"In China, we see four types of credit enhancement, but in India, only three are common," says Elaine Ng, a Moody's Vice President and Senior Analyst.
"In Chinese auto ABS, the types of credit enhancements available are relatively similar to those commonly seen in deals issued in other markets, such as the US," adds Ng. "But, in Indian auto ABS, the types available are quite different and mainly tailored to reflect the fact that investors, who are mostly banks, buy into the deals to satisfy 'priority sector' lending targets set by the Reserve Bank of India."
For Chinese ABS, these four types of common credit enhancements are: (1) tranche subordination; (2) overcollateralization; (3) cash reserves; and (4) excess spread.
By contrast, in India, only three types are common: (1) cash reserves in the form of fixed deposits; (2) bank guarantees; and (3) excess spread.
Furthermore, the report notes that all Chinese auto ABS issued to date have at least two tranches, but this subordination is not common in India, where majority of deals have just one tranche as there is no equity tranche and usually only one investor.
Overcollateralization is used in some Chinese deals, but is not commonly used in Indian auto ABS. With the latter, investors can maximize their exposure to the underlying loan assets for the purposes of satisfying priority sector lending targets when there is no overcollateralization and the principal amount of the ABS matches the principal balance of the securitized portfolio.
The cash reserves in Chinese auto ABS provide more certain protection to investors compared with fixed deposits in Indian auto ABS, because these cash reserve accounts are directly owned by issuers. In Indian auto ABS, the issuer does not have legal ownership over the fixed deposit accounts, though there are mitigating protections in place to allow the issuer to operate and control the deposit account.
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However, not all Chinese auto ABS have cash reserves funded at closing and for some of those that do, there are limitations on the use of the reserve. Cash reserves in Chinese auto ABS are also smaller in proportion to portfolio size than the aggregate amount of fixed deposits and bank guarantees in Indian auto ABS.
Although excess spread is used as a credit enhancement in both China and India, slightly over half of Chinese deals maximize the benefit to investors by preventing these excess interest collections from leaking out to the equity tranche or the originator. In other Chinese deals and most Indian deals, excess spread can leak out to originators. The amount of excess spread that is generated varies between transactions in both China and India.
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