Pass-Through Certificates (PTCs)

Pass-Through Certificates (PTCs) are financial instruments issued as part of securitisation transactions, through which the cash flows generated from an underlying pool of assets are passed on to investors. In the Indian banking and financial system, PTCs play a significant role in liquidity management, balance sheet optimisation, and credit risk transfer. They enable banks and financial institutions to convert illiquid loan assets into tradable securities, thereby supporting efficient financial intermediation and credit expansion.
PTCs are particularly relevant in India’s evolving financial markets, where securitisation has emerged as an important tool for managing credit growth, capital adequacy, and systemic stability.

Concept and meaning of pass-through certificates

A pass-through certificate represents an undivided interest in a pool of underlying financial assets, such as loans, receivables, or asset-backed exposures. The holder of a PTC is entitled to receive a proportionate share of the principal and interest payments collected from the underlying assets.
The defining feature of PTCs is that cash flows are passed through directly to investors, after deducting servicing and other agreed expenses. Unlike fixed coupon bonds, returns on PTCs depend on the actual performance of the underlying asset pool.

Structure of PTCs in securitisation transactions

In a typical securitisation transaction, a bank or financial institution (the originator) transfers a pool of loan assets to a special purpose vehicle (SPV). The SPV finances this purchase by issuing PTCs to investors. The originator or a designated entity usually continues to service the loans on behalf of the SPV.
PTCs may be issued in multiple tranches with different risk-return profiles. Senior tranches generally carry lower risk and lower returns, while subordinate tranches absorb first losses and offer higher potential returns. This structuring enhances investor choice and risk allocation.

Regulatory framework in India

In India, the issuance and treatment of pass-through certificates are governed by securitisation guidelines issued by the Reserve Bank of India. These guidelines prescribe norms relating to asset eligibility, minimum holding periods, minimum retention requirements, capital treatment, and disclosure standards.
The regulatory framework aims to ensure that securitisation transactions are transparent, prudently structured, and do not lead to excessive risk transfer or dilution of lending standards. Compliance with these norms is essential for banks to achieve capital relief and off-balance-sheet treatment.

Role of PTCs in banking and financial institutions

For banks, PTCs provide an effective mechanism to release capital tied up in loan portfolios. By securitising assets and issuing PTCs, banks can improve liquidity, manage asset-liability mismatches, and enhance return on assets.
PTCs also allow banks to diversify funding sources and reduce concentration risk. Originators can recycle capital into fresh lending, thereby supporting credit growth without proportionate expansion of balance sheets.

Importance for investors and financial markets

For investors, PTCs offer exposure to diversified pools of underlying assets, such as retail loans, vehicle loans, or microfinance receivables. They provide an alternative investment avenue with risk-return characteristics that differ from traditional bonds.
Institutional investors such as mutual funds, insurance companies, and pension funds are key participants in the PTC market in India. The availability of rated tranches enhances transparency and facilitates informed investment decisions.

Contribution to credit flow and economic growth

At a macroeconomic level, PTCs support the smooth flow of credit in the economy. By enabling banks to manage capital and liquidity more efficiently, securitisation through PTCs helps sustain lending to priority sectors such as housing, infrastructure, and MSMEs.
PTCs also contribute to the development of India’s debt markets by expanding the range of investable instruments and promoting risk distribution across the financial system.

Risk considerations and challenges

Despite their benefits, PTCs involve certain risks. The performance of PTCs is directly linked to the credit quality of the underlying assets. Economic downturns, borrower defaults, or weak servicing can affect cash flows and investor returns.
Complexity in structuring, limited secondary market liquidity, and reliance on credit ratings are additional challenges in the Indian context. Regulators therefore emphasise robust due diligence, transparency, and alignment of incentives between originators and investors.

Distinction from other securitised instruments

Pass-through certificates differ from pay-through or structured obligation instruments, where cash flows may be modified or guaranteed. In PTCs, investors bear the timing and credit risk associated with the underlying asset pool, reinforcing the principle of risk transfer.
This structure makes PTCs a true reflection of underlying asset performance, aligning them closely with the fundamentals of securitisation.