Contents

Structured Finance

Recycling risk?

STS synthetic exclusion scrutinised

The European Commission's Capital Markets Union proposals for reviving Europe's securitisation market sparked the most debate among players in the capital relief space this year, according to a new SCI research report entitled 'Capital relief trades: the mechanics of recycling risk'. Under the framework for simple, transparent and standardised (STS) securitisation, synthetic balance sheet transactions remain ineligible for high quality status (SCI 30 September), yet capital relief trades can benefit the real economy.

Som-lok Leung, executive director of the International Association of Credit Portfolio Managers, has argued that retained risk from a tranched cover should not automatically be scoped out of a STS designation because of its synthetic form or alleged opaqueness. "The banking supervisors have full transparency on these portfolios as they are included in general supervisory reviews that they exert on banks. In case the STS criteria defined for true sale ABS gives rise to a differentiated prudential capital treatment - especially for senior tranches - then if prudential banking supervisors are satisfied with the significant risk transfer, retained exposures should be allowed to qualify for that differentiated treatment based upon similar but distinct criteria defining best practice in that area," he stated in a response letter in June to the Basel Committee and IOSCO.

Leung uses the term 'tranched cover' to try to explain the function more literally and in the hope of erasing the stigma associated with synthetic transactions. He also emphasises how sophisticated investment managers have proved how such capital relief trades, if properly structured to align interests, are managed prudently.

"It would be virtually impossible to execute such a transaction if they were not structured in this way," he asserts.

A response to the US SEC from Orchard Global Asset Management emphasises this point: "We use various methods to ensure interests are aligned between the originating bank and ourselves and are active in ensuring that these meet our standards and are enforced for the life of the transactions. These transactions form an important part of the investing strategy for ourselves and our investors, and we believe we are able to meaningfully contribute to bank recapitalisation," the firm noted.

Georges Duponcheele, head of banking solutions at BNP Paribas, says synthetic transactions are important for some jurisdictions, such as Austria - where legal true sale is known to be problematic - and in Germany as a way to manage the SME risk on the balance sheet, since many German SMEs refuse to see their banking loans sold to SPVs under true sale even if there is no legal impediment. "Not having a well-designed synthetic framework does not give those banks all the available tools to manage their risk," he observes.

One hedge fund manager argues that allowing appropriately structured synthetic securitisations a 'qualifying' status could help attract more investors to the market, especially if originators are given a more favourable regulatory treatment because of it. He believes that the EBA is considering the case for synthetics qualifying for a high quality status under the STS framework.

However, Rasheed Saleuddin, portfolio manager at West Face Capital, says he does not see what the STS framework brings to the table. "It is ironic that regulators are so ultra-keen on simple, transparent and standardised true sale, as opposed to synthetic, securitisation to fix the market when capital recycling trades that might help the real economy - as opposed to relaxing already very cheap funding that banks can achieve through the ECB repo or TLTROs - are opaque, customised, synthetic, illiquid and complex," he tells SCI.

"The problem is that regulators clearly have AIG or monoline insurers on their minds when thinking about the systemic risk issues involved in facilitating insurance company investing in securitisations; hence the punitive nature of the planned capital requirements under Solvency 2," he adds. "But no insurance company I know of has a business model involving as near as much leverage as AIG. In fact, insurance money is remarkably stable. As a result, if securitisation is to grow, insurers must be incentivised rather than punished for investing in the asset class."

For more on how regulatory developments are impacting capital relief trades, download SCI's new research report - 'Capital relief trades: the mechanics of recycling risk'. The executive summary - which highlights how risk transfer is achieved, originator and investor motivations and processes, syndicated versus bilateral issuance, and current barriers to entry - can be accessed here.

Secondary markets

Euro secondary lull continues

The lull in activity seen at the end of last week in the European securitisation secondary market carried over to another quiet session yesterday.

With most secondary market participants pre-occupied with month-end there was little investor activity and only very patchy and light flows from dealers, nor were there any European BWICs. However, market tone remained positive with spreads broadly unchanged on the day; and some momentum looks to be returning at this morning's open.

There are currently two BWICs on the European schedule for today. At 15:00 London time there is a two line CMBS auction comprising €7.687m EPICP DRUM A and €3.405m TAURS 3 A. Only EPICP DRUM A has covered on PriceABS in the past three months - at 88.71 on 5 November.

At 15:30 there is a four line €12.2m CLO and CDO mix consisting of: BOPHO 1X A, CORDA 2006-1X A1, HARVT V A1D and PANTH V-A A1. Two of the bonds have covered with a price on PriceABS - CORDA 2006-1X A1 at 98.25 on 23 September and PANTH V-A A1 at 95.1 on 7 September.

Secondary markets

US CLO slow return

The US CLO secondary market is slowly getting back to some semblance of normality after a quiet holiday-shortened week last week.

Yesterday only saw one BWIC and one OWIC, both primarily involving equity pieces. In both cases more than usually extensive colour was released.

The 2.0 equity OWIC had two line items trade - BHILL 2013-1X E at 71a and DRSLF 2012-24X SUB at 39h. There were also markets in two other items - REGT3 2014-1X SUB at 50/69 and REGT4 2014-1X SUB at 58/75.

Meanwhile, none of yesterday's six BWIC line items traded. However, details of post-auction offers and one market were released for the bonds involved, as follows: GALE 2007-4X INC at 40a; MDPK 2014-15X SUB at 83/88; PCDO 2006-6A SUB at 50a; PCDO 2006-6X SUB at 50a; REGT5 2014-1A SUB at LM60s; and TRNTS 2015-3X SUB at MH70s.

The BWIC schedule is now gradually building for the remainder of this week. There are currently three lists on today's calendar.

The largest is a 16 line $38.725m mix of triple-B to equity tranches due at 11:30 New York time. It comprises: ACASC 2014-2A SUB, ACASC 2015-1X E, ACASC 2015-1X F, ACASC 2015-2X E, BTNY 2015-1X E, BTNY 2015-1X F, BTNY 2015-1X SUB, CRMN 2014-2X SUB, CRMN 2015-1X E, CRMN 2015-1X SUB, HLA 2015-2X D1, JTWN 2015-7X C, LROCK 2014-3A SUB, LROCK 2014-3X E, OCT23 2015-1X D and SYMP 2015-16X D.

None of the bonds has covered on PriceABS in the past three months.

Secondary markets

Euro secondary picking up

Activity in the European securitisation secondary market is starting to pick up.

"Yesterday was very quiet again with not a lot of flows or BWICs," says one trader. "However, it appears to be picking up today and the BWIC calendar is building for the rest of the week, though involving a lot of off-the-run securities."

The most active sector yesterday was CLOs, the trader reports. "There was a 1.0 seniors BWIC, which traded in line with previous days' levels, so the momentum there has kept going, and off-BWIC we saw buying interest in 2.0s. So, it seems like there's a good bid for CLOs in general and with only one new deal looking likely to price in the remainder of the year - Tymon Park - that could continue."

Yesterday also saw a Portuguese OWIC, which helped to bring spreads in across the sector, the trader says. "It involved high-end non-eligible bonds but it gave the market a boost after all the political concerns surrounding it. Admittedly Portuguese paper is currently so illiquid that one buyer is enough move the market, but the covers were encouraging enough - LUSI 5 A at 80 and MAGEL 3 A at 86.5 - to improve Portuguese paper in general."

Elsewhere, the trader adds: "We're continuing to see a continuation of the same themes of recent weeks with not much striking or new happening. Most notably, buy-to-let is still creeping up, but it's now on volumes that are so low it's difficult to draw any real conclusion from the movement."

There are five BWICs on the European schedule for today so far. The chunkiest of which is a seven line 46.7m original face mixed auction due at 15:00 London time.

The list comprises: ALBA 2006-1 E, ESAIL 2007-NL2X B, ITALF 2007-1 D, LGATE 2007-1 DB, LGATE 2008-W1X CB, MAGEL 4 C and RMACS 2006-NS3X B1C. None of the bonds has covered with a price on PriceABS in the past three months.

Secondary markets

US RMBS still quiet

The US non-agency RMBS secondary market is still quiet after the return from Thanksgiving and could now stay that way for some time.

"It's been fairly quiet this week so far with about $200m in for the bid on Monday and Tuesday," says one trader. "Today is a bit busier but is dominated by a large AON list from a money manager, which involves around $450m current face of mostly POA seniors."

However, the trader suggests that any further pick-up in activity is unlikely. "I get the feeling trading is already starting to slow down in advance of the Fed meeting in two weeks."

Further, the trader adds that the risk-off attitude could extend beyond that meeting. "We still have the same negative issues in the world - related to commodities, currencies, rates, heavily indebted countries, and so on - that are not going anywhere anytime soon and at the same time we're seeing more hedge funds giving back client money and/or having large redemptions. Combine that with primary dealers closing or reducing their fixed income desks and it looks like it could be a challenging first quarter of 2016 for RMBS."

Secondary markets

Euro secondary keeps busy

The upswing in activity in the European securitisation secondary market is continuing.

Yesterday saw a pick-up in trading across the board both on- and off-BWIC. Notably, prime assets returned to form and a strong buying bias, in Dutch RMBS in particular, saw spreads in both ABS and MBS generally tighten.

Meanwhile, Portuguese paper continued to outperform in peripherals and ended the day slightly up. Equally, non-conforming and buy-to-let bonds are still edging tighter.

While market tone remains very positive, this morning may see some caution with participants awaiting today's ECB press conference. Nevertheless, there are seven BWIC already on the European schedule for today offering a wide range of deal types and jurisdictions.

The longest list is a €74.85m ten line auction mixing a Greek ABS and nine tranches of 1.0 CLO mezz. It comprises: AEOLO 1 A, AQUIL 2006-1X D, AQUIL 2006-1X E, EUROC V-X D, HARVT V D, HEC 2006-2NX D, HEC 2007-3X D, HSAME 2007-IX D, JUBIL VII-X E and NPTNO 2007-1 E1. Four of the bonds have covered with a price on PriceABS in the past three months - AQUIL 2006-1X D at 93.22 on 23 November; AQUIL 2006-1X E at H80S on 21 October; HARVT V D at 88.5 on 7 October; and JUBIL VII-X E at 90.2 on 21 October.

Secondary markets

US CLOs dormant

The US CLO secondary market has failed to shake off its pre-Thanksgiving dormant state.

"It's a very slow day today," says one trader. "That's partly because quite a few people are away at a conference in California, but overall the market is dormant and looks unlikely to shake that off - right now it really seems like everyone is just sitting and waiting for year-end."

The trader continues: "There are only a few small lists on the BWIC schedule with nothing of significance on them. So, we're unlikely to see the market move today."

