The SEC has proposed rules to implement Section 943 of the Dodd-Frank Act, which requires the SEC to prescribe regulations on the use of representations and warranties in the market for asset-backed securities as follows:
- to require any securitizer to disclose fulfilled and unfulfilled repurchase requests across all trusts aggregated by securitizer, so that investors may identify asset originators with clear underwriting deficiencies; and
- to require each nationally recognized statistical rating organization (“NRSRO”) to include, in any report accompanying a credit rating for an asset-backed securities offering, a description of (A) the representations, warranties and enforcement mechanisms available to investors; and (B) how they differ from the representations, warranties and enforcement mechanisms in issuances of similar securities.
The Dodd-Frank Act requires the SEC to adopt these rules within 180 days of enactment of the Dodd-Frank Act.
In April of 2010, the SEC proposed rules that would revise the disclosure, reporting and offering process for asset-backed securities (the “2010 ABS Proposing Release”). Among other things, the 2010 ABS Proposing Release proposed new disclosure requirements with respect to repurchase requests. Specifically, the SEC proposed that issuers disclose in prospectuses the repurchase demand and repurchase and replacement activity for the last three years of sponsors of asset-backed transactions or originators of underlying pool assets if they are obligated to repurchase assets pursuant to the transaction agreements. These disclosure requirements would have applied to offerings of asset-backed securities registered under the Securities Act or asset backed securities offered and sold without registration in reliance upon Securities Act rules, which includes both offerings eligible for Rule 144A resales and other offerings conducted in reliance on exemptions from registration. The SEC also proposed that issuers disclose the repurchase demand and repurchase and replacement activity concerning the asset pool on an ongoing basis in periodic reports. As described in the proposed release, the SEC is re-proposing the disclosure requirements with respect to repurchase requests in Regulation AB in order to conform the disclosures to those required by Section 943 of the Dodd-Frank Act.
In the underlying transaction agreements for an asset securitization, sponsors or originators typically make representations and warranties relating to the pool assets and their origination, including about the quality of the pool assets. For instance, in the case of residential mortgage-backed securities, one typical representation and warranty is that each of the loans has complied with applicable federal, state and local laws, including truth-in lending, consumer credit protection, predatory and abusive laws and disclosure laws. Another representation that may be included is that no fraud has taken place in connection with the origination of the assets on the part of the originator or any party involved in the origination of the assets. Upon discovery that a pool asset does not comply with the representation or warranty, under transaction covenants, an obligated party, typically the sponsor, must repurchase the asset or substitute a different asset that complies with the representations and warranties for the non-compliant asset. According to the SEC, the effectiveness of the contractual provisions related to representations and warranties has been questioned and lack of responsiveness by sponsors to potential breaches of the representations and warranties relating to the pool assets has been the subject of investor complaint.
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