Moratorium, economic downturn raising risks for asset-backed securities

The high take-up of loan moratoriums and the economic downturn due to Covid-19 are increasing risks for asset-backed securities (ABS). According to Moody’s Investor Service, most ABS made structural changes between April and June to mitigate rising pandemic-related liquidity risks, though these only partially offset the growing credit challenges.
 

In the case of auto ABS rated by Moody’s, 70-100 per cent of the underlying loans (as percentage of the outstanding principal) are on  moratorium. This figure is 55-65 per cent in the case of micro, small and medium enterprises (MSMEs).

 

The moratorium has significantly reduced Indian ABS’ loan collections and increased liquidity risk, which is the risk that transactions’ cash flow will be insufficient to meet required investor payments. Lenders are not reporting loans under moratorium as delinquent. As a result, delinquency rates no longer provide a full picture of the extent of problem loans in the ABS portfolios.

Consequently, monthly collection ratios have become a more reliable performance indicator than delinquency rates for ABS.