At the same time, the trader says there's no external spark to drive the market either. "People are seeing marks come in, but there's nothing to indicate we'll see any big redemptions or anything else to push people into the market and make them trade. Meanwhile, the CLO market continues to grind lower with no real sense of any end to it and we're certainly not near the bottom from a loans perspective."

The recent spate of CLO equity OWICs did briefly generate some interest but it came to nothing the trader says. "All that happened was people used the prices seen on the OWICs to make really wide markets and all that shows me is that part of the stack is completely broken."

There are currently three BWICs on the US CLO schedule for today. The largest of which is a two line auction due at 11:00 New York time involving $3m BNPIP 2014-2A B and $1.75m VERI 2006-2A C. Only the latter has covered on PriceABS in the past three months - at MH90s on 8 October.

Secondary markets

Euro secondary holds up

The European securitisation secondary market is holding up amid weakness in broader credit following the ECB press conference yesterday.

Secondary spreads saw little ECB impact yesterday - with the changes to the ABSPP already factored in, most sectors closed the day unchanged. Flows were patchy and name specific with prime RMBS and autos once more at the forefront, while peripherals continue to see buying interest. Meanwhile BWICs saw strong execution throughout the day.

There are currently no BWICs on today's European schedule. However, there are two OWICs.

First, due by 13:30 London time is a UK buy-to-let auction involving: AUBN 9 A, PARGN 10X A2A, PARGN 12X A2A, PARGN 14X A2A, PARGN 21 A and PARGN 22 A2. Then due by 15:30 are up to €50m pieces each of GNKGO 2013-SF1 A and KIMI 3 A.

ABS

Fund lists ahead of ABS

Funding Circle has listed its SME Income Fund on the London Stock Exchange after successfully raising the required target of £150m. The move signals the opening up of Funding Circle's loans to a potential global investor base and precedes the platform's inaugural securitisation (SCI 4 November).

Sachin Patel, global co-head of capital markets at Funding Circle, expects the platform's securitisation to be "the first-ever ABS of prime marketplace originated SME loans". It would also mark the first ABS of SME loans in the UK in over a decade.

A securitisation is not only aimed at raising capital, but also further facilitates the goal of increasing the status of SME loans with investors. Patel emphasises that any rating assigned to the securitisation would provide an additional "stamp of credibility" for the asset class. He adds that the securitisation of Funding Circle loans and those of other marketplace platforms could help boost the wider economy as a whole.

Meanwhile, the Funding Circle IPO "achieves the objective of broadening the Funding Circle marketplace to a whole new range of investors and providing them 'pure' access to this SME loan asset class for the first time", according to Patel. He says that the fund is "quite a vanilla investment product, more similar to an ETF or tracker fund", due to the way it offers passive exposure to the global SME loan asset class in a very low cost equity wrapper. The structure mirrors the investment options provided to ordinary investors via the Funding Circle marketplace platform.

The firm intends to accelerate growth of the fund throughout the rest of 2015 and into 2016, aiming to potentially double its size through a class C share issuance.

Patel is enthusiastic about the quality of SME loans and notes that as an asset class they provide a "huge amount of data going back to 1939, which makes them similar in many ways to other forms of debt" and means they are "eminently investable and securitisable".

RB

Structured Finance

SCI Start the Week - 30 November

A look at the major activity in structured finance over the past seven days

Pipeline
The pace of pipeline additions slowed last week due to Thanksgiving. The final count consisted of three ABS, one ILS, one RMBS, three CMBS and one CLO.

US$713m Castlelake Aircraft Securitization Trust 2015-1, A$190m Liberty Series 2015-1 Auto and SC Germany Consumer 2015-1 accounted for the ABS. The ILS was US$200m Nakama Re 2015-1 and the RMBS was US$590m STACR 2015-HQA2.

US$766.5m CSMC 2015-GLPA, US$764m CSMC 2015-GLPB and US$1.25bn FREMF 2015-KF12 were the CMBS. The CLO was US$504.25m Jamestown CLO VIII.

Pricings
There were nine ABS prints, just as there had been in the week before. There were also three RMBS, three CMBS and two CLOs.

The ABS were: €316m A-Best 13; €800.4m Bavarian Sky 4; £3.3bn Driver UK Master 2015; US$400m NRZ Advance Receivables Trust 2015-ON1 2015-T3; US$400m NRZ Advance Receivables Trust 2015-ON1 2015-T4; €724m ProFamily Securitisation 2015; US$198.4m South Carolina Student Loan Corp 2015-A; Sfr337.6m Swiss Car ABS 2015-1; and €882.2m VCL Master Residual Value Compartment 2.

€726m Grecale RMBS 2015, US$217.3m Nationstar HECM Loan Trust 2015-2 and US$520m New Residential Mortgage Loan Trust 2015-2 were the RMBS, while the CMBS were US$1.5bn FREMF 2015-K50, US$705m Lone Star Portfolio Trust 2015-LSP and US$176m Ready Capital Mortgage Trust 2015-2. The CLOs were €2.53bn FONCAIXA PYMES 7 and US$400m KKR CLO 13.

Editor's picks
Utility factor: Puerto Rico Electric Power Authority (PREPA) plans to exchange newly issued utility cost recovery charge ABS bonds to its uninsured bondholders as part of an agreement to reduce its debt burden. The deal remains in limbo for now, however, as PREPA continues thrash out details with the bondholders yet to sign up...
Fighting Irish: The performance of Irish RMBS continues to improve against the backdrop of a stable economy. A potential slowdown in the recovery and lingering NPLs point to a number of challenges, but a dramatic downturn is not anticipated...
Euro secondary stays strong: Despite weaker global markets and reduced volumes, the European securitisation secondary market is still showing some strong signs. "Tuesday was a bit quieter, with flows minimal across most sectors as a result of weakness in broader credit, thanks to increasing global political tension," says one trader. "However, we saw some strong activity and prints around BWICs..."

Deal news
• Renovate America has issued the first ever 'green' PACE securitisation. HERO Funding Trust 2015-3 represents 8,939 home improvements made to reduce energy or water consumption or produce renewable energy.
• Latitude Financial Services - the renamed GE Consumer Finance business acquired by KKR, Varde Partners and Deutsche Bank - has closed a pair of revolving ABS transactions. Rated by Fitch, the NZ$972.9m New Zealand Sales Finance and Credit Cards Trust and A$3.76bn Australian Sales Finance and Credit Cards Trust programmes are backed by New Zealand and Australian consumer receivables respectively.
• BSEC has launched a trade receivables securitisation for Debbané Frères, a provider of agricultural solutions in Lebanon. Dubbed Debbane Agri SIF, the US$13.3m transaction is believed to the first of its kind in the local market and channels financing to support agriculture, an underserved vital economic sector in Lebanon.
• Victory Park Capital (VPC) has closed a pair of securitisation financings: a A$100m ABS warehouse programme with zipMoney, an Australian digital retail finance provider; and a US$175m marketplace lending transaction - dubbed zipMoney Trust 2015-1 - alongside KKR.
• Freddie Mac has obtained the largest insurance policy to date under its Agency Credit Insurance Structure (ACIS) programme. The transaction transfers much of the remaining credit risk associated with the fourth actual loss STACR offering, STACR Series 2015-DNA3.
• Hayfin Capital Management has made a request to the English High Court to decide how interest should have been calculated on the payment of class X notes in Windermere VII CMBS. The bonds were structured to continue paying following the default of the underlying loans.
• Patriarch Partners has filed a Chapter 11 bankruptcy petition for Zohar CDO 2003-1. The firm says its actions are a result of it trying to protect against efforts by MBIA to obtain the assets of the transaction.
• S&P has withdrawn its ratings on all notes, except one, issued by Ballantyne Re. The agency says it received a request from the sponsor of the ILS, Scottish Re (US), to withdraw the ratings in 2010 but opted to maintain unsolicited ratings due to potential market interest.

Regulatory update
• The Australian Prudential Regulation Authority (APRA) has released a paper that sets out revisions to the country's prudential framework for securitisation. The regulatory body intends to simplify the rules, in order to strengthen the funding profile for market players and add clarity for entrants looking for capital benefits.
• The US Bipartisan Budget Act of 2015 - signed earlier this month - is set to impact the tax treatment of a variety of securitisation structures. The act replaces a longstanding set of statutory provisions governing the audit and adjustment of partnership income tax returns.
• The China Asset Securitisation and Structured Finance Professional Committee has held its inaugural meeting, after being established under the leadership of the People's Bank of China. The committee, also known as the Inter-Bank Market Dealers Association, will explore ways of improving institutional arrangements for securitisation in China, specifically through conjunction with regulatory authorities.
• ESMA and the Securities and Futures Commission (SFC) of Hong Kong have concluded a memorandum of understanding that will allow the exchange of information on derivative contracts held in trade repositories. The agreement allows both regulatory bodies to have indirect access to trade repositories established in the EU and Hong Kong respectively.
• The Hong Kong Securities and Futures Commission (SFC) has opened a consultation on proposals to update the guidelines for regulating automated trading services (ATS). The proposals are presented in a paper which primarily covers potential regulatory changes to encompass OTC derivative transactions.

Deals added to the SCI New Issuance database last week:
AMMC CLO 17; Avery Point VII CLO; B2R Mortgage Trust 2015-2; Bavarian Sky China Trust 2015-2; Bavarian Sky Compartment Germany Auto Leases 4; Canadian Commercial Mortgage Origination Trust series 2015-3; CNH Capital Canada Receivables Trust series 2015-2; CSMLT 2015-2 Trust; Driver UK Master Compartment 2 series 2015-1; Eagle Credit Card Trust 2015-1; Freddie Mac Whole Loan Securities Trust series 2015-SC02; FREMF 2015-K50; Genesis Trust II series 2015-2; Go Financial Auto Securitization 2015-2; HERO Funding Series 2015-3; Hudson's Bay Simon JV Trust 2015-HBS; JPMBB 2015-C33; MSBAM 2015-C27; SMART ABS series 2015-4E Trust; SoFi Professional Loan Program 2015-D; Swiss Car ABS 2015-1; TCF Auto Receivables Owner Trust 2015-2; VCL Master Residual Value Compartment 2 2015; Westgate Resorts 2015-2; WFCM 2015-NXS4

Deals added to the SCI CMBS Loan Events database last week:
COMM 2013-CR10; CSMC 2006-C4; CSMC 2006-C5; EURO 30; GMACC 2006-C1 & GECMC 2006-C1; JPMCC 2010-C1; TITN 2006-3; TMAN 5; WBCMT 2006-C23; WBCMT 2007-C31; WFCM 2010-C1; WFRBS 2011-C3; WINDM VII; WINDM X; WTOW 2007-1

Structured Finance

ABS to boost SMEs

The British Business Bank (BBB) is considering securitisation as part of its wider remit to increase funding to UK SMEs. It aims to provide capital to increase the supply of asset finance solutions for small businesses and securitisation may be used as a refinancing tool.

