
The findings indicate that at 5 percent level of significance (t =-3.064, Significant at 1.5%)
the null hypothesis is rejected. The beta value (-.735) indicates significant relationship
between the securitization of NPA and Total income/capital employed of public sector
banks. Results of the linear regression clearly show that, securitization of NPA effect the
total income/capital employed of Public sector banks.

41
42
Private Banks

Ho1:-There is no relationship between securitization of NPA and Return on net worth

Hypothe RATIO R.Squa T- Beta Significan Regression Results
sis re value ce Equation Sig./insig.
Level
H01 Return On Net .023 .309 .153 77.3% RNW Insignific
Worth 7.870+0.002 ant
NPA
H02 Earning Per .147 .831 .384 45.3% EPS Insignific
Share 15.183+0.010 ant
NPA
H03 Net Profit .047 .443 .216 68.0% NPM Insignific
Margin 7.403+0.002 ant
NPA
H04 Return On .396 1.619 0.62 18.1% ROA Insignific
Assets 9 113.398+.113 ant
NPA
H05 Current Ratio .037 -.392 -.192 71.5% CR Insignific
0.702+0.000 ant
NPA
H06 Assets .000 0.006 0.00 99.6% ATR Insignific
Turnover Ratio 3 4.343+5.881E- ant
6 NPA
H07 Capital .422 -1.710 -.650 16.2% CTR Insignific
Turnover Ratio 1.140+0.000 ant
NPA
H08 Total .053 -.474 -.231 66.0% TI/CE 0.366+(- Insignific
Income/Capita 5.146E-5) NPA ant
l Employed
of Private sector banks.
The findings indicate that at 5 percent level of significance (t = -.309, Significant at 77.3%)
the null hypothesis is accepted. The beta value (.153) indicates significant relationship
between the securitization of NPA and return on net worth of private sector banks. Results
43
of the linear regressions clearly show that, securitization of NPA does not effect the return
on net worth of Private sector banks.

Ho2:-There is no relationship between securitization of NPA and Earning per share of

Private sector banks.
The findings indicate that at 5 percent level of significance (t = -.831, Significant at 45.3%)
the null hypothesis is Accepted. The beta value (.384) indicates significant relationship
between the securitization of NPA and earning per share of private sector banks. Results of
the linear regressions clearly show that, securitization of NPA does not effect the earning per
share of Private sector banks.

Ho3:-There is no relationship between securitization of NPA and Net profit margin of

Private sector banks.
The findings indicate that at 5 percent level of significance (t = .443, Significant at 68%) the
null hypothesis is Accepted. The beta value (.216) indicates significant relationship between
the securitization of NPA and Net profit margin of private sector banks. Results of the linear
regressions clearly show that, securitization of NPA does not effect the net profit margin of
Private sector banks.

Ho4:-There is no relationship between securitization of NPA and return on assets of

Private sector banks.
The findings indicate that at 5 percent level of significance (t = 1.619, Significant at 18.1%)
the null hypothesis is Accepted. The beta value (0.629) indicates significant relationship
between the securitization of NPA and return on assets of private sector banks. Results of
the linear regressions clearly show that, securitization of NPA does not effect the return on
assets of Private sector banks.

Ho5:-There is no relationship between securitization of NPA and current ratio of

Private sector banks.
The findings indicate that at 5 percent level of significance (t = -.392, Significant at 18.1%)
the null hypothesis is Accepted. The beta value (-.192) indicates significant relationship

44
between the securitization of NPA and current ratio of private sector banks. Results of the
linear regressions clearly show that, securitization of NPA does not effect the current ratio of
Private sector banks.

Ho6:-There is no relationship between securitization of NPA and assets turnover ratio

of Private sector banks.
The findings indicate that at 5 percent level of significance (t = 0.006, Significant at 99.6 %)
the null hypothesis is Accepted. The beta value (0.003) indicates significant relationship
between the securitization of NPA and Assets turnover ratio of private sector banks. Results
of the linear regressions clearly show that, securitization of NPA does not effect the assets
turnover ratio of Private sector banks.

Ho7:-There is no relationship between securitization of NPA and capital turnover ratio

of Private sector banks.
The findings indicate that at 5 percent level of significance (t = -1.710, Significant at 16.2
%) the null hypothesis is accepted. The beta value (-.650) indicates significant relationship
between the securitization of NPA and Assets turnover ratio of private sector banks. Results
of the linear regressions clearly show that, securitization of NPA does not effect the assets
turnover ratio of Private sector banks.

