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Central Board of Direct Taxes (CBDT) and accounting rule-maker Institute of Chartered Accountants of India (ICAI) have jointly constituted a study group to identify and address direct tax issues that will affect convergence of India’s accounting standards with International Financial Reporting Standards (IFRS).With IFRS convergence due for April 2011 and the government coming up with the new Direct Taxes Code (DTC), the suggestions of the study group finds relevance.

Source: Economic Times

Automatic FDI route to close for 10 sectors

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Keen to beef up national security, the government plans to slap new entry route restrictions on foreign direct investment (FDI) beyond 49% in eight specified “sensitive” sectors, including airports, seaports, pharma, petroleum refining and gas pipelines. In all these sectors, 100% FDI through the automatic route is permitted now.Once a stricter policy is in place, proposals to expand FDI beyond 49% in these sectors would have to be vetted by the Foreign Investment Promotion Board (FIPB), official sources said.

Source: Indian Express

SEBI extends stock lending, borrowing tenure to 12 months

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The Securities and Exchange Board of India (SEBI) has extended the tenure of contracts for stock lending and borrowing (SLB) up to a maximum period of 12 months, as it tries to revive the comatose segment.SLB was introduced in April 2008, starting with a contract tenure of seven days. With hardly any interest from market participants in the product, the regulator increased the tenure to 30 days in November that year. But even that has not helped in attracting investors to the SLB window.

Source: Economic Times

BlackRock engaged in discussions with Barclays Bank plc

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As per the press release issued by BlackRock, Inc., it confirmed that negotiations are ongoing with U.K.’s third-largest bank, Barclays Bank plc, about the potential purchase of Barclays Global Investors (BGI), including the iShares business. The negotiations are ongoing and there is no certainty that any transaction will be agreed upon or, if agreed upon, completed.

About BlackRock
BlackRock is one of the world’s largest publicly traded investment management firms. At March 31, 2009, BlackRock’s AUM was $1.283 trillion. The firm manages assets on behalf of institutions and individuals worldwide through a variety of equity, fixed income, cash management and alternative investment products. In addition, a growing number of institutional investors use BlackRock Solutions investment system, risk management and financial advisory services. Headquartered in New York City and has employees in 21 countries and a major presence in key global markets, including the U.S., Europe, Asia, Australia and the Middle East.

Meaning of Securitization

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It is an innovative fund raising process which came into existence in the late 1970’s and has multiplied phenomenally over the years. The crux of the concept on which this process is based is the grouping or pooling of assets with predictable and pre-defined cash flows structure or rights on future expected cash streams and the re-engineering or re-packaging of such cash flows into financial instruments or securities that are then sold to investors. Such cash flows can accrue out of loans, trade receivables, mortgages, royalties etc.

The term “securitization”, itself is derived from the fact that securities are the final mode of financial instruments which are issued to investors to obtain funds.

As any asset with an associated stream of cash flows can be securitized the securities which result from a securitization transaction are termed as Asset Backed Securities and the transaction itself is termed an Asset Backed Securitization (ABS). With more such issuances being based on underlying mortgage based loans, Mortgage Based Securitization (MBS) became widely popular.

Securitization Practices – Crystallization of the crisis

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Once mortgage backed securities started flooding the markets, the banks and financial institutions also resorted to securitization of the pool of assets to shift the risk to investors in these securities as well as to obtain funds well ahead of the scheduled tenor of these assets. This implied that originators/issuers could repeatedly re-lend a given sum, greatly increasing their fee income and providing a multiplier effect of the underlying notional. Securitization resulted in a secondary market for mortgages, and the lenders were no longer required to hold them to maturity. With increasing securitization deals being struck, and the resultant transfer of default risk, the issuers lowered their underwriting practices to increase their loan disbursements.

The flair for securitization i.e. mortgage backed securities accelerated in the 1990s and total amount of mortgage-backed securities issued tripled between 1996 and 2007, to $7.3 trillion. Alan Greenspan has commented that credit crisis cannot be blamed on sub-prime mortgages alone, but rather on the securitization of such mortgages which created a notional far exceeding the actual value of the underlying assets actually available. The credit risk in sub-prime mortgages got passed on to other investors through the securitization mechanism and with a wide arena of investors globally, the impact of the credit crisis is felt on a global level.