This strategy is part of the BBB's ENABLE funding programme, which aggregates asset finance portfolios from mid-market providers in a warehousing financing facility. The BBB agreed in October to provide a £100m facility to Hitachi Capital to fund a portfolio of newly originated small business asset finance receivables, making Hitachi the first funder under the programme. Facilities range from £25m to £150m.

The aim is to refinance the warehouse facilities once receivables total approximately £300m. This refinancing will be the first of its kind in the UK, allowing institutional investors access to a diversified pool of SME debt.

Reinald de Monchy, md of wholesale at BBB, hopes this process will be a catalyst for further asset finance securitisations, but adds that the "ultimate goal of the British Business Bank is not securitisation itself but increased funding for SMEs".

Moving into 2016, he says that it is hard to know whether securitisation volumes will increase in the UK, but it "should be seen as an important tool for boosting funding for SMEs and potentially the wider economy as a whole".

In anticipation of the first ABS in the UK backed by marketplace loans, de Monchy states that it is an interesting development with great potential. However, he adds that "the devil is in the detail in terms of how well it is structured", as that will determine its success.

RB

Risk Management

SEF collusion case filed

A class action lawsuit was filed last week that accuses 10 banks and two trading platforms of colluding to halt competition from SEFs in the interest rate derivatives (IRDs) market. The Public School Teachers' Pension and Retirement Fund of Chicago brought forward the suit, having purchased IRDs from the defendants.

Quinn, Emanuel, Urquhart & Sullivan is representing the plaintiff in the suit. This follows the firm's recent involvement in a US$1.86bn settlement in connection with the alleged rigging of the CDS markets (SCI 2 October).

"The CDS case was very similar in that you have a number of banks collecting an enormous profit centre," says Daniel Brockett, partner at Quinn Emanuel Urquhart & Sullivan. "They have effectively been acting as a cartel to block execution swaps."

The latest lawsuit was filed in the US District Court for the Southern District of New York and cites JPMorgan, Goldman Sachs, Bank of America Merrill Lynch, Citigroup, Barclays, Credit Suisse, BNP Paribas, UBS, Deutsche Bank and RBS as defendants. According to the lawsuit, the banks have colluded since 2007 to boycott and coerce any entities that had the potential to provide exchange trading to buy-side investors.

The banks allegedly extracted "monopoly rents, year after year, from the class members in the case". As a result, the plaintiff says these circumstances led it overpaying for its swaps.

ICAP and Tradeweb are also accused of involvement, specifically being cited for acting as forums for the collusion. Nine of the 10 banks involved own equity stakes in Tradeweb and hold positions on its board and governance committees.

The suit claims that the banks used their positions of power to collectively help block the development of swaps exchanges by firms such as CME Group and TeraExchange. In addition, ICAP is accused of publishing the names of counterparties to swaps trades after execution.

"There's a two-tier element to this," says Brockett. "Many dealers can go to a bank to handle trading or they can go to a new model platform, with more competitive pricing. But another key issue for them was the ability to maintain anonymity."

Bank of America, for one, allegedly threatened to raise clearing fees and refuse liquidity provision for buy-side participants if they traded through an anonymous central limit order book at TeraExchange. BNP Paribas also supposedly threatened two clients with the loss of clearing and other banking services after finding out that they had traded with each other.

The defendants are now expected to bring forward a case for dismissal to the court.

JA

Structured Finance

Proof of concept

Risk transfer regulatory, structuring considerations discussed

Representatives from Reed Smith and StormHarbour Securities recently provided an introduction to capital relief trades, focusing on regulatory and structuring considerations, during a live webinar hosted by SCI (view the webinar here). This Q&A article highlights the main talking points from the session. For a broader and more in-depth exploration of the risk transfer space, attend SCI's Regulatory Capital Relief Trades Seminar on 3 December.

Q: With respect to the regulatory framework for capital relief trades, how has the sector evolved?
Claude Brown, partner at Reed Smith: To a certain extent, the regulatory environment for capital relief trades pre-dates Basel 1. The Bank of England was the first central bank to formulate rules around the transfer of risk, related primarily to participations. It also issued generic rules about guarantees.

Those rules developed along with the evolution of the debt trading market in London, principally around Russian Vnesheconombank debt. Then, Basel 1 introduced the concept of credit conversion factors, which dealt with off-balance sheet assets, such as guarantees and stand-by letters of credit. Around this time, we also saw the credit derivatives market begin to emerge.

Some of the first risk transfer trades - such as the ROSE Funding deal for NatWest - used participations. Several others used credit-linked note structures, such as the SBC Glacier Finance transaction and Credit Suisse's Triangle Funding.

But the real breakthrough into what would subsequently be considered as synthetic securitisation was JPMorgan's BISTRO transaction. This deal was innovative in that it allowed the portfolio to be larger than the amount of notes issued.

It also managed to overcome the problem that had beset some of the earlier trades, where the credit rating of the originator acted as a cap because the CLN or participation proceeds sat with the originator. BISTRO used the capital for two purposes: to collateralise the repayment obligations of the SPV under the notes; and to provide collateral for a credit default swap, under which it sold protection to JPMorgan on a portfolio of underlying securities.

There were some limitations, however. The transaction didn't qualify for full capital recognition and the collateral had to run to term before credit events could be paid out. That issue was rectified in later deals, such as BNP Paribas' OLAN, where more flexible means of collateralising deals were used.

Concurrent with these developments was the emergence of the regulatory framework, which borrowed heavily from the Bank of England concepts and was reflected in the various Basel iterations. In Europe, the Banking Coordination Directive dealt with some risk transfer features and what needed to be achieved for regulatory capital purposes. More recently, the Capital Requirements Directive and the CRR came into force.

Obviously the US Fed and the OCC have their own rules for US-regulated banks. APRA in Australia has its own set of rules for risk transfer, which makes it challenging to structure a trade successfully. Even under the CRR, EU regulators have differing interpretations.

These are the primary regions where banks have been involved in CRTs, but obviously other regulators have their own rules too.

Q: In terms of where the market stands today, what is the general attitude among regulators towards CRT transactions?
CB: It varies widely. There is recognition that it's prudent for banks to try and manage their risk and to do that by diversifying it and in some cases transferring it to those who are able to manage it.

This is recognised on two levels, one of which is the economic benefit, whereby the capacity of banks to stimulate growth is increased. The other is that prudent risk management holds that there is a proper place for risk transfer.

Balanced against this is concern over whether risk can be monitored to minimise any adverse impact arising from systemic risk. That produces a spectrum of responses from regulators, from those that are generally against risk transfer to those that recognise it has a useful role within the financial system.

Robert Bradbury, md at StormHarbour Securities: The attitude of local regulators to risk transfer trades in general is also somewhat driven by local history and legacy issues. In some jurisdictions, regulators have had to deal with some transactions that would not be compliant with the modern view of risk transfer, for example.

Q: How are capital relief trades typically structured?
RB: The most common assets to be referenced in the market include SME, corporate and shipping loans. This is due to a variety of reasons, the first of which is that data is more readily available and of better quality for these assets.

From an efficiency perspective, they hold favourable risk weights relative to expected loss. There is also a high degree of familiarity with the assets among investors. Finally, rating agencies are able to find more historical data on those assets.

Less common assets include PFI, consumer loans, retail unsecured and real estate. There are a few reasons for this, the main one being the lower risk weight and higher expected loss per unit.

Data is also less available, which makes it harder for investors to do due diligence. Additionally, there are legal issues regarding disclosure of personal information in some jurisdictions, which can complicate the process.

Certain exposures are categorised under the IRB slotting approach, which makes the process more difficult for originating banks.

The typical structure for an IRB bank is based on the supervisory formula, rather than the ratings-based approach. This necessitates retaining the most senior part of the capital structure and placing the mezzanine tranches or possibly equity.

In terms of putting a trade together, the first step is to identify the portfolio and all the resulting data requirements. Already having a cash securitisation programme can make the task easier. But if an issuing bank is trying to gain protection on an asset class that it wants to strategically exit, identifying a portfolio can be tricky.

The next step is to calculate risk weights and KIRB, which is the main capital metric in securitisations and is a function of loss given default, probability of default, maturity and asset type.

Often the easiest way to execute a trade is bilaterally, where the bank faces a single counterparty under a bespoke contract - with no ISINs, SPVs or transfers involved, but a CDS referencing a tranche of a synthetic portfolio. However, the more common execution is via an SPV, which provides protection to the issuing bank using either a financial guarantee or a CDS contract. Generally, the CDS is held on a mark-to-market basis, while a guarantee - while being more difficult to structure - is often eligible for accrual accounting.

The investor effectively purchases a CLN in exchange for an upfront sum of cash equal to the size of the hedged tranche. The CLN is linked to the underlying hedged tranche.

Two types of structures are most common: the simplest is a fixed-leg payment, where the floating pay-outs are linked to the contract; arguably more complicated is where a synthetic waterfall is referenced - similar to a cash ABS transaction - that is linked to the spread of the portfolio. A virtual senior tranche is used to compute the deduction from that spread and any excess spread, subject to a cap, is passed down to the mezz or equity investor.

Which method to adopt is fairly jurisdiction- and asset-dependent. A typical cash ABS investor may prefer a synthetic waterfall, for example, because it's easier to reconcile with their existing holdings. However, these structures can impact the way in which significant risk transfer is demonstrated.

Proceeds from the CLNs are held in a cash account. Although it's possible to execute unfunded trades, overwhelmingly trades are funded because it reduces counterparty risk, reduces the risk weight of the tranche and helps with the designation of risk transfer.

One of the requirements for efficient risk transfer is for losses to be paid out promptly. In order to satisfy this requirement, when a credit event has occurred, the cash account is stepped down directly.

The mechanism through which this is done can be LGD-based, fixed upfront or 100% upfront. Following a pay-out, there is a recovery period, which again is asset-dependent and undertaken in accordance with the bank's normal workout process. That process concludes when there are no more recoveries or at the backstop date when the asset is resolved via an auction sale and the seller often has a 'last look' for physical delivery to protect against zero bids.

The bank retains any tranche junior to the equity, e.g. 0%-0.5% or 0%-1%, plus the senior tranche. It also has to comply with the 5% risk retention requirement under CRR, commonly by retaining 5% of the note and the other tranches or 5% via a random selection of exposures.

The cost/benefit analysis is fairly unique to each bank, but predominantly they look at three metrics, the first of which is a point-in-time metric that assumes zero loss and a one-year time horizon. The second is a through-the-cycle method, which involves checking the efficiency at multiple points throughout the life of the trade and that necessitates cashflow modelling and RWA modelling.

