R Ravimohan, managing director & region head for South Asia, Standard & Poor's, says the impact of the US subprime loan crisis may be positive for India, as some funds may be redirected towards "safe" countries.

However, he feels M&A and PE activity will slow down for some time. Excerpts from an interview with Rajesh Bhayani

What is the impact of the turmoil in the US subprime loan market?

Many problems have come to light in the US, though the market has clubbed all of them under subprime. After the subprime assets problem came to light, rating agencies have taken action and 300-400 collateralised debt obligation pools have been downgraded at one stroke.

Many of them have been downgraded by more than one stage depending upon their portfolio and the hit that they have taken. Though most of them have not defaulted, the spreads have risen three to four times and even 10 times in some cases. Spreads have risen by 40 basis points to 140 (in some cases even 240 basis points).

This has made the CDOs illiquid and burdened them with mark-to-market losses as the value of portfolios has grossly depreciated. Most of the larger losses, I feel, have already been announced and you can expect only smaller losses now, unless those who have announced big losses revalue their portfolios in the third quarter and come out with more losses.  

But globally central banks are pumping in huge money. Doesn't this suggest that the problem may be even bigger?

What has happened was that the CDO pools were not able to sell their debt as there were no buyers. Portfolios became illiquid either because buyers have no appetite or money for such assets or due to uncertainties over the extent of the price fall.

Many funds didn't want to sell them at current distressed prices and book losses. This has caused a temporary liquidity problem, which the central banks addressed. Asia doesn't have a big exposure in such assets and India's exposure (in such assets) is negligible.

How will this impact the future of the debt market?

The risk premiums have widened. Money was available earlier in the US without any track record. This scenario has changed for ever. Now no one will get loan without due risk premium.

This is good for the financial system but bad for those who are holding the portfolios, as prices of all papers, including AAA rated ones, have fallen and spreads have widened. The second impact is on project finances either through commercial banking or M&A deals.

Till now in big M&A deals, investment banks used to underwrite commitments which they were offloading in the market at a later stage. So the liquidity cycle was moving.

Many investment banks are now stuck with such commitments and are finding the going very tough. They have invested or committed investments and the rising spreads are making it difficult for them to fulfill commitments.

Henceforth, investment banks will find it costly to offer this facility and acquiring companies will have to go for the normal banking credit route. This is time-consuming and will result in a slowdown in M&A activity at least for three to six months.

How will PE investments be affected?

The slowdown will impact those whose sources of funds were leveraged. Those whose funds are not leveraged may start investing once the markets settle down. Many funds/investors have money but are not buying as they are not sure how long the downward trend will continue.

After some time, these investors will find some avenues for putting their money. This money will flow into S&P 500 companies, growth opportunities in countries such as India or even in gold. India may benefit positively as its growth story continues.

Will PEs be still attracted to realty?

Real estate prices are higher in India but that is more due to the holding power of developers. The buying speed has slowed down. Fresh funds from banks and private equity investors are drying up.

Prices will come under pressure once developers start feeling the fund crunch. We are also hearing that some securitised portfolios of housing loans are facing defaults. Crisil has already downgraded two CDOs.