Contents

CLOs

Performance questions

CMV conflict concerns aired

Scepticism about whether CLO managers and their investment affiliates can be truly independent of each other has accompanied the rise of CLOs anchored by risk retention capital raised via capitalised manager vehicles (CMVs). As the first iterations of these vehicles near the end of their reinvestment periods (SCI 26 June 2017), a better understanding of their performance could emerge, however.

CMVs and other captive investment affiliates allow CLO managers to tap into the ever-increasing demand for CLO securities and grow their AUM. On the other hand, many investors perceive these vehicles as an opportunity to secure access to a given CLO manager.

However, Pearl Diver Capital cio and managing partner Chandrajit Chakraborty suggests that in return, investors relinquish control and commit blind to buying the equity of the next 3-5 CLOs issued by the manager. “They’re giving up their right to determine portfolio quality, the opportune time to invest and in which structures,” he observes.

A CMV typically designates one series of notes (Series A) to receive all management fees and another series (Series B) to receive all proceeds on the risk retention notes, according to Cadwalader. The legacy collateral manager holds all of the Series A interests and is thus allocated all of the management fees that the CMV receives (net of expenses). If the legacy collateral manager contributes cash to the CMV, it also holds a pro-rata share of the Series B interests.

Meanwhile, third-party investors typically invest in a CMV through a (typically Cayman Islands or Jersey) ‘blocker’ entity, which invests substantially all of its cash directly into the CMV in exchange for Series B interests and is allocated a pro-rata portion of any payments that the CMV receives on the risk retention notes. The risk retention notes provide for two types of return, both of which are allocated to the blocker: the ‘regular return’, which consists of payments made in respect of the risk retention notes; and an ‘increased return’ on the most subordinated class of risk retention notes.

Cadwalader suggests that the increased return effectively compensates investors in the CMV for serving as indirect anchor investors in CLOs and is payable as a result of a corresponding reduction in the fees that the CMV charges the CLOs.

But Chakraborty questions whether the fee-sharing arrangement between a CLO manager and its investment affiliate is enough compensation for loss of control and the inability to conduct deal-level due diligence before investing, as well as potentially paying a higher acquisition price to subsidise third-party equity investors. He indicates that such a scenario gives rise to a conflict of interest.

Some CLO manager platforms also manage other CLO investment portfolios. Many have corporate governance guidelines that clarify whether a manager can purchase its own CLO securities. And although almost all claim to have Chinese walls and separate reporting lines in place, Chakraborty is sceptical whether the management and investment teams can be truly independent of each other.

“The main bread-and-butter business of CLO platforms is the CLO management and AUM tends to be the focus of senior management. If the CLO manager and the arranger syndicate bank is unable to sell all of the paper to external investors, the investment affiliate may be forced to buy it,” he explains.

He continues: “However, this is likely to be a sub-optimal investment because the captive nature of the investment affiliate will make it unlikely for them to be able to negotiate on price, since it complicates book-building and the investment bank may not receive a fee. In essence, the investment affiliate may have to subsidise the control equity’s position bought at par.”

Such a conflict of interest may be heightened when a CLO exits its reinvestment period, since calling the deal represents a significant loss of revenue for the CLO manager. Chakraborty, for one, says he isn’t aware of any evidence of an affiliate entity supporting a call to the detriment of the CLO manager.

Certainly, Dechert notes that since the sponsor of a CLO is an entity that initiates the transaction, a CMV must be a self-managed entity with substantive decision-making power. The CMV’s CLO management business could be self-contained in whole or in part, with the vehicle employing personnel itself or obtaining personnel via secondment under a staff and services agreement. 

In that regard, to the extent that another entity performs any of the collateral management functions on its behalf, Dechert says that a CMV should have a board of directors - at least a majority of which are independent - that “exercises customary oversight of the vehicle, its investment management activities and its conflicts of interest” and which would have the power to terminate any entity that provides services on its behalf.

Chakraborty anticipates that at some point, affiliate investment results will speak for themselves. “The CLO market has been benign since the crisis and in rising water, every boat floats. But as the market continues to go through the cycle, the impact of the conflict on quality will manifest itself.”