The more complicated method is a weighted average cost of capital calculation, where you discount a number of risky cashflows at a risky discount rate computed according to how the bank would look at this trade over a period of time. We've found anecdotally that this is often done using a comparable cost of capital, such as issuing equity.

Q: If an investor sells protection on the 1%-10% tranche and the bank retains the first 1%, does this count as greater than 5% risk retention by the bank?
RB: No.

Q: Can capital relief be achieved on a portfolio under the standardised approach?
CB: Because the standardised approach is a relatively blunt instrument, the efficiencies are harder to realise. Besides, a bank that doesn't have sufficient modelling capability to move onto IRB is likely to struggle with marshalling the data for a risk transfer trade.

Q: What are the main requirements for achieving significant risk transfer?
RB: Significant risk transfer is a topic of considerable focus, given that a number of trades were done in the past that wouldn't necessarily comply with the current guidelines. The SRT regulations come from the CRR and we have the EBA guidelines as well, which the European Commission will hopefully now implement.

Arguably the most important point under SRT is the high cost of credit protection: you have to show that the rate you're paying for your protection in a zero loss, expected loss and stressed scenario does not undermine the level of credit protection. This stipulation is designed to prevent transactions being done where payouts exceed the size of the tranche and implicitly caps the 'fair' amount you can spend. Anecdotally, some regulators appear to have a more stringent view on the high cost of credit protection than others.

You also have to demonstrate the robustness of internal models, including the stability of the supervisory formula over time. The documentation should obviously reflect the economic substance of the transaction and there should be no implicit or explicit support. The securities issued should not represent payment obligations of the originator.

Additionally, structural features such as clean-up calls and replenishment rights need to be assessed to ensure compliance with SRT. Any maturity mismatch in the portfolio also needs to be taken into account.

The bank needs to have policies and procedures in place around risk management and self-assessment. Finally, the form of the credit derivative used can't undermine SRT.

Many of these requirements are becoming increasingly standardised, helped by the EBA guidelines and the fact that these transactions are becoming more common.

Q: What are the drivers behind why originators and investors participate in capital relief trades?
RB: From an originator perspective, the main drivers are risk reduction and increasing the stability of RWAs. But it's important to distinguish between a point-in-time static short-dated transaction and a longer-dated through-the-cycle transaction. Static point-in-time trades are more appropriate for run-off books or specific situations, while longer-dated trades are more appropriate for live, revolving portfolios.

The three- to five-year tenor is common, where originators are trying to achieve not only immediate RWA benefits, but also through-the-cycle protection. Revolving transactions allow for stability of capital relief: to the extent that the replenishment provisions allow, replacing loans when they amortise maintains the efficiency of the trade and mitigates credit risk migration over time.

There is a balance to strike with tenors. Hedging against migration is good, but you have to avoid any implication of implicit support through asset selection. You also have to pay for increased effective duration, which can in turn limit the investor universe.

Indeed, cost of capital often acts as a ceiling for the execution of these trades.

Diversification is the main motivation from an investor perspective. CRTs allow them to invest in assets that aren't normally available outside of banks and to take a macro view on a given sector or country, or to leverage their micro view on concentrated portfolios.

In some cases, the opposite is true and the investor is effectively taking a view on the bank's whole portfolio and underwriting process.

Q: New risk retention rules have focused attention on alignment of interest within the capital relief space. How are these concerns being addressed?
CB: One of the main tests for alignment of interest is significant risk transfer, which ensures that the bank has genuinely exported a significant amount of its risk. However, the risk retention rules are somewhat of an opposing force, necessitating banks to keep skin in the game. Either way, clearly investors want to ensure that they're not exposed to the moral hazard of a bank's indifference as to how the portfolio performs.

The risk retention rules are probably the most challenging because they impose obligations on investors, assuming they're regulated. It's their responsibility to ensure that risk retention is observed, diligenced and monitored for the life of the deal. Investors have to ensure they're comfortable, even though the means of compliance sits with the originating bank.

The retained sliver of the equity tranche is a popular mechanism for compliance. We also see the vertical tranche across the mezzanine from time to time, which makes it easier to finance the trade. The random 5% retention is only really appropriate for a very granular pool.

RB: Alignment of interest came out alongside the requirements for transparency and disclosure of all relevant information. Data requirements can be quite heavy and investors need to be able to confirm that they've received all materially relevant data. Different banks assess this in various ways.

Q: In terms of executing capital relief trades, what are the main issues that participants should be aware of?
RB: Obviously there is a swath of considerations when putting a risk transfer trade together. Structural considerations include defining your protected tranche: it needs to be an equity or junior mezzanine tranche, but the attachment and detachment points are functions of the types of assets, the budget of the issuing bank in terms of premium spend, the amount of benefit they want to receive, investor requirements and the jurisdiction.

The format is driven by a bank's tolerance of mark-to-market volatility and desired speed of execution, as well as investor requirements. Some accounts can't invest in CDS or financial guarantees, for example.

Asset type, granularity, seasoning, tenor and spread are all important portfolio characteristics. For more concentrated portfolios, the identity of some or all of the borrowers may need to be disclosed to investors, which can complicate the process. Data availability, loss history, provisioning levels and future anticipated asset availability all influence the structure, target investors and pricing level.

Target maturity will be based on the assets and the bank's goals. The transaction may be static or revolving, in which case replenishment and eligibility criteria need detailed consideration.

Some transactions may require ratings for the senior tranches, in which case rating agency requirements need to be met.

Collateral can be held by a third party (for lower rated banks) or the issuing bank itself (for higher rated banks).

Amortisation of the portfolio dramatically affects a trade's WAL and how premium is calculated. Amortisation is either pro-rata or sequential, based on repayments and prepayments. Different jurisdictions have different views on how this affects SRT.

Credit events normally comprise bankruptcy, failure to pay and restructuring. Documentation often includes specific features to meet local regulatory or legal requirements.

Placement can be done bilaterally or through a private auction with a number of parties. Auctions can improve pricing tension, but there are scenarios in which a bank doesn't necessarily want to advertise the existence of a portfolio. There are also cases where certain high loss or exotic portfolios may not attract enough interest to warrant an auction and so dealing with one or two parties with a known appetite for that kind of risk makes more sense.

Some investors demand more significant alignment of interest than 5%.

Q: What type of analysis should be considered when an investor requests a risk alignment of, for example, 20%?
RB: One consideration should be if this impacts whether the trade can still be considered as transferring significant risk. This will partly depend on how the alignment is performed.

Other considerations could include the materiality of remaining potential losses and the increase in the amount of assets effectively being referenced. Another point could be the effect on cost efficiency after such retention for the issuing bank.

CB: Once you move above 5% risk retention, you have to be mindful that under some regimes this will have a direct impact on whether you meet the SRT test.

There are a number of measures in the CRR that can be used to demonstrate SRT. One of these is where there are no mezzanine tranches in a securitisation and the originator does not hold more than 20% of the exposure values of the securitisation positions that would be deducted from its CET1 and the originator can demonstrate that the exposure values of the positions that would be deducted from CET1 exceeds a reasoned estimate of the expected loss of the positions by a substantial margin.

So, at the 20% alignment level, there is a risk that SRT has not been achieved. That said, it doesn't mean that below 20% it will be achieved, because the originator may fail limb two of the SRT test or be using one of the other three SRT methods.

Q: Do regulators have a preference with regard to sequential versus pro-rata structures?
RB: It's jurisdiction-dependent, but there are two countervailing considerations. First is that sequential amortisation preserves the value of the tranche until maturity (in the absence of losses), meaning you have the largest amount of credit protection available for a single event for the longest period of time, but this dramatically increases the premium. In comparison, the benefit of a pro-rata structure is that the protection tracks what is occurring to the portfolio - although this can be perceived as an issue for concentrated portfolios near the end of their lives because the tranche may no longer be large enough to absorb a credit event.

CB: It also depends on the sophistication of the regulator. The CRR applies to 28 regulators with varying degrees of experience of these products.

Q: In which situations would a transaction be rated by a rating agency?
RB: Other than for usage of the ratings-based approach, a rating may help with demonstration of SRT, particularly for portfolios or transactions with unusual characteristics.

CB: Ratings are sometimes requested by an investor because of internal or regulatory requirements, or because it helps them monitor the transaction.

Q: Looking ahead, how is the risk transfer sector expected to evolve?
RB: We're in a good period for this type of transaction. The market has evolved significantly in recent years and the level of regulatory and governmental involvement is unprecedented. Awareness that these trades exist and can serve to help the wider economy is increasing.

Having a single supervisor in Europe is expected to help the market in terms of implementation of regulation, such as the SEC-IRBA, SEC-ERBA and the simplified versions further down the hierarchy of the new approaches. This provides clarity as to where the market is heading and the process should therefore be more transparent in the future.

Harmonisation of RWAs and the implementation of floors may result in higher RWAs, which would make CRTs more attractive.

A number of new players are entering the market, including development banks and the SME Initiative, which will help the sector. As more trades are executed, smaller banks will inevitably follow the larger ones. Proof of concept of these deals is broadening and we can expect to see increased use of the technology in Eastern Europe, for example, and more asset classes being referenced.

The STS criteria may well be extended to cover synthetic securitisations, which would be a positive development, but in any case cover cash securitisations that may be used for risk transfer purposes. Indeed, cash structures may become more common, due to their increased flexibility in terms of the leverage ratio and so on.

Finally, the secondary market continues to develop and this will improve liquidity and pricing for some issuers, as people become more familiar with them. Standardisation of the product is a long way off, but that's the direction in which the market is headed.

Q: How is the implementation of the revised securitisation framework and the debate on simple, transparent and standardised securitisation impacting the CRT space?
CB: The incentives for sophisticated banks to move from the standardised approach to IRB will enable them to engage in these trades more easily. CRTs lend themselves better to IRB.

There is also a virtuous circle in that if you're providing more data and information on an ongoing basis to deal with risk retention requirements, it encourages banks to acquire data on the portfolios more readily, which allows them to do more issuance. Scoping potential portfolios becomes easier over time.

Having said that, the STS proposals in their current form clearly set themselves against synthetic securitisation and anything that involves less than a complete transfer of the asset pool. Of course, you can execute cash-based transfers that would comply.

Regulators and policymakers recognise that risk transfer and securitisation play a role in promoting economic growth. The thawing of hostilities towards securitisation is positive, but we're yet to see the full effects from the new regulatory framework play out, so the market is likely to remain challenging until 2018. I expect a slow and steady growth of CRTs, as well as measured improvements in the technology and the range of issuance.