Ho8:-There is no relationship between securitization of NPA and Total Income/Capital

Employed ratio of Private sector banks.
The findings indicate that at 5 percent level of significance (t = -474, Significant at 66%) the
null hypothesis is accepted. The beta value (-.231) indicates significant relationship between
the securitization of NPA and Total income/capital employed of private sector banks.
Results of the linear regression clearly show that, securitization of NPA does not effect the
total income/capital employed of Private sector banks.

45
Results of U-Test

46
Public sector banks
Hypothesis Banks(Public) RATIO z-value Significance Results
Level Sig./insig.
H01 2.646 0.7% significant
Return On Net Worth
H02 Earning Per Share .907 39.3 Insignificant

H03 Net Profit Margin .302 79.6 Insignificant

H04 Return On Assets 2.041 4.3 significant

H05 .076 97.1 Insignificant

Current Ratio

H06 3.074 00.0 significant

Assets Turnover Ratio

H07 Capital Turnover 2.343 1.9 significant

Ratio

H08 2.948 0.2 significant

Total Income/Capital
Employed

47
Public sector banks

Ho1:-There is no relationship between securitization of NPA and Return on net worth

of Public sector banks.
The results of the U-Test(z=-2.64) indicate that at 0.7% level of significance the null
hypothesis is rejected. The findings clearly show that, securitization of NPA effect the return
on net worth of Public sector banks.

Ho2:-There is no relationship between securitization of NPA and Earning per share of

Public sector banks.
The results of the U-Test (z=.907) indicate that at 39.3% level of significance the null
hypothesis is Accepted. The findings clearly show that, securitization of NPA does not
effect the earning per share of Public sector banks.

Ho3:-There is no relationship between securitization of NPA and Net profit margin of

Public sector banks.
The results of the U-Test (z= .302) indicate that at 79.6% level of significance the null
hypothesis is Accepted. The findings clearly show that, securitization of NPA does not
effect the net profit margin of Public sector banks.

48
Ho4:-There is no relationship between securitization of NPA and return on assets of
Public sector banks.
The results of the U-Test (z= 2.041) indicate that at 4.3% level of significance the null
hypothesis is rejected. The findings clearly show that, securitization of NPA effect the return
on assets of Public sector banks.

Ho5:-There is no relationship between securitization of NPA and current ratio of

Public sector banks.
The results of the U-Test (z= .076) indicate that at 97.1% level of significance the null
hypothesis is Accepted. The findings clearly show that, securitization of NPA does not
effect the current ratio of Public sector banks.

Ho6:-There is no relationship between securitization of NPA and assets turnover ratio

of Public sector banks.
The results of the U-Test (z=3.064) indicate that at 0.0% level of significance the null
hypothesis is Rejected. The findings clearly show that, securitization of NPA effect the
assets turnover ratio of Public sector banks.

Ho7:-There is no relationship between securitization of NPA and capital turnover ratio

of Public sector banks.
The results of the U-Test (z=2.343) indicate that at 1.9% level of significance the null
hypothesis is rejected. The findings clearly show that, securitization of NPA effect the
assets turnover ratio of Public sector banks.

Ho8:-There is no relationship between securitization of NPA and Total Income/Capital

Employed ratio of Public sector banks.

49
The results of the U-Test (z=2.948) indicate that at 0.2% level of significance the null
hypothesis is rejected. The findings clearly show that, securitization of NPA effect the total
income/capital employed of Public sector banks.

Private sector banks

Hypothesis Banks(Public) RATIO z-value Significance Results

Level Sig./insig.
H01 .801 48.5 Insignificant
Return On Net Worth
H02 Earning Per Share .480 69.9 Insignificant

H03 Net Profit Margin .480 69.9 Insignificant

H04 Return On Assets 1.643 12.6 Insignificant

H05 .160 93.7 Insignificant

Current Ratio

H06 2.082 4.1 Significant

Assets Turnover Ratio

H07 1.281 24.0 Insignificant

Capital Turnover Ratio

H08 .801 48.5 Insignificant

Total Income/Capital
Employed

50
Private sector banks

Ho1:-There is no relationship between securitization of NPA and Return on net worth

of Private sector banks.