Looking ahead, the future of CLO sponsor vehicles is a function of market dynamics and the appetite of the end investors. “I wouldn’t be surprised if investors in captive affiliates eventually wise up and either the vehicles are spun-off or individuals from the investment teams set up their own CLO shops,” Chakraborty concludes.

Corinne Smith

Capital Relief Trades

Risk profile

Basel 4 impact to vary based on business model

The EBA last month published its advice on the implementation of Basel 4 in the EU, with its impact assessment suggesting that the full implementation of the new framework under conservative assumptions will increase the minimum capital requirement (MRC) by 24.4% on average. Although the resulting capital impact is highly dependent on the strategy of each bank, it is expected to affect the risk transfer market in a number of ways.

“The EBA’s wording is important. It states that the total risk-weighted assets in banks across the EU will increase – meaning that some banks will see a higher impact and others will benefit,” observes Martin Neisen, partner at PwC.

He adds: “Basel 4 is different from previous regulatory initiatives undertaken in the past, where requirements typically increased across the board. This time, some banks are seeing a reduction of up to 10% in capital charges and others an increase of up to 50%, due to the introduction of the new capital floor. There is a huge variation in impact, depending on a bank’s business model and risk profile.”

The EBA’s report includes a quantitative analysis of the estimated impact based on data from 189 banks and implies an aggregate shortfall in total capital of about €135.1bn (€91.1bn in terms of CET1). The majority of the capital impact occurs in large globally active banks, while the impact on medium-sized banks is limited to 11.3% in terms of MRC (representing a shortfall of €0.9bn) and to 5.5% for small banks (€0.1bn shortfall).

For half of the banks in the EBA’s sample, the impact of the full implementation of Basel 4 is less than 10.6%, while it is negative for a quarter of the sample. The study suggests that the estimated total capital shortfall would reduce to €58.7bn if banks were to retain profits (based on 2014-2018 data) throughout the transition period. 

Banks with significant real estate exposure - both commercial and residential – are likely to see the biggest increase in capital charges under Basel 4. “Under the current standardised approach, there is no difference between ‘normal’ and ‘income-producing’ real estate. However, under Basel 4, the risk-weights for the latter will increase, while for ‘normal’ real estate exposure risk-weight can decrease – thereby favouring banks with a more conservative approach,” Neisen explains.

Equally, Northern European banks will see a greater impact than Southern European ones, due to internal models being the standard in Northern Europe. “Southern European supervisors tend to be more conservative and the majority of banks are consequently under the standardised approach, so don’t feel the floor effect. Additionally, the economic situation in Northern European countries is good currently; therefore, real estate losses are low, which magnifies the impact of Basel 4 because they’re using internal models,” Neisen continues.

The variation in impact will not only be felt on a jurisdiction-by-jurisdiction basis, but also on a regional basis. For example, in the Netherlands and Denmark, it’s normal for banks to grant loans with LTVs of 100%-120% because the default risk of mortgages is perceived to be low and the collateral is expected to increase in value. Hence, mortgage lenders in these countries are likely to be hit with higher capital requirements.

In comparison, German lenders are more conservative and borrowers typically need a 20% deposit for a mortgage loan. However, borrowers in big cities in Germany are more likely to have high LTV mortgage loans because they’re unlikely to be able to save and property is more expensive than in the countryside.

A recent Rabobank analysis shows that Swedish lenders screen as the most affected by Basel 4, with the output floor driving a circa 55% increase in MRC. Danish and German banks will be affected by a circa 40% increase in MRC, while Dutch, French and Irish lenders will see an average impact of circa 25%.

“This is not at all unexpected, since banks that rely more on internal models to determine credit risk exposures or banks that have relatively low RWA density ought to be the ones more affected by the output floor (all else equal). A simple breakdown by approach shows that Sweden, Belgium, the Netherlands, Denmark, France and Germany are the countries [where] banks mostly rely on IRB rather than SA,” Rabobank credit analysts explain.