SCI's Regulatory Capital Relief Trades Seminar is being held on 3 December at Reed Smith's offices at 20 Primrose Street, London. The conference programme consists of panel debates covering risk transfer regulatory treatment, structuring considerations, pricing trends, opportunities and relative value, and capital alternatives.

Speakers include representatives from: Apollo Global Management; Caplantic; Chenavari; Chorus Capital; Christofferson Robb; Citi; Clifford Chance; Elanus Capital; European Investment Fund; Lloyds; Mariner Capital; Natixis; Nomura; Reed Smith; StormHarbour; UniCredit; and West Face Capital.

Click here to register.

Structured Finance

Hedge fund goes private

BlueCrest Capital Management is to transition to a private investment partnership and will return to its clients the US$8bn it currently manages for them. Following the transition, BlueCrest will only manage assets on behalf of its partners and employees.

BlueCrest will continue to trade all current major strategies and retain its offices around the world. Strong growth in employees and AUM is expected over the next several years.

BlueCrest says ongoing secular changes in the industry - such as trends in fee levels, the cost of hiring the best trading talent and the challenges in tailoring investment products to meet the individual needs of a large number of investors - have weighed on hedge fund profitability. The private investment partnership strategy will concentrate on a reduced number of funds and so should facilitate higher returns.

BlueCrest's existing partner fund, BSMA, will continue to hold assets managed in the fixed income, currency and credit trading strategies, while the BlueCrest Equity Strategies Fund and the BlueCrest Emerging Markets Fund will be retained as the vehicles through which partners and employees invest in equity market and emerging market trading strategies respectively. All other funds - including BlueCrest Capital International and the AllBlue Fund - are expected to close during 2016.

CDS

CDS start-up beefing up

Citadel Securities has brought in Tian Zeng as part of its push towards launching a new CDS business. The business will debut in 1Q16, expanding beyond Citadel's established presence in US Treasuries and interest rate swaps.

Zeng arrives from Citi, where he traded CDS indexes. Citadel plans on further additions to round out a team of around four to six, devoted to the CDS business.

CMBS

TPG acquires property group

TPG Real Estate has closed its acquisition of TriGranit, including a portfolio of office and retail assets predominantly located in Poland. The acquisition will build on TPG's existing central European real estate platform as the firm pursues a full spectrum of real estate activities.

"The new TriGranit will manage a much wider scope of activities than before. As an integrated real estate platform, we will not only focus on development and management of retail and office projects, but also acquisitions of high quality assets. Poland and the capital cities in central Europe remain our main area of focus," says TriGranit ceo Árpád Török.

TriGranit has offices in Budapest, Warsaw, Krakow and Bratislava. The senior management team will remain with the firm after the transaction.

RMBS

SFR broker launches

HomeUnion has launched a new mortgage brokerage for SFR investors and hired Chris Diaz to run the unit. HomeUnion Lending's service mandate will include GSE-backed loans, the option of using asset-based lending vehicles and the valuation of rental income streams when making a lending decision.

Qualified investors will be able to take out up to 10 GSE-backed mortgages for investment properties. However, HomeUnion Lending says it will also work with other lenders to provide financing to investors who may want to purchase more than 10 houses or need different qualifying guidelines.

Diaz will be responsible for building the infrastructure and running the day-to-day brokerage operations. Prior to joining HomeUnion, he built his own real estate and mortgage company, Charis Financial. He was also a district manager with H&R Block Mortgage.

The new mortgage broker is currently licenced in Alabama, Florida, Indiana, Iowa and Oklahoma. It is expecting to be licenced in another 16 states by the end of 1Q15.

RMBS

Latest SFR merger announced

American Homes 4 Rent and American Residential Properties are the latest SFR managers set to merge after their respective boards came to a US$1.5bn agreement. As part of the merger, which is expected to close in 1H16, American Homes 4 Rent will issue approximately 38 million common shares and assume or repay a total of approximately US$800m of American Residential Properties debt.

The news follows the recent merger announcement between Starwood Waypoint Residential Trust and Colony American Homes, as the market continues to consolidate (SCI 22 September).

In this latest agreement, the combined company is expected to own more than 47,000 homes in 22 states. It will have an equity market capitalisation of US$5.5bn and an aggregate real estate cost basis of over US$8bn.

At closing, each share of American Residential Properties common stock and each limited partnership unit in its operating partnership will be exchanged for 1.135 common shares or limited partnership units of American Homes 4 Rent. This will represent a current value per share of American Residential Properties of US$19.01 based on American Homes 4 Rent closing price.

Stockholders will be getting a 19.8% premium on American Homes 4 Rent's closing price and an 8.7% premium over American Residential Properties'. In addition, American Residential Properties stock and unit holders will own approximately 12.6% of the outstanding common shares and units of the new company.

American Homes 4 Rent will retain its corporate headquarters in Agoura Hills, California, while maintaining a presence in the Phoenix, Arizona market. American Residential Properties' chairman and ceo, Stephen Schmitz, and its president and coo, Laurie Hawkes, will remain with the company until the closing of the merger. It is planned that one of the current American Residential Properties directors will join the board of American Homes 4 Rent.

The merger is subject to majority approval of American Residential Properties stockholders. Schmitz and Hawkes have agreed to vote their shares in favour of the merger.

Barclays is serving as lead financial advisor to American Residential Properties, with Raymond James also servicing as financial advisor. Hunton & Williams is serving as its legal counsel. Hogan Lovells US is serving as legal counsel to American Homes 4 Rent.

ABS

VW issuance to expand

Volkswagen says it plans to continue diversifying its mandate for auto ABS issuance amid the ongoing fuel-emissions scandal. The manufacturer notes that the priority will be to secure liquidity and not maximise basis points.

Moody's recently commented on Volkswagen-sponsored ABS in light of the heightened risks potentially involved. The agency expects a negative effect, particularly on US deals, as a result of the damage to the company's earnings and reputation (SCI 16 November).

Nonetheless, the car manufacturer has been active in the auto ABS market this year. As of 30 June, its transactions had contributed around 16% towards the financing of Volkswagen Financial Services. Now it says that it plans to expand the programme in a number of forms.

"We diversify in terms of currency areas and as regards the instruments we deploy. In this way, we can act irrespective of the performance of individual regions and individual refinancing sources," says Frank Fiedler, cfo of Volkswagen Financial Services.

Following the placement of recent deals in the UK, France and Japan, Volkswagen says that further international transactions will follow as early as the coming months. However, the plan to branch into new currency areas will be part of a programme that spans a number of years.

ABS

Tobacco ABS reviewed on data update

Fitch has placed 49 tranches of tobacco settlement ABS on rating watch and revised two from rating watch negative to rating watch evolving in connection with an ongoing and comprehensive review of its entire tobacco settlement ABS portfolio. The agency says it is taking these actions because of updated or corrected data, assumption changes, anticipated additional payments and corrections to previous inputs.

The review focuses on verifying several inputs used in the determination of tobacco settlement ABS credit ratings, including the issuer's allocable share of the April 2015 payment received by states under the Master Settlement Agreement (MSA), the state's allocation percentage of annual and strategic contribution fund payments, outstanding bond balances, coupon rates and maturity dates. Fitch is also reviewing certain other inputs that have less of an impact, including operating expense caps and reinvestment rates on reserve fund balances. All inputs are being verified by one or more sources, including offering memoranda and other issuer disclosure documents, data published by the National Association of Attorneys General, transaction reports, bank account statements, ad-hoc information requests and discussions with representatives of the issuer or state offices of the Attorney General.

Fitch says its review of New York State transactions in particular is complicated by not having received detailed responses to all of its requests for verification, especially for the 2015 MSA payments. Additionally, a recently announced settlement between New York and participating manufacturers will release approximately US$550m in previously escrowed funds to the state, with a significant portion potentially allocated to the New York State transactions.

The agency is awaiting information as to how New York will allocate those funds. Given the potential benefit of the settlement proceeds to the bond ratings, it has placed some tranches of transactions within New York State on RWE as the benefit of the settlement proceeds may outweigh other findings in the review.

Over the next month, Fitch expects to receive the remaining data needed to complete its review and resolve the rating watch status on the affected tranches. Once completed, the agency will provide a full commentary on its review findings.
If it cannot obtain satisfactory verification for key rating inputs, particularly for the MSA payments, it may consider rating withdrawals.

In placing certain tranches on rating watch, Fitch has not followed its current criteria by eliminating the typical two-year migration period for ratings. Instead, the agency expects to take a more conservative stance by moving ratings directly to their model-implied rating without a transition period.

Separately, Fitch has corrected its 2015 US tobacco portfolio review spreadsheet that was originally published on 6 August, when it placed 66 other bonds on RWN (SCI 7 August). The 2016 serial bond for Rensselaer Tobacco Asset Securitization Series 2001 was not included in the initial spreadsheet and had been designated as paid in full on the Fitch website. The corrected spreadsheet properly designates the tranche as being affirmed.

ABS

Online lender ABS debuts

Online lender loanDepot has closed a US$150m securitisation of unsecured personal loans. It was structured and sold by Jefferies.

This inaugural ABS also coincides with loanDepot's expansion of its consumer lending division to a new location in Orange County, California. The company began offering unsecured personal loans in May, making it the first national non-bank lender in the US to offer both mortgage and non-mortgage lending. Since then, loanDepot has provided US$250m of personal loans to 17,000 borrowers nationwide, with personal loan applications increasing by approximately 25% each month since July on average.

Anthony Hsieh, chairman and ceo of loanDepot, states: "Completing this first securitisation with Jefferies of our personal loans so soon after launch is a key milestone that enables us to accelerate expansion of the product while meeting growing demand."

The expansion of loanDepot's personal lending business is in line with the growing demand for consumer credit in the US. A recent New York Fed report shows that the number of credit inquiries within six months - an indicator of consumer demand for credit - increased at an annualised rate of over 20% by nine million to 182 million from the second to third quarter 2015. It also shows 6% annualised growth in credit card balances to US$714bn, an US$11bn increase, during the same time.

ABS

Interbank ABS arriving

Shanghai Provident Fund Management Centre is set to issue an ABS backed by housing fund loans on China's interbank bond market, according to Shanghai Clearing House. The CNY6.96bn (US$1.09bn) deal is believed to be the first of its kind and will launch on 4 December.

The bonds will be split into two sales, the first consisting of CNY5.02bn, with the second comprising the remaining CNY1.07bn. Shanghai Pudong Development Bank is the lead underwriter on the deal.

ABS

ABS criteria aligned

Fitch has published its global consumer ABS rating criteria by aligning its separate geographical methodologies for analysing credit risk in this asset class. The criteria consolidates the agency's EMEA, APAC and Latin America rating approaches.

A number of changes were made for the new criteria, including an alignment of the margin compression assumption with the previous EMEA assumption. In addition, the criteria provides a description of the treatment of aspects frequently encountered in emerging markets transactions, such as potential high excess spread reliance and elevated asset interest rates.

