The decline in the real estate sector has begun to have a notable impact on the securitization of loans aimed at the industry. Demand for such securities has diminished as debt mutual funds become increasingly cautious, subsequently reducing their exposure to these securities, which are considered among the most illiquid of tradable instruments.
As of March 2008, the total market for loan securitization stood at Rs 31,000 crore, with real estate loan securitization making up 20% of that entire market. Both ICICI Bank and the State Bank of India have refrained from providing comments on this situation.
It is permissible for banks or non-banking financial companies (NBFCs) to sell loans as securitized instruments. Mutual funds emerge as the principal buyers of these instruments, with the returns associated closely linked to the ratings of the original loans. Once securitized, the loan effectively vanishes from the portfolios of banks or NBFCs, who then inform borrowers that their loan has transitioned to an investor's ownership.
From a borrower's perspective, this change might result in less transparency in the loan process. Borrowers continue to make repayments to the Special Purpose Vehicle (SPV) that houses the securitized paper, rather than directly to the original bank or NBFC. Banks benefit by closing the gap between lending at one rate and selling the loan at a higher return.
Rajiv Shastri from Lotus Mutual Fund remarked, "We have been very wary about these loans from the very beginning, primarily because they didn’t offer high asset coverage. Most papers circulating in the market provided only one-and-a-half times asset coverage, which is negligible if prices begin to decline. Just last November-December, we only accepted two papers that provided coverage of 3-4 times."
Various debt funds from firms like Reliance, DWS, and HSBC have been quite aggressive in acquiring real estate loans. Reliance Mutual Fund's CEO Vikrant Gugnani noted, "We are more cautious in today’s conditions like anyone else. We have always maintained a conservative approach to our investment policy, and we continue this trend."
According to BNP Paribas's Chief Investment Officer (CIO), Mr. Ram Kumar, "If a loan is taken out by a major real estate company, the rating will typically be higher, attracting more buyers for such securities. We evaluate these investments like any other instrument despite their illiquid nature. However, we have ceased investing in them as of late. We were active in the market two years ago, but things have shifted."
Additionally, many other fund managers have also shifted their investment strategies accordingly. Over the last two years, the Reserve Bank of India has increased the risk weight for commercial real estate loans to 150% and has repeatedly issued guidelines to banks to limit their exposure to this sector. Nonetheless, real estate loans still account for a minor portion of many banks’ balance sheets, thereby enabling continued financing of real estate assets.