Neisen expects the implementation of Basel 4 to have a significant impact on the capital relief trades market in two ways. First, banks will have to release more capital and are likely to employ risk transfer or sell existing portfolios - especially specialised lending assets under the standardised approach – to facilitate this. Second, the credit approval process will be different in the future: banks will focus more on lending where the capital isn’t so intensive.

He believes that syndicated risk-sharing will increase in the future as a way for banks to maintain their relationships with borrowers and service the portfolios, while working with partners – be it pension funds, insurers or credit funds – to share the risk and lessen the capital impact. “Banks are good at assessing credit risk, but there’s no reason why they can’t transfer 50%-70% of a loan to another party or execute structures, for example, whereby they receive protection after the assets have been warehoused for a certain length of time. Overall, the motivation to do a CRT – whether in synthetic or cash format – will increase under Basel 4, but the focus will be on plain vanilla deals in order to satisfy the regulators.”

Neisen reckons the full impact of Basel 4 remains unknown at this stage, given the minimal bank participation in the EBA’s latest quantitative impact study, in which only 189 institutions out of the over 6,000 operating in the EU submitted data. “Banks need more time - several months, in fact - to do the calculations properly and supervisors need to force small banks to participate or they’ll get no coverage. Small banks aren’t incentivised to participate: they neither have the data nor the resources to do the calculations. However, the lack of participation skews the results - the exercise will have to be repeated at least one more time to achieve a better sample,” he suggests.

Last month’s EBA report on Basel 4 focused on credit risk, but the authority is also preparing an impact analysis regarding market risk, which is expected to impact the trading side of banks. A QIS on market risk is expected early next year.

The final Basel 4 package includes the introduction of a higher degree of risk sensitivity in the standardised approaches to measure credit and operational risks, as well as constraints to internal modelling by banks where undue variability of model outcomes was observed in the past. Its full implementation would also end current EU-specific policies, such as the SME supporting factor and CVA exemptions.

The implementation of the new framework should take effect in 2022, with the output floor being phased-in from 50% in 2022 to 72.5% in 2027. Supervisors have the option to use a transitional cap on the RWA increase over the phase-in period, equal to 25% RWA before the introduction of the floor.

Corinne Smith

Derivatives

Roll play

Asian CDS index changes could boost market

Impending changes to Asia’s CDS index are grabbing traders’ attention. Meanwhile, other structured finance derivatives activity in the region is on the up.

The IHS Markit iTraxx Asia ex-Japan index is due to roll on 20 September and will see significant changes in its composition. “The index has historically been Korean heavy,” explains one trader. “But they’re now trying to mirror the bond market more closely, which has recently been dominated by Chinese names.”

The post-roll provisional index membership list sees seven names removed: Bank of India; Export-Import Bank of China; Industrial Bank of Korea; Kookmin Bank; Korea Electric Power Corporation; SK Telecom; and United Overseas Bank. The seven replacement entities are: Agricultural Bank of China; Baidu; China Construction Bank; China National Chemical Corporation; China Overseas Land & Investment; CITIC; and State Grid Corporation of China.

“The move is a positive one,” says James Wong, deputy global head of credit solutions trading at Natixis. “It will hopefully make the index more resilient and increase hedging activity.”

The trader concurs, but is cautious on the wider ramifications of the index changes. “Hopefully, the new index will be widely accepted and we’ll see activity pick up, which will be good for everybody. However, some banks are worried that for the Korean names that come out, their underlying CDS will lose the liquidity they naturally get from being index components and that could make it difficult for dealers to quote on the single-name CDS.”

Liquidity is an issue in general in the region, the trader says. “In the synthetic tranche and bespoke space, we don’t see much with Asian underlyings because Asia is not liquid enough to enable the banks that are potentially willing to offer such products to hedge them.”

“It’s certainly true that the bulk of synthetic use relates to US and European underlyings,” says Wong. “But that should not be an issue if you view the region as we do – a major investor with capital to allocate globally, rather than concentrating on trying to force the pace on local markets.”

Indeed, Wong reports healthy activity throughout the region in international-based structures. “Specifics vary from jurisdiction to jurisdiction, but our business is always driven by the end-investor.”