Additional elements include more detail of the use of servicing fees in APAC and a new appendix that discusses relevant factors for analysing transactions backed by salary-deducted loans. The criterion also provides added transparency on deriving prepayment stresses.

Fitch does not expect any impact on the ratings of any existing transactions related to these changes. The agency continues to maintain separate criteria for analysing ABS backed by credit card receivables, as well as auto loans and leases in the US.

Structured Finance

APAC ratings to stay stable

Ratings and asset performance in Asia-Pacific are expected to be stable throughout 2016, says Fitch. Long-term ratings on structured finance transactions are expected to remain unchanged.

At the end of 3Q15 there were four positive outlooks and three tranches on rating watch negative. The majority of Fitch-rated Asia-Pacific structured finance portfolios are backed by assets in Australia, where economic fundamentals are expected to remain strong throughout the year.

Fitch expects Australian unemployment to remain relatively stable, averaging 6.1% through the year. "Transaction structures remain robust and strong repayment rates and the sequential pay-down of notes will typically lead to rising credit enhancement for rated notes," the rating agency adds.

Australian residential property price growth is expected to slow in 2016, although no rating action is anticipated. As of October, prices in Sydney were up 15.6% year-over-year and prices in Melbourne were up 12.8%.

Outlooks on asset sectors are stable elsewhere in Asia-Pacific, based on favourable economies which support stable ratings outlooks. Fitch expects that neither the slowdown in car sales in China nor the Volkswagen emissions scandal will affect rated transactions.

Structured Finance

ABSPP extension inked

The ECB has extended its purchases under the ABSPP by six months to end-March 2017 and says the programme will run beyond this date if necessary, until there is a "sustained adjustment" in inflation. The bank will also begin reinvesting principal payments on the securities purchased under the ABSPP as they mature, for "as long as necessary", in order to "contribute to favourable liquidity conditions".

Deutsche Bank European ABS analysts note, however, that the announcement "disappointed versus expectations". Assuming a 5%-10% PPR rate, they calculate that with just €15bn of ABSPP purchases, the excess amount proposed for ABS works out at €62m-€125m per month - which they describe as "not game-changing".

Nevertheless, secondary ABS markets - particularly in the periphery - were better bid over the last week, reflecting strong technicals on anticipation of ECB dovishness. Portuguese RMBS were also supported by a strong take-up in the DOURM tender at higher-than-anticipated prices.

Meanwhile, the European Council confirmed its approval of the European Commission's STS securitisation proposal (SCI 2 December). The European Parliament now needs to agree its position on the proposal to allow for a final agreement on the text.

Jonathan Hill, commissioner for financial stability, financial services and CMU, comments: "Safe, transparent and standardised securitisation can help diversify funding within the economy and free up new lending from banks to support growth and jobs. This proposal has moved at record speed and reflects the urgency with which we want to make progress on the Capital Markets Union. We think this will provide the right incentives for the financial sector and the right safeguards to ensure financial stability in the EU."

Structured Finance

Australian master trusts 'possible'

The Australian Prudential Regulation Authority's revised discussion paper on its prudential securitisation framework (APS120) is now in a form that makes future RMBS and ABS master trust issuance from Australia a distinct possibility, Fitch suggests. The discussion paper - a revision of the proposal issued in 2014 - contemplates allowing early amortisation event triggers, date-based call options and the seller interest to vary in size during the revolving period (SCI 26 November).

APRA now proposes to allow early amortisation provisions as long as principal cashflows are allocated on a pro-rata basis between the securitisation (investor interest) and the originating ADI (seller interest). The change reflects the authority's view that an originating institution should not be subordinated, in terms of taking losses, to the interests of investors at any time in the life of the transaction, according to Fitch.

The proposed framework is different to UK master trust structures where the principal cashflows to the seller's interest can be subordinated in certain circumstances. This means that investors in Australian master trusts will not have the same protection as investors in UK structures, while investors in the proposed Australian master trusts can expect to be no worse off than their current position in traditional standalone RMBS structures.

The potential difference in credit risk for investors in Australian master trust transactions is most likely to be focused on the revolving nature of the underlying portfolio and the ability for the portfolio to change over time. Fitch expects this risk to be mitigated by portfolio-eligibility criteria, as well as early amortisation triggers, and its ratings approach that is likely to assume the portfolio migrates to an inferior position over the life of the transaction.

Meanwhile, the inclusion of date-based calls in funding-only securitisations is contingent on certain conditions being met. This will allow notes with bullet maturities to be issued, which is a common feature of master trusts. The presence of date-based calls will not affect Fitch's rating analysis, as its ratings address the repayment of principal by the legal final maturity.

"APRA's new proposal envisages the seller interest being subordinate to the investor's interest during the revolving period and to facilitate structural cashflow only. The seller's interest cannot be subordinated to the investor's interest in terms of losses," Fitch observes.

The agency believes that this will be beneficial from a cashflow perspective, providing master trusts the flexibility to respond to short-term liquidity demands, such as bullet maturities.

The discussion paper is open for comment until 1 March 2016, with the proposals slated for implementation from 1 January 2018.

Structured Finance

European outlook improves

European structured finance will benefit next year from an improved macroeconomic landscape, consumer confidence and a more competitive lending environment, which will boost asset performance, says Fitch. The rating agency has changed its asset performance outlook to stable/positive for 2016.

Asset performance outlooks for several individual markets have improved as GDP growth and lenders' greater appetite to underwrite loans to solvent borrowers has caused arrears to decrease and payments to increase. These trends are broadly expected to continue next year, although they will not be universal as defaults are still rising in Greek and Italian RMBS.

The simple average annualised residential mortgage prepayment rate rose from 6.5% last year to 8.4% in 3Q15 for the five largest European RMBS markets. That includes France and Italy, where refinancing transactions represent 20%-30% of new credit flows for housing, as well as Ireland and the Netherlands, where Fitch believes the figure is as high as 65%.

Prepayments have also come back to the commercial property loan market, with many loans originated in 2014 already refinanced. Consumer sectors such as auto loans and credit cards also demonstrate robust performance, as do post-crisis high-yield CLOs.

"The overall credit performance of securitised portfolios supports our stable rating outlook for 2016. The proportion of Fitch's European structured finance ratings with stable or positive outlooks has risen to 95% from 89% last year, with most of the improvement accounted for by affirmations and upgrades," says the rating agency.

Fitch's proposed criteria changes for UK RMBS ratings could affect 18% of all European structured finance rating outlooks. A large proportion of stable rating outlooks in UK prime, non-conforming and buy-to-let deals would be expected to move to rating watch positive ahead of transaction-specific rating actions.

Structured Finance

Securitisation package approval imminent?

The European Council appears set to approve the CMU securitisation package. The Presidency of the Council, Luxembourg, reported yesterday that a special working group has discussed the proposals in six meetings, after which different compromise proposals were prepared. There seems to have been no further reaction to the latest compromise texts, however.

Consequently, Rabobank credit analysts suggest that formal approval could follow the ECOFIN meeting on 8 December. The package includes the new proposed Securitisation Regulation and the revised securitisation framework for setting risk weights. Both documents include definitions and requirements for simple, transparent and standardised (STS) securitisations.

The Rabobank analysts note that the final compromise texts appear not to include major changes from the European Commission's initial proposals. "After a quick scan, we note that some requirement lists in the Securitisation Regulation proposal have been truncated. Moreover, there is a better separation in the texts between conduit (ABCP) and term securitisation."

Concerning the transparency requirements for sellers, all relevant transaction documents are required to be made available to potential investors, but only on request. The option of providing a summary of the relevant documents has also been introduced, which the analysts indicate might relieve some privacy and competition law issues.

As part of a separate CMU effort, meanwhile, the Commission is proposing to overhaul European prospectus rules to simplify the rules for companies that wish to issue shares or debt and allow investors across the EU to benefit from the same level of information on companies that want to raise capital. By aligning disclosure standards, the aim is to make it easier to invest cross-border.

However, the Commission notes that prospectuses can also be costly and burdensome for companies to produce and can prove difficult for investors to wade through. The proposal will therefore: exempt capital raisings of below €500,000; create a lighter regime for less complex prospectuses; support shorter and clearer prospectuses; simplify secondary issuances; introduce shelf registrations (via a universal registration document) for frequent issuers; and provide free and searchable online access to prospectuses via an ESMA portal.

Structured Finance

EMEA ratings transition positive

EMEA structured finance securities continued to experience a decrease in downgrade activity and an increase in upgrade activity in 1H15, compared to 2013, according to Moody's latest transition study for the region. The 12-month downgrade rate for EMEA structured finance decreased from 16% to 4.8%, while the 12-month upgrade rate rose from 6.9% to 37.8% over the same period.

The RMBS and ABS sectors experienced a high 12-month upgrade rate of 42.9% and 42.5% respectively, resulting from the rise of country risk ceilings in Spain, Italy, Portugal and Ireland. Performance-driven upgrades resulted in CLOs also posting a high 12-month upgrade rate of 34.5% over the same period.

Most sectors - with the exception of CMBS - registered a 12-month downgrade rate close to or below 5%, with CLOs experiencing the lowest downgrade rate of 0.9% for the 12-month period ending June 2015. CMBS recorded a 12-month downgrade rate of 13.9%, in-line with its historical average.

Structured Finance

ABSPP 'pause' due

The Eurosystem is set to temporarily pause its purchases under the ABSPP between 22 December and 1 January 2016, in anticipation of lower market liquidity during this period and to reduce potential market distortions. Purchases will resume on 4 January.

However, the ECB anticipates purchases made during the period of 27 November to 21 December to be "somewhat frontloaded", in order to take advantage of the relatively better market conditions expected during the early part of next month.

Structured Finance

APRA proposal 'credit positive'

APRA's proposed changes to Australia's prudential framework for securitisation are credit positive for Australian banks (SCI 26 November), according to Moody's. The agency expects the proposal to improve access to securitisation funding by broadening the investor base for Australian transactions and enabling the securitisation of new asset classes.

"Some of the proposals - in particular the reintroduction of date-based calls and allowing early amortisation provisions in funding-only securitisations - have the potential to enhance the appeal of Australian securitisations to a broader base of investors," says John Paul Truijens, a Moody's avp and analyst.

"As such, the proposals could improve access to securitisation funding for Australian banks, while also lowering issuance costs," says Daniel Yu, a Moody's vp and senior analyst. "The changes would benefit the smaller banks in particular, given their narrower set of funding options and weaker access to unsecured wholesale funding."

Date-based calls are beneficial to securitisation investors as they provide more certainty around cashflow timing and reduce extension risk, Moody's notes. In addition, they significantly reduce currency swap costs, making offshore issuance more economical and efficient.