Leveraging on the bubble in sub-prime crisis

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During 2004 to 2007, further to the drop in interest rates, many investment banks opted to leverage on the situation as they found it beneficial to raise large amounts of debt at cheaper rates and invest in mortgage backed securities on the impression that housing boom will continue.

During the boom the traders in Wall Street were eying on the bonuses available end of year and not the long term impact on the firm or the market. According to the New York State Comptroller’s office, Wall Street executives have bagged in bonuses totaling @23.9 billion in 2006.

Though profitable during boom, it had adverse impact on such institutions during drop in housing rates and increase in mortgage delinquencies and foreclosures.

After an SEC ruling in 2004 which relaxed the amount that can be raised as debt by investment banks, debt issuances multiplied. Leveraging by top five US investment banks rose phenomenally to over $4.1 trillion for fiscal year 2007, which is about 30% of US nominal GDP of 2007. These were the 5 banks which crumble under the weight of the crisis. One of them viz. Lehman Brothers went bankrupt. Two of them viz., Bear Stearns and Merrill Lynch were sold of at dead low prices.

Two more viz. Morgan Stanley and Goldman Sachs converted themselves into Commercial Banks to avail financial support from the Federal Reserve succumbing to stringent regulation.

Federal Reserve policies in sub-prime crisis

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Lowering of interest rates in the early 2000s was taken up by the Federal Reserve to negate the effect of the Information Technology bubble earlier based on the premises that the rate could be lowered as long as the inflationary pressure was being kept low.

The low interest rates contributed to the housing bubble.

Government Policies in sub-prime crisis

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US government got more inclined towards the mortgage industry to make home purchases more favorable and ended up fanning the boom by relaxing lending standards of Fannie Mae and Freddie Mac.

This has increased the ownership in residential mortgages of the government sponsored enterprises viz. Fannie Mae and Freddie Mac to a staggering $5.1 trillion.

This assumes importance when looked at in relation to net-worth of GSE’s as of 30th June 2008 which was a mere $114 million which raises serious doubts on their ability to service their guarantees.

Housing Bubble in sub-prime crisis

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Starting from the late 90’s, American households have been spending more than their disposable personal income on consumption or interest payments on account of low interest rates, foreign investments in a booming market and rising housing prices (approx 124% between 1997 and 2006) which added to their confidence in the economic indicators.

The sub-prime lending added on to the increase in home ownership rates and demand for housing by giving easy access to low profile borrowers to invest in a booming real estate market and thereby resulting in home ownership rate increasing from 64% in 1994 (it has been at a similar rate since 1980) to 69.2% in 2004 as per the reports by US Census Bureau on residential vacancies and homeownership.

The spurt in housing resulted in homeowners resorting to refinancing of homes at lower interest rates, or taking second mortgages on homes to enhance their spending and other needs and ended up in household debt as a percentage of annual disposable personal income @ 134% by the end of 2008 against 77% in 1990 at a staggering $14.5 trillion.

Though these mortgages attracted borrowers with a sub-prime rate for some fixed period initially, when borrowers were unable make the higher payments once the initial grace period ended, they tried to refinance their mortgages. Once house prices started to crash (by over 20% from their peak in 2006), refinancing became more and more difficult and borrowers burdened by high monthly payments began to default. Borrowers can resort to just walk away from their mortgages and abandon their homes in-spite of the consequence of damaging credit rating. Moreover, US residential mortgages are non-recourse loans i.e. if creditor repossesses the property purchased with a mortgage in default he has no further claim against defaulting borrower’s income/assets. With more defaults and foreclosures, supply of homes for sale rises moving prices downward, and along with it the homeowners’ equity. This also reduces the value of mortgage-backed securities, which erodes the capital of banks dealing with such securities. This has formed a vicious cycle which is at the heart of the crisis.