He continues: “CLN activity is particularly strong and at the moment there’s a focus on utilising quanto CDS on single-names, baskets or indices. Clients are also looking for leverage.”

Further, Wong says: “There is also strong demand for TRS on single bonds or baskets and there is some interest in TRS on loans, but that’s less common at the moment. We are also being asked to innovate around arb-based products that utilise synthetic structures. One current example is a negative basis trade achieved by packaging CDS and bonds together and issuing structured notes to end-investors.”

Meanwhile, the current biggest potential local source of activity is the offshore Chinese market. “There’s a lot of money coming out of China now, but those investors still want credits they are familiar with, so tend to stick with Chinese names,” reports the trader.

He continues: “In line with the search for yield throughout the world, those investors are focusing on the highest yielding bonds available to them and so are typically looking at Chines Bank AT1s. However, thanks to the big demand for them, those bonds now trade very tight to US and European AT1s. As a result, investors have started to utilise non-recourse structured notes on those bonds to leverage returns.”

Banks offering those notes need to hedge themselves and in this instance doing so is fairly straightforward, says the trader. “There are a variety of ways that the AT1 notes can be hedged, but lately the simplest has become the most common – find someone to go short to take the other side of a TRS. Right now, there are plenty of hedge funds willing to take that side because of a combination of the belief that the bonds are trading too rich and concerns over the continuing impact of the US trade war make it a sensible position.”

Overall, Wong is optimistic that local derivatives market will grow alongside the region’s continuing global investment focus. “We hope to see derivatives representing onshore assets eventually, which will be a real step-up for local markets. However, a viable financial repo market will need to be established first, alongside closer alignment with international market practices throughout Asia.”

Mark Pelham

NPLs

Targeting opportunities

Servicers continue hunt for Greek NPL ABS

Hipoges Iberia, the Iberian servicer, is targeting opportunities in the Greek non-performing loan market that include NPL securitisations. Servicers are targeting Greek NPL ABS deals (SCI 31 May) amid actual and pending completions of NPL ABS transactions, as well as the European Commission’s pending approval of a government-backed NPL securitisation programme (SCI 12 October 2018).

The Greek NPL ABS market has gathered steam this past summer with the execution of high-profile transactions, such as Eurobank’s Pillar (SCI 31 May). Furthermore, the National Bank of Greece is expected to securitise €3bn of mortgage NPLs by 2022 and Alpha Bank is believed to be prepping its own NPL securitisation programme. 

According to Hugo Velez, md at Hipoges: “We‘ve been here for two years and established a partnership with a local company in July. It creates the capability and puts more people on the ground in a market with a growing pipeline. We are currently contributing to this deal flow with two NPL transactions; the first one is an NPL ABS deal and the second one is an outright sale.”

Hipoges is focused primarily on collateralised NPEs and REO, where it sees a lot of potential. In July, the firm acquired a real estate company called Alsvit, which provides real estate services, primarily to banks.

Alsvit offers the full spectrum of RE services, from asset valuation and pre-acquisition support to full sale preparation and execution. Alsvit also has extensive experience in refurbishment and construction, construction of retail branches and stores and other types of commercial and residential buildings. 

On securitisation in particular, Velez expects the Greek market to mirror developments in the Italian market. “We have been involved in public NPL ABS deals in Portugal and Italy and we are processing another two. As a servicer in the Portuguese market, we own a securitisation vehicle that we can rent to investors,” he says.

Reporting requirements and compliance differs between NPL ABS, but the servicing strategy remains the same. Velez notes: “You have to distinguish between primary servicing - which involves cash management and cash reconciliation - and special servicing, which are workouts and borrower negotiations. Primary servicing is challenging, due to the reporting requirements.”

The Bank of Greece has granted licenses to a total of 18 servicers, including EUPraxis and Pillarstone, although servicing capacity has room to grow and Hipoges will be contributing to the expansion through its focus on secured NPLs.