Furthermore, early amortisation provisions would allow for new types of revolving securitisation structures and the securitisation of new asset classes, which in turn could attract new investors. Early amortisation provisions are a common feature in other jurisdictions and play an important role in mitigating substitution risk and aligning the interest of the originator with the performance of the trust.

APRA also suggested not implementing its previous 'skin-in-the-game' proposal, which would have required banks to retain at least 20% of the junior securities in their securitisation structures. This proposal will also benefit banks, as it will create an opportunity to reduce their exposures to junior securitisation tranches to obtain greater capital relief.

APRA noted in its proposals that the 'originate-to distribute' business model is not generally adopted by Australian banks. Nevertheless, Moody's says that abandoning the requirement for originators to hold junior tranches of their own securitisations will maintain the onus on APRA to review underwriting and distribution practices, and to intervene proactively to maintain financial stability, as it has done this year by capping investor housing loan growth and tightening serviceability criteria.

Despite the potential benefits arising from APRA's proposals, Moody's warns that an over-reliance on securitisation would be credit negative. "Access to the securitisation markets could become restricted during times of market volatility. In addition, a significant amount of secured funding - such as securitisation and covered bonds - would reduce the amount of bank assets available to support the claims of depositors and other unsecured creditors," it explains.

Such risks are acknowledged in APRA's discussion paper, which states that the regulator will consider imposing a limit on banks' total level of secured funding.

Structured Finance

Direct lending fund closed

BlueBay Asset Management has closed its Direct Lending Fund II SLP, exceeding its revised target of €2bn and completing the fundraising in less than a year. The fund builds on strong support from existing investors, with over 80% of its previous fund's investors committing to the new fund, and attracted new investors globally.

The fund will provide flexible financing solutions to medium-sized European businesses to fill the funding gap left by banks, by investing in senior secured and selected subordinated loans, with the ability to underwrite large tickets in excess of €200m. It is already 25% committed, with a strong deal pipeline, reflecting growing demand from mid-market companies for larger bespoke financing solutions from private debt funds.

Headed by Anthony Fobel, BlueBay's private debt business now manages in excess of €4bn of AUM in private debt vehicles. The team has strengthened its position as a pan-European investor with the appointments in the last twelve months of Christophe Vulliez, Vincent Vitores and Arnaud Piens to lead its business in France and Spain, as well as additional members Nick Edwards, Matteo Ranzato and Alex Davies.

Structured Finance

Asian delinquency trends to diverge

Moody's forecasts that delinquency rates for structured assets in Asia (ex-Japan) will diverge in 2016. China and Singapore are generally expected to show rising delinquency trends, while performance in India and Korea should exhibit strength.

"China's gradual economic slowdown will trigger a slight rise in delinquencies from current low levels across a range of asset classes in the country, while this same slowdown will also weigh on performance in Singapore," says Jerome Cheng, a Moody's svp. "By comparison, in India delinquency rates will improve, owing to a stronger economic environment, and performance will also remain strong in Korea - helped by low unemployment and low interest rates."

With China's economic performance, Moody's expects slightly weaker growth of 6.3% in 2016, down from 6.8% in 2015. In contrast, the agency forecasts that India's GDP will grow by 7.5% (up from 7%), Korea's economy will grow by 2.5% (similar to 2015) and Singapore will grow by 1.8%.

With respect to the Chinese market, Moody's anticipates that auto loan ABS delinquency rates will increase slightly in 2016 from current low levels, but the credit quality of borrowers will remain sound. RMBS credit quality and performance should stay strong in 2016, owing to the high quality of the underlying mortgage loans, while delinquencies for CLOs will rise. The credit quality of the underlying loans in new CLOs issued in 2016 will be worse than existing CLOs, owing to the inclusion of more high yield assets, according to the agency.

In terms of the Indian market, Moody's believes that the delinquency rates for the assets backing auto ABS and RMBS will decline in 2016, owing to stronger domestic economic growth. Lower oil prices will also be a positive for commercial vehicle loans backing Indian auto ABS, while India's low interest rate environment will be positive for the performance of mortgage loans backing RMBS.

Meanwhile, Moody's expects that the performance of loans backing Korean credit card ABS to be strong in 2016, aided by low unemployment and low interest rates. But the performance of new and existing assets in Singapore CMBS will deteriorate slightly in 2016 compared with 2015, owing to a more challenging economic environment and an oversupply of properties in some sectors. The credit quality of both new and existing CMBS will remain sound in 2016, however, owing to the low LTVs and high debt service coverage ratios (DSCRs) of the loans and the quality of the sponsors.

Finally, Asia (ex-Japan) CLOs are expected to continue to perform well in 2016, reflecting low corporate default rates in the region. And while the default rate of the unrated corporate universe in China will exceed that of publicly rated entities, the portfolio characteristics and structural features of these CLOs will support performance in 2016.

CLOs

CLO projections remain strong

US and European CLOs should continue to perform well in 2016, says Moody's. However, loan collateral is expected to remain weakened and default rates are projected to rise in US and Chinese CLOs.

"US CLOs will perform well next year, with loan defaults rising slightly but remaining low overall due to tighter underwriting standards," says Moody's svp Algis Remeza. "And most European transactions will be able to absorb an increase in defaults due to embedded structural protections, despite declining underwriting standards in that region."

In the US the transaction terms of new broadly syndicated loan CLOs and credit enhancement are not expected to worsen, helping deals weather defaults. Among existing transactions, reinvesting deals will comply with collateral quality tests, while amortising deals will continue to benefit from deleveraging. However, certain deals with higher-than-average exposures to the commodity sector are likely to remain under pressure.

Low default pressure on corporations and low interest rates in Europe will see CLOs from the continent largely unaffected by declining underwriting standards and weaker economic growth than those in the US. European CLO structures have remained intact despite the weaker credit quality of loans, leaving Moody's to believe that they will be able to absorb an expected higher non-financial corporate default rate.

Meanwhile, the credit quality of both new and existing Chinese CLOs will worsen in 2016 due to the slowing local economy. The weakening of corporate credit profiles has also led to an increase in delinquencies.

CLOs

OC cushions survive energy slump

While US CLOs have so far avoided the worst of the energy sector's economic woes, the triple-C and single-D buckets in CLO 2.0 deals have crept up throughout the year, notes S&P. Further adverse moves could impact OC cushions, but they remain stable for now.

"The effects of price declines within the US broadly syndicated loan (BSL) market have started to reverberate through the US CLO market, particularly for transactions that have realised losses from selling off loans to distressed companies. Outside of trading losses, the effects of the recent decline in loan prices have been limited on OC ratios so far, as the CLO 2.0s still have low exposure to triple-C rated and non-performing assets," says S&P.

The drop in prices should not be disregarded though. S&P has considered various hypothetical scenarios to explore the impact on OC levels using current prices for a sample of over 300 reinvesting CLO 2.0s.

S&P identifies three scenarios which could affect OC ratio cushions: rating outlooks trend negative, ratings trend negative or assets with distressed prices trend negative. The first scenario could see the average triple-C bucket rise to 7.59% - yet, although many deals would therefore exceed their triple-C bucket limit, only one deal in S&P's sample would fail its double-B OC test.

The second scenario could see an average 11.03% triple-C bucket, with 6% of deals failing double-B OC tests. The third scenario is particularly harsh because recoveries are assumed to be low and results in two CLOs with double-B OC ratios of less than 100% and six single-B CLOs with OC ratios less than 100%.

"For now, despite lower market prices, OC cushion levels are stable for reinvesting US CLO 2.0s and the average OC cushion is still positive for all three scenarios. Because they have a lower triple-C limit, we believe that the deals with the 5% triple-C bucket are first in line to face OC cushion erosion if triple-C downgrades and defaults increase within their portfolios," says S&P.

The rating agency adds: "However, because of the potential decrease in liquidity of triple-C and defaulted assets, among other things, market prices may not stay at current levels if downgrades continue. The decline in market price may also present a buying and par building opportunity that may ultimately have a neutral or even positive effect on OC ratios in the future."

CLOs

Volcker amendments implemented

An extraordinary resolution has been passed by St Paul's CLO III noteholders that amends the investment management agreement to comply with the Volcker Rule. Under the amendments, noteholders have the option to hold notes with different voting rights in respect of resolutions to remove or replace the CLO manager. This involves splitting each class of rated notes into three separate subclasses - voting notes, non-voting notes and non-voting exchangeable notes (SCI 6 November).

Voting notes are now exchangeable at any time upon request by relevant noteholders into: non-voting exchangeable notes or non-voting notes. Non-voting exchangeable notes will also be exchangeable at any time upon request by relevant noteholders into: voting notes or non-voting notes.

The exchange will only be effective upon receipt by the registrar or transfer agent of a written request.

CLOs

Post-crisis double-Bs keep outperforming

The total amount of CLOs paid down in JPMorgan's CLO Index (CLOIE) in November was US$2.41bn in par outstanding, split between US$2.26bn and US$0.15bn of pre-crisis and post-crisis CLOs. The post-crisis index added US$5.7bn across 70 tranches from 13 deals at the November rebalance.

Pre-crisis triple-A discount margins widened 10bp, while post-crisis triple-A DMs widened 4bp. Post-crisis CLOIE saw negative total returns across the triple-B, double-B and single-B tranches of -1.26%, -2.75% and -2.74% respectively.

The month's outperformer was pre-crisis double-Bs - as it had been the month before (SCI 3 November) - which returned 0.44%. The biggest laggard was post-crisis double-Bs.

CMBS

US CMBS credit profile 'to decline'

The overall credit profile of conduit and fusion US CMBS will decline to match those of deals issued from mid-2006 to early 2007, says Moody's. Leverage as measured by Moody's LTV (MLTV) already tops pre-crisis peak levels, but DSCRs remain high - albeit rising interest rates in 2016 and beyond could reduce that cushion.

"With commercial property prices exceeding pre-crisis peaks on an inflation-adjusted basis and most mortgage debt still sized as a percentage of current market value, we are entering the late stages of the current credit cycle," says Moody's director of CRE research, Tad Philipp.

The credit quality of outstanding CMBS is expected to remain stable next year, with the build-up of credit enhancement resulting from loans paying off providing the main driver for upgrades. The main drivers for downgrades will be interest rate shortfalls and increased in expected losses owing to unanticipated collateral performance.

Next year will also see the amount of CMBS 2.0 deals outstanding exceed CMBS 1.0 deals. Total outstanding volume peaked at about US$800bn in 2007 and has declined to about US$500bn, where Moody's expects it to remain for the next few years.

