Moody's: Decentralized servicing means greater operational risks for Indian securitization deals

Moody's Investors Service says that Indian securitization transactions that rely on decentralized servicing -- whereby repayments for the underlying loans are collected or paid in person -- are subject to greater levels of operational risk than where repayments are collected via centralized servicing through the country's financial and payment system.

When servicing is decentralized, operation risks are higher because any failure on the part of the servicers to perform their duties would significantly disrupt the collection of loan payments.

The proportion of securitized portfolios requiring decentralized or centralized servicing generally varies between different asset classes in India. In the case of auto loan ABS, 40% to 70% of specific securitized portfolios may require decentralized servicing with repayments collected by servicers in person or paid in person by borrowers at local branch offices.

Furthermore, Moody's notes that the transfer of servicing duties from one provider to another would generally be more complex for securitization deals that rely on decentralized servicing, given the need to perform collections in person.

If a service provider is unable to perform its duties, the quick transfer of those duties to a new party is important to limit operational risk.

The presence of back-up servicer arrangements at the outset of Indian securitization transactions can reduce the operational risks faced by deals. If such arrangements are not in place from the outset and the servicer fails, it would be challenging to identify and to subsequently engage an effective replacement.

Nonetheless, although a back-up arrangement can reduce operational risks, it may not necessarily prevent losses from occurring if the replacement servicer fails to achieve the same level of loan collections as the original servicer.

At the same time, the current availability of effective third party servicers in India is limited, particularly in the case of decentralized servicing. For the alternate servicer to be effective, it should have a similar geographic reach and ability to service the portfolio requiring decentralized servicing.

In securitization transactions that rely on decentralized servicing, delinquencies can also increase significantly if there is a disruption in servicing, because borrowers may change their repayment behavior.

In such cases, very high levels of credit enhancement in securitization transactions that rely on decentralized servicing can provide significant coverage against the expected increase in losses upon servicing disruption.

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