Further to the release of its detailed Discussion Paper on Simple, Standard and Transparent ("SST") securitisations in October 2014 (see Edition 12 of this SCM Briefing for background), the European Banking Authority (EBA) has now released a detailed Report on qualifying securitisation, and its related Opinion, which have been sent to the European Commission setting out the EBA's advice on the development of a European legislative framework for "qualifying securitisation" (which also serves as the EBA's response to the European Commission's January 2014 Call for Advice in relation to Long Term Financing). Most of the EBA's recommendations reflect the content of its earlier Discussion Paper, and the EBA's proposed SST criteria are similarly set out. The EBA recognises that the regulatory approach to securitisations should distinguish between "qualifying" and other securitisations, with the definition of "qualifying" following a two-stage approach whereby a transaction meets a list of criteria ensuring simplicity, standardisation and transparency, and as a second step, the underlying exposures should meet minimum credit quality criteria (in the form of maximum risk weights, granularity criteria and regulatory underwriting standards). The EBA notes that the criteria ought to distinguish term transactions from short-term securitisations in the contact of asset-backed commercial programmes (ABCP). However, synthetic securitisations are not covered by the proposals. The EBA makes the following specific recommendations for a framework for "qualifying securitisation":
- A holistic (cross-product and sector) review of the regulatory framework for securitisations and other investment products (such as covered bonds and whole loan portfolios), extending to regulatory capital charges, liquidity regulation and operational requirements (including risk-retention, disclosure, due diligence, stress testing and reporting).
- Creation of a framework for "qualifying" securitisations, in accordance with a "two-stage" approach:
- Stage 1 - identify simple, standard and transparent securitisations via criteria that ensure the securitisation process does not add "excessive" additional risk and complexity on top of the assets being securitised; and
- Stage 2 - once criteria aimed at limiting credit risk are fulfilled, a given securitisation instrument could qualify for a lower capital treatment.
- The development of a specific criteria that should define "qualifying" term securitisations, under three "pillars", comprising the 22 criteria originally set out in the EBA's Discussion Paper:
- Pillar 1: "Simple" - qualifying securitisations should be 'traditional' securitisations as defined in the Capital Requirements Regulation (CRR), and not "resecuritisations"; they should not be characterised by active portfolio management on a discretionary basis; they should be characterised by true sale and not include severe insolvency clawback provisions (confirmed by legal opinion); they should be backed by homogenous pools of exposures that meet further origination and underwriting criteria; they should not include exposures subject to disputes, defaults or to credit-impaired borrowers; and at least one payment should have been made on the underlying exposures;
- Pillar 2: "Standard" - qualifying securitisations should fulfil the CRR risk-retention rules; they should mitigate interest rate and currency risks; referenced interest rates should be based on commonly-encountered market interest rates; transaction documentation featuring a revolving period should include specific provisions for early amortisation events; payment priority should be clear on the occurrence of a performance-related trigger; the documentation should specify the obligations of the trustee, servicer and other service providers, and contain provisions relating to an "identified person" with fiduciary responsibilities; and the management of the servicer should demonstrate expertise in servicing; and
- Pillar 3: "Transparent" - qualifying securitisations should meet the requirements of the Prospectus Directive, Article 409 CRR and Article 8b of the Credit Rating Agencies Regulation III (disclosure to investors); investors should have access to all underlying transaction documentation; the documentation should provide clear definitions, remedies and actions relating to delinquency and default; the transaction should be subject to mandatory external verification; investors should have access to default data and historical loss performance, as well as loan-level data on underlying assets; and investor reporting should occur at least quarterly.
- Stage two of the approach should be an assessment of:
- Credit risk criteria - underlying exposures should be originated in accordance with sound and prudent credit-granting criteria; the largest aggregated exposure to a single obligor in the pool must not exceed 1% of the aggregate outstanding balance (to comply with large exposures rules and ensure granularity); the underlying exposures must meet the conditions for being assigned and meet certain maximum risk-weights; loans secured by lower ranking security rights on a given asset should only be included if all loans secured by prior ranking security rights on that asset are also included in the securitisation; and no loan should be characterised by a loan-to-value ratio higher than 100%.
- The specific criteria that should define "qualifying" ABCP transactions broadly replicate the 3 "Pillars" of the term criteria (simple, standard and transparent), including the requirement to meet certain CRR definitions, true sale and transfer requirements, asset-type homogeneity, trigger requirements, documentation, reporting and disclosure requirements, and must also meet the credit risk criteria, in terms of stringent underwriting, servicing and collection standards, and restrictions on the underlying exposures. The EBA also describes how the three Pillars would apply to an ABCP programme, setting out programme-level criteria with which these transactions should comply.
- Re-calibration of the Basel Committee's 2014 Revisions to the Securitisation Framework (see the Feature Piece in Edition 14 of this SCM Briefing for a summary of the final framework) applicable to "qualifying" securitisation positions, such that the capital requirements for "qualifying" securitisation positions are revised downwards (based on a proposed revised calibration of the various inputs to the capital calculations), and based on a new 10% risk-weight floor for senior tranches. Some fairly technical re-calibrations (that would avoid unintended distortions but maintain a consistent level of capital charges) are proposed, which show (with accompanying tables and figures) that simple, standard and transparent securitisations should benefit from lower capital requirements.
Considering the question of which entity should be responsible for signing-off on deals as simple, standard and transparent, the EBA sets out six different options (involving independent, private third-parties, a public authority/supervisor, originators themselves and investors) and highlights the implications of each, without taking a view on its preferred option, rather noting that the eventual design must strike the right balance between the duties and obligations of investors and originators in proving compliance, and the need to provide the market with timely and uncontroversial compliance decisions. Note the Prime Collateralised Securities (PCS) Initiative has also been considering this issue, and we summarise its views on this topic elsewhere in the SCM Briefing (see under Key Developments).
Despite being merely a "Level 3" Committee (and thus not in fact able to propose law), the EBA is helpfully attempting to shape the EU approach to qualifying securitisations with some sensible suggestions. However, a single, globally-accepted definition of qualifying securitisation, and the criteria that denote it, must be established (by the Basel Committee) so that national regulators (including the European Commission) are operating on a global, level playing field when these rules take effect. The EBA does acknowledge this and notes that its proposals will have to be revisited depending on the progress and decisions taken by the Basel Committee in this regard. As noted elsewhere in this Edition of the SCM Briefing, the European Commission is due to release a legislative proposal following-up on its Capital Markets Union Green Paper and accompanying consultative documents, which is expected to include a proposal for "qualifying securitisation", in September 2015. It is to be expected that the EBA's Opinion and Report will be taken into account when the Commission is developing the European framework for qualifying securitisations (although whether the precise detail of the EBA's proposed criteria is maintained by the Commission remains to be seen).
European Banking Authority Discussion Paper (October 2014)