"The much vaunted 'refinancing wave' in 2016 and 2017, during which loans originated with 10-year terms during the 2006 and 2007 pre-crisis peak mature, should cause little more than a ripple," says Moody's svp Keith Banhazl. "About half of the original issuance levels have since paid off or defaulted and of the remainder about three-quarters appear well positioned to refinance, even if 10-year Treasury rates rise by up to 2%."

CMBS

CMBS losses inch down

The weighted average loss severity for all US CMBS loans liquidated at a loss decreased from 42.1% in 2Q15 to 42% in 3Q15, says Moody's. Excluding loans with losses of less than 2%, the weighted average loss severity was unchanged.

"Historical losses for all post-2000 vintages increased during 3Q15, while total cumulative losses rose 4bp from the prior quarter, to 3.6%," says Moody's svp Keith Banhazl. "We expect cumulative loss rates to continue to rise due to the significant share of 2006-2008 vintage loans in special servicing."

There were 210 loans liquidated in 3Q15, with an average disposed balance of US$12.9m and a loss severity of 41.9%. The comparable figures for the prior quarter were 234 loans, US$11.5m average disposed balance and 41.6% loss severity.

The 2008 vintage had the highest cumulative loss rate in 3Q15, at 7.5%, although losses in that vintage increased by just US$114,000 - the lowest amount in dollar terms among the 2005-2008 vintages. Among the 10 metropolitan statistical areas with the highest cumulative dollar losses, New York had the largest cumulative dollar loss at US$1.89bn, but the lowest loss severity at 28.6%.

CMBS

Third straight decline for delinquencies

The Trepp US CMBS delinquency rate declined for a third straight month, falling by 10bp in November to 5.13%. The rate is now 62bp lower year-to-date and 67bp lower than the year-ago level.

Slightly less than US$1bn in loans became newly delinquent last month, which put 19bp of upward pressure on the delinquency rate. About US$450m in loans were cured, which helped push delinquencies lower by 9bp.

CMBS loans that were previously delinquent but paid off with a loss or at par totalled almost US$1.1bn. Removing these previously distressed assets from the numerator of the delinquency calculation helped move the rate down by 21bp. US$26.4bn in delinquent loans remain outstanding, according to Trepp.

The percentage of loans seriously delinquent now stands at 5.02%, 8bp lower for the month. If defeased loans are excluded, the overall 30-day delinquency rate would be 5.41% - down by 11bp.

"While industry optimists had hoped for a November StuyTown loan resolution, the timing has been further pushed off," says Joe McBride, research associate at Trepp. "A mezzanine lender filed a lawsuit against the special servicer to reduce the payment that would go to the special servicer upon final resolution [SCI 18 November]. As a result, multifamily delinquencies did not experience the awaited 60bp drop."

The industrial and lodging delinquency rates had the greatest month-over-month improvement, falling by 29bp and 42bp respectively. The lodging sector remains the best performing major property type, with a delinquency rate of just 2.75%. Until the StuyvesantTown/Peter Cooper Village loan is resolved, multifamily remains the worst performing property type, with a delinquency rate of over 8%.

Risk Management

Trade repository concerns highlighted

The Committee on Payments and Market Infrastructures (CPMI) and IOSCO have completed a review of jurisdictions' compliance with the principles for financial market infrastructures (PFMI). They find an overall high level of observance with the PFMI responsibilities, although there are concerns regarding trade repositories.

The CPMI and IOSCO review covered the implementation of the PFMI responsibilities across all financial market infrastructure (FMI) types in 28 participating jurisdictions. Of the 28 jurisdictions assessed, 16 fully observe the five responsibilities for all FMI types, while another two fully or broadly observe all five responsibilities.

Jurisdictions most frequently fell short of a fully observed rating in the case of trade repositories. Five jurisdictions have regimes which are not yet developed enough to assess, while others lack clear criteria or fully disclosed policies to support the regulation, supervision and oversight of trade repositories.

CPMI and IOSCO intend to review the responsibilities in light of these findings and potentially issue additional guidance. A follow-up exercise is also anticipated once jurisdictions have greater experience with cross-border arrangements for CCPs and trade repositories.

CPMI and IOSCO began a detailed thematic assessment of CCPs' risk management frameworks in April 2015. They intend to publish a report on the findings of this exercise by mid-2016.

Risk Management

Complex debt guidelines finalised

ESMA has published its final report on guidelines on complex debt instruments and structured deposits in MiFID 2. The guidelines are intended for the assessment of securitised debt and money market instruments incorporating a structure which makes it difficult for the client to understand the risk involved.

The guidelines also apply to structured deposits incorporating a structure which makes it difficult for the client to understand the risk of return or the cost of exiting the product before term. Debt instruments embedding a derivative are also covered.

The guidelines are intended to enhance investor protection by identifying complex financial instruments and structured deposits for which the provision of so-called execution-only services is not possible (ie; the firm has to ask information on client's knowledge and competence in order to carry out an appropriateness test), ESMA notes.

Risk Management

MiFID delay gets green light

The European Parliament's MiFID 2 negotiating team has given the go-ahead for the regulation to be pushed back a year from its originally planned implementation in January 2017. However, it says that such an agreement is contingent on the European Commission finalising legislation swiftly.

"Furthermore, the Commission and ESMA need to come up with a clear roadmap on the implementation work and especially for setting up the IT systems," says German MEP Markus Ferber. "I expect that the European Parliament will be informed regularly and comprehensively about any progress in the implementation work."

ESMA only recently presented its final technical standards for MiFID 2 (SCI 29 September), which prompted concern regarding the timescale for financial services firms to adjust their compliance. However, a potential delay has been greeted with both relief and anxiety across the industry, according to MarketAxess.

"On one hand, extending implementation to January 2018 would offer the opportunity for firms to better prepare their systems, but on the other, there's the danger that continued uncertainly could lead the market to re-prioritise resources at the expense of appropriately meeting the regulatory obligations," explains Scott Eaton, coo of MarketAxess Europe and Trax.

RMBS

Short-duration MBS fund offered

BPV Capital Management has added a sixth fund to its line-up of mutual fund products - the BPV High Quality Short Duration Income Fund. The firm says that a short-duration product focused on the US agency MBS market is "quite rare", especially when it's offered in a mutual fund format

"The current low interest rate environment may present unattractive risks across much of the fixed income spectrum, regardless of whether rates rise or not," comments BPV cio Steve Turi. "Therefore, we believe that short-duration agency MBS provides very attractive risk-reward opportunities while potentially mitigating interest rate, credit and liquidity risks."

The BPV High Quality Short Duration Income Fund seeks stable income and low volatility by attempting to mitigate typical fixed income risks. The firm has been managing a similar fixed income strategy for its institutional clients since 2009.

The fund marks the second in BPV's fixed income line-up, following the launch of an unconstrained bond fund in June. In addition, the firm recently announced its first foray into the qualified retirement market, with the launch of a collective investment trust.

RMBS

Chinese RMBS RFC issued

Moody's has published a request for comment on its proposed methodology for rating Chinese RMBS. The rating agency's proposed approach for Chinese RMBS uses its MILAN model and no rating changes will result from the publication of its China MILAN settings, if adopted as proposed.

Moody's uses parameters from its new securitisation market MILAN settings for Chinese residential mortgage pools, with additional calibrations to reflect country-specific elements. These include differences between China and other new markets in terms of macroeconomic characteristics, observations of the Chinese property and residential mortgage market, and regional differences within China compared with other countries.

Comments are requested by 15 January 2016.

RMBS

RFC issued on RMBS approach

Morningstar has issued a request for comment on its proposed methodology for US RMBS ratings, which includes an explanation of its analysis of primary mortgage insurance (PMI) in RMBS. The agency is accepting comments on its proposal until 18 December.

Morningstar's methodology will generally be applied to the new issuance and surveillance of ratings of US RMBS. The agency says its approach has been developed to be forward-looking, yet incorporate lessons learned in differing economic circumstances.

The Morningstar Credit Model (MCM) is a collateral model used in the rating process built using a data set that includes mortgage performance extending through the 2007 recession. The modelling techniques - which include path-dependent simulations with dynamic transition matrixes - incorporate the latest in quantitative practices. Separate sub-models are created within the MCM based on the product type and performance history.

The rating process may also include reviews of originators, servicers and third-party due-diligence providers. The information gathered in these reviews may be incorporated into the model to help assess the relative risk of the specified pool of mortgages being analysed. In addition, any model results may be qualitatively adjusted based on additional information reviewed as part of the rating process.

Finally, additional stress testing may be performed to incorporate the impact of performance triggers, amortising credit enhancement and tail-end default risk.

In Morningstar's view, PMI does not directly impact a borrower's probability of default but may reduce loss given default or loss severity of residential mortgages. The agency's proposed analytical framework for analysing the impact of PMI on loss severity involves applying scaled historical rescission rates to haircut the PMI coverage to various rating scenarios.

The rescission rate is the percentage of PMI coverage being rescinded or denied. In the single-B rating scenario, the haircut is based on the long-term observed rescission rate; in the single-A rating scenario, the haircut is estimated by reviewing rescission rates during the recent economic recession; and in the triple-A rating scenario, the haircut is greater than the single-A PMI haircut. When determining a haircut, Morningstar may also consider other factors - such as originator reviews, underwriting strength, level of documentation, servicer reviews, representations and warranties and due diligence - on a case-by-case basis.

The dollar amount of PMI loss coverage will be limited by the PMI insurer's ability to pay.

Morningstar does not anticipate the proposals to have any impact on post-crisis new issue RMBS because those transactions did not contain PMI. There is no expected impact for resecuritisations of legacy transactions because loss severity from the model is adjusted based on actual performance on a deal-by-deal basis.

RMBS

STACR issuance plotted

Freddie Mac has released a 2016 STACR issuance calendar. The move coincides with the pricing of STACR 2015-HQA2, its eighth and final STACR transaction this year.

"The issuance calendar is the next step in our efforts to be clear and transparent in our credit risk transfer offerings," comments Freddie Mac vp of credit risk transfer Mike Reynolds. "The STACR programme has grown from two issuances in its first year to eight this year. We expect to have eight STACR transactions in 2016 and the calendar is intended to help investors plan their allocations."

Rotating between the two deal types, the GSE plans to issue four DNA and four HQA transactions next year in January, February/March, May, May/June, June, August/September, September and September/October. However, it says it retains sole discretion over whether these issuances come to market and the timing thereof, which may be impacted by market conditions.

Upon the completion of STACR 2015-HQA2, Freddie Mac's risk-sharing initiatives now total 17 STACR offerings, two Whole Loan Security offerings and 12 Agency Credit Insurance Structure transactions since mid-2013. The GSE has consequently transferred a substantial portion of credit risk on over US$385bn of UPB in single-family mortgages. Its investor base has grown to approximately 190 unique investors, including reinsurers, during this time.