The results of the U-Test (z=.801) indicate that at 48.5% level of significance the null
hypothesis is accepted. The findings clearly show that, securitization of NPA does not effect
the return on net worth of Private sector banks.

Ho2:-There is no relationship between securitization of NPA and Earning per share of

Private sector banks.

The results of the U-Test (z= .480) indicate that at 69.9% level of significance the null
hypothesis is Accepted. The findings clearly show that, securitization of NPA does not
effect the earning per share of Private sector banks.

Ho3:-There is no relationship between securitization of NPA and Net profit margin of

Private sector banks.

The results of the U-Test (z=.480) indicate that at 69.9% level of significance the null
hypothesis is Accepted. The findings clearly show that, securitization of NPA does not
effect the net profit margin of Private sector banks.

Ho4:-There is no relationship between securitization of NPA and return on assets of

Private sector banks.

51
The results of the U-Test (z=1.643) indicate that at 12.6% level of significance the null
hypothesis is Accepted. The findings clearly show that, securitization of NPA does not
effect the return on assets of Private sector banks.

Ho5:-There is no relationship between securitization of NPA and current ratio of

Private sector banks.

The results of the U-Test (z=.160) indicate that at 93.7% level of significance the null
hypothesis is Accepted. The findings clearly show that, securitization of NPA does not
effect the current ratio of Private sector banks.

Ho6:-There is no relationship between securitization of NPA and assets turnover ratio

of Private sector banks.

The results of the U-Test (z=2.082) indicate that at 4.1% level of significance the null
hypothesis is Rejected. The findings clearly show that, securitization of NPA effect the
assets turnover ratio of Private sector banks.

Ho7:-There is no relationship between securitization of NPA and capital turnover ratio

of Private sector banks.

The results of the U-Test (z=1.281) indicate that at 24% level of significance the null
hypothesis is accepted. Results of the linear regressions clearly show that, securitization of
NPA does not effect the assets turnover ratio of Private sector banks.

Ho8:-There is no relationship between securitization of NPA and TOTAL

Income/Capital Employed ratio of Private sector banks.

The results of the U-Test (z=.801) indicate that at 48.5% level of significance the null
hypothesis is accepted. The findings clearly show that, securitization of NPA does not effect
the total income/capital employed of Private sector banks.

Implication

1. The study is beneficial for all the public and private banks who want to securitize
there assets.
2. The study is helpful for further research.
3. The study helpful for the investor. Who wants to invest in banking sector.
4. The study is helpful for RBI.
52
 Suggestion

1. Some other major can be taken to evaluate the performance of banks.

2. The time period can be increase for further study.
3. A multinational study can be conducted to check the effect of securitization on the
performance of banks.
4. Some other factor can also be taken which effect the securitization process of
banks.

Summary

The study has been divided into five parts, first chapter includes introduction and it is sub-
divided into conceptual framework, literature review, rationale and objectives. In conceptual
framework all definitions and introduction about the topic is included, in literature review all
researches which have been done previously in the related field is included, rationale is the need

53
of the study, i.e. why we have done this research, the objectives include all the objectives of
carrying out the research. Second chapter is research methodology, which include the study,
sample design, tools used for data collection and tools used for data analysis. In the study I have
specified which type of study is this, like this one is a descriptive study and methodology used in
this through secondary data. Then, next is sample design which includes population, sample
element, sampling technique and sample size. Then, comes tools used for data collection, various
websites were used for data collection, the tools used for data analysis shows which type of tests
has been applied in this study, like in this research first of all eight different ratios was computed,
then linear regression is applied to check the significance level ,and hypothesis was prepared .
Third chapter is the results and discussion, which includes the results of the ratios and output of
SPSS software. Fourth chapter includes implications and suggestions. Fifth chapter is the
summary and conclusion, in the end references and annexure.

Conclusion

Securitization is the process of conversion of existing assets or future cash flows into
marketable securities. This study analyzed the impact of securitization of Non-Performing
Assets (NPAs) on the performance of public, and private, banks in India. The NPAs are
considered as an important parameter to judge the performance and financial health of
banks. The Regression results of the study showed that securitization process effect the
Return on net worth, capital turnover ratio, total income/capital employed effect the public
sector banks and there were no effect of securitization on the private sector banks. The
results of the U-test results showed that securitization of NPA effect the return on net worth,
return on assets, assets turnover ratio, capital turnover ratio, total income / capital employed
in public sector banks. Securitization of NPA does not affect the private sector banks.

54