Velez states: “Servicing capability for secured NPLs is wanting in Greece, so we saw an opportunity. The Bank of Greece is moving towards a regulated servicing market, but it’s a new market and the servicing capability has room to grow.”

He continues: “We manage REOs because a big part of the portfolio transforms into REOs, following a foreclosure, so the focus will be secured NPLs. But we have acted as master servicer in unsecured NPLs, so we are open to other options.”

Looking ahead, Velez notes: “The bulk of the loan book in the Greek market is guaranteed by collateral, unlike Italy, but the HFSF’s securitisation programme is expected to create more deal flow in the market as was and is the case in Italy. However, as with Italy, the market is in its early stages, so the data aren’t seasoned enough. But this is something that we have seen at the early stages of the Portuguese and Italian NPL market.”

He concludes: “If liquidity is still low, then servicers will have to push for legal strategies that allow them to seize the real estate collateral in order preserve value as opposed to amicable resolutions. The former option tends to work better in a more depressed economy and I would expect it to be the most prevalent one over the next 18 months.”   

Stelios Papadopoulos

ABS

Polish ABS inked

Securitisation features auto lease collateral

Alior Leasing has launched a 12 month revolving cash securitisation of auto leasing loans and leases extended to sole traders and SME obligors in Poland. Dubbed AL Poland Securitisation 01, the transaction is the first to receive a public rating by Moody’s.

Moody’s has assigned a rating of Baa2 on the PLN359.9m floating rate secured notes, while the PLN140m subordinated loan is not rated.  The originator, Alior Leasing, will act as the servicer of the portfolio during the life of the transaction.

The portfolio of receivables backing the notes consists of auto leasing loans and leases to Polish sole traders and SME obligors collateralised by new and used vehicles, including trucks. Sole traders make up 80.1% of the initial pool while used cars make up 61.2% of the initial pool, with a limit of 65% for the pool after replenishments.

Moody’s notes that the maximum exposure to a single industry sector is 35%, the maximum exposure to heavy vehicles weighing more than 3.5 tonnes is 35% and the pool is exposed to a diversified pool of predominantly European car brands. The residual value component of the leases is not financed by the securitisation and so there is no market value or balloon risk associated with the transaction.

Security over the vehicle for leasing loans is predominantly either conditional upon notification of the assignment, or upon default of the borrower, however this information is not always available in the seller's database. For all receivables, irrespective of security type, the obligors are notified of the assignment no later than thirty days following the closing date or each subsequent assignment date.

The portfolio comprises 9,433 contracts, with a weighted average seasoning of one year and a weighted average remaining term of 3.5 years, while the weighted average original LTV is 87%. The initial pool consists of 100% floating rate loans that reference either to three-month WIBOR (Warsaw Interbank Offer Rate), 98.5%, or one-month WIBOR, 1.5%.

Moody’s notes that the transaction's main credit strengths are the granular portfolio, good geographic diversification, counterparty support through the back-up servicer, TMF Poland, Elavon Financial Services as calculation agent, and notification of assignment provided to borrowers within thirty days of each transfer. Additionally, the PLN6m non-amortising reserve fund, 1.2% of the pool at closing, will be available to cover liquidity shortfalls on the notes throughout the life of the transaction and can ultimately serve as credit enhancement.

The transaction is exposed to some credit weaknesses, however, with the rating agency highlighting that some types of contracts, such as those for the purchase of heavy vehicles, have seen high default rates historically, and can make up to 35% of the total pool. This is partially mitigated by a minimum requirement of a 5% down-payment for certain higher risk contracts sold during the replenishment period.

Furthermore, there are no limits on the length of the contract and exposure to a single sector can reach 35%, while a large proportion of the initial pool consists of loans with only partial security, whereby the remaining security will be automatically transferred to the issuer via the seller only at borrower default. Following seller insolvency, the issuer's rights to these claims will no longer be effective if the insolvency is within 6 months of the receivables' assignment to the issuer.

Moody’s concludes that portfolio expected recoveries of 20% are lower than the EMEA auto ABS average and are based on the firm’s assessment of the lifetime expectation for the pool. This takes into account historic performance of the book of the originator, potential haircuts arising from weaker security, benchmark transaction and other qualitative considerations.

