A Feature piece in Edition 2 of this SCM Briefing summarised in detail the Basel Committee's complex proposals for a revised risk-weighting framework for securitisation transactions, and subsequent Editions have outlined the industry's push-back against those potentially damaging proposals. Having spent almost 12 months taking into account detailed industry comments and the results of the Quantitative Impact Study (QIS) carried out by the Basel Committee (as well as the alternative proposals put forward by industry groups), the Basel Committee has now published its long-awaited revised version of the proposals, in a second Consultative Document. The second Consultative Document represents a simplified re-working of the earlier proposal by modifying the proposed "hierarchy" of approaches, such that:
The proposed Modified Supervisory Formula Approach (MSFA) is replaced with a much simpler Internal Ratings-Based Approach (IRBA) that sits at the top of a single hierarchy and would be used for all securitisation exposures (other than "re-securitisation" exposures which would have to use the SA) providing the bank has sufficient information to calculate KIRB (the capital charge that would have applied had the exposures not been securitised). The capital requirement under the IRBA would depend on credit enhancement level and tranche thickness, as well as KIRB, and other inputs that determine the capital surcharge, or 'p' parameter (with some adjustments required when an SPV has entered into a derivative such as a currency swap).
The IRB Approach would be followed in the hierarchy by the External Ratings-Based Approach (ERBA) that is based on a simple look-up risk weight table (set out separately for short-term and long-term exposures, with the risk-weights not appearing to be overly punitive), where the risk weights vary by rating, seniority and maturity (one or five years), with the resulting risk weights for non-senior tranches to never be lower than the risk weight corresponding to a senior tranche of the same rating and maturity.
Helpfully, banks would still be allowed to use the Internal Assessment Approach (IAA) for unrated exposures to asset-backed commercial paper (ABCP) programmes.
For institutions that can use neither the IRBA or ERBA, a fall-back Standardised Approach (SA) would be used. The SA is a revision of the Simplified Supervisory Formula Approach (SSFA) set out in the first Consultative Document, and is intended to produce capital requirements that are, overall, slightly higher than those generated by the IRBA or ERBA.
Where none of the approaches can be used, a 1250% risk weight would be applied; the Backstop Concentration Ratio Approach proposed in the first Consultative Document has been removed from the latest proposals.
A further change is that the proposed 20% risk-weight floor for all securitisations is replaced by a proposed 15% floor, and the requirement for two ratings under the previous approach (now the ERBA) has been dropped. The Basel Committee seeks comments on the proposed introduction of a pro rata calculation of the maximum capital requirement and the imposition of a pro rata cap on capital requirements.
The second Consultative Document also sets out the proposed revised text of the existing Basel securitisation framework (paragraphs 538 to 643 of Basel 'II'), which the Basel Committee proposes to replace when the new securitisation risk-weighting framework takes effect (whenever that will be). The Basel Committee notes that the proposed modifications to the proposals will lead to "meaningful reductions in capital requirements vis-à-vis the initial proposals, yet would remain more stringent than under the existing framework".
Industry Working Groups studying the proposals are currently discussing the content of the second Consultative Document, which appears to impose less stringent requirements than the first Consultative Document but still has a potentially drastic impact on capital requirements for securitisation exposures. A further QIS will be carried out on the revised proposals, which will allow banks to provide greater detail of the precise impact of the proposed modifications. The Basel Committee requests comments on the second Consultative Document by 21 March 2014, with the final standard to be published "within an appropriate timeframe", subject to implementation arrangements.
Basel Committee's Second Consultative Document