Richard Budden

ABS

Green ABS recommendations outlined

Securitisation could be key tool in climate change battle

Green securitisation can play an important role in helping to close the yearly investment gap of almost €180bn needed to meet EU climate and energy targets by 2030, according to AFME. The industry body, and its members, “strongly support” the growth of a green ABS market but recommends the need for greater clarity around definitions of green securitisation, as well as the introduction of incentives, such as around capital treatment.

In a recent proposal, AFME comments that demand for green securitisation bonds is still “relatively low” but that many institutional investors have increased their commitments to invest in green assets and that enquiries are growing around green securtisation. It has highlighted key voluntary principles that it suggests policy makers and market participants should support to promote green securitisation.

The first is around the value of defining green securitisation simply and clearly, as well as the need for political support and financial or regulatory incentives to promote the development of the green securitisation market. It also recommends greater consideration of the key contractual provisions that will need to be contained in a green securitisation - such as eligibility criteria and triggers – and the need to consider and address the impact of the evolution of green technologies and standards over time on long-term programmes and the secondary market.

AFME notes that clearly defining green securitisation is crucial to the expansion of the market and that the term green securitisation should be used exclusively for transactions collateralised by green assets. This includes, for example, mortgages to finance energy-efficient homes, electric vehicle loans/leases, solar leases and SME loans to fund environmental projects.

Furthermore, AFME says: “While some green investors may have more flexibility, many will only have a mandate to invest in securitisations collateralised exclusively by green assets. This definition will also promote simplicity while the Green Securitisation market is still developing.” AFME suggests that a securitisation with non-green collateral tied to green projects can still be defined as a green bond, just not a green securitisation.

AFME also suggests that incentives for green securitisation should be introduced, such as tax, regulatory or other initiatives. Preferential regulatory capital treatment on green securtisation, it says, would “likely make a material difference to the growth of the market”, particularly as it would help to boost green securitisation for all securitisation investors, not just those with a green mandate.

Such initiatives could include reduced hair-cuts for central bank eligibility schemes, bespoke LCR limits, ongoing governmental and regulatory support by way of guarantees and subsidies for establishing new green projects. In terms of disclosure and reporting of green securitisations, AFME suggests that no additional reporting requirements are needed, given the numerous requirements already imposed under the Securitisation Regulation.

It notes that for most public green securitisations, the green requirements would likely only need to be tested on the closing date, particularly where the green aspects of the deal can’t change over time. This might include an RMBS or auto loan deal, for example, where the relevant EPC certificates or emission standard is certified upfront.

However, it suggests that for other types of public securitisation transactions, additional disclosure may be required. If the underlying collateral contains ongoing green obligations, such as key deadlines for achieving a minimum energy efficiency improvement, details of these ongoing obligations will likely need to be included in the prospectus.

In terms of eligibility criteria and trigger events, AFME suggests that any breach of a green asset warrant in a green ABS would be limited to the usual repurchase obligations of an originator and the ongoing reporting would be no different from that of a standard securitisation transaction.

However, AFME adds, additional green trigger or default events may be required in some circumstances, such as where the underlying collateral contains ongoing green obligations. As such, the transaction would need to consider what the repercussions would be of any breach of an ongoing obligation by the underlying borrower and how this should be reflected in any reporting.

The trade body points out that, as standards evolve over time a transaction originally considered to be green could cease to meet the requirements of the relevant green principles or taxonomy, potentially impacting on pricing and liquidity in the secondary market. Ongoing reporting and transparency, where standards have changed on legacy transactions, will therefore be important and long-term securitisation structures, such as master trusts, may require flexibility to evolve over time in order to remain current as green standards develop and become more stringent.  

It also recommends the introduction of grandfathering for legacy transactions that have ceased to be considered green (or have become less green) over time, as a result of the evolution of technology. AFME concludes that it would be helpful to consider whether the appropriate green bond criteria and/or taxonomy requirements - against which a portfolio is tested - should be those that applied on the date the relevant receivable was originated, so ensuring that where a legacy green portfolio is refinanced, the new transaction could still qualify as a green securitisation.

Richard Budden

Structured Finance

Competitive boost

QMP expiration levels playing field

The US Treasury’s plan to reform the country’s housing system is expected to level the playing field between the GSEs and the private sector (SCI 6 September). However, a reduced GSE footprint will also impact credit risk transfer and multifamily CMBS volumes.  

Under the reforms, the FHFA is set to examine whether the loans the GSEs are buying support their mandate, including whether investor loans and large balance loans help low income groups. According to Warren Kornfeld, svp at Moody’s: “The GSEs purchase 45% of loan origination and the Treasury is asking whether it should be that large; if the mission is to support the residential market, is financing second homes part of that mission? Additionally, should the GSEs scale back investor property support and some higher risk loans?”

As part of this drive, the reforms seek to restrict certain types of loans in credit risk transfer deals that can impact the credit quality of the transactions. If implemented, they would “create a larger and more diverse private-label securitisation (PLS) market and generally improve the credit quality of GSE credit risk transfer (CRT) transactions,” says Moody’s.

Indeed, administrative actions that level the regulatory playing field between the GSEs and PLS issuers is expected to facilitate the growth of PLS issuance. However, the influx of additional loans into the PLS market is likely to introduce some riskier pools or shelves into the issuance mix.

The most notable reform is the expiration of the qualified mortgage patch (SCI 31 July). The QMP stipulates that qualified mortgages that are purchased by the GSEs must be accompanied by legal protections, such as the lack of risk retention for securitisation transactions and the absence of any debt-to-income ratio thresholds.

“The expiration of the patch means that higher DTI loans will be more competitive for the private sector, given the removal of the QM label for the GSEs,” says Yehudah Forster, svp at Moody’s.

Meanwhile, a decreased GSE role could negatively impact the multifamily CMBS sector. A reduction in the GSEs' footprint could shrink the level of capital available to multifamily borrowers, making it more difficult for them to refinance loans or transact properties.

The reduction of available capital could, in turn, result in more volatile valuations for multifamily properties, increasing the likelihood of ratings movement in the CMBS sector. CMBS lenders could potentially fill the liquidity gap; however, the cost of capital provided by them would likely be higher.

As of June 2019, agency CMBS debt represented approximately 30% of total outstanding CMBS issuance.

Stelios Papadopoulos

Structured Finance

SCI Start the Week - 9 September

A review of securitisation activity over the past seven days

Transaction of the week
The EIF has launched two new funding initiatives to support SMEs in Europe, including a first-of-its kind initiative in Finland. The second provides funding support for Lithuanian micro businesses and SMEs.

The Finnish programme comprises a guarantee agreement signed by the EIF and Finnish specialist lender, Finnvera. The guarantee is designed to facilitate around €190m of new lending for SMEs that are seeking to grow their businesses.

Additionally, Vilnius Factoring Company, a private lending company in Lithuania, has signed a cooperation agreement with the EIF to issue microloans of up to €25,000. Micro-enterprises and farmers in Lithuania can now benefit from non-banking business funding opportunities under the EU Programme for Employment and Social Innovation (EaSI).

See SCI 6 September for more...

Stories of the week
Going concern?
Synthetics could help address UTP burden
Navigating the new
New European CLO investors must chart a steady course
STS success?
Market warms to STS, but threats hover on the horizon

Other deal-related news

• A resolution in Brazil, intended to widen the pool of funds available to finance the purchase of homes in the country, has been passed, removing restrictions on the use of market indices-adjusted interest rates on residential mortgages. It is expected to boost RMBS issuance in the country, but there are certain risks associated with the resolution, particularly tied to inflation volatility (SCI 2 September).
• Yellow Brick Road, an Australian non-bank lender, has received final credit approval from an Australian Bank for it to provide an initial A$120m RMBS warehouse facility. The facility will be provided to the intended RMBS programme trust manager, sponsor and servicer, Resi Warehouse Funding (SCI 2 September).
• RAIT Financial Trust has entered into an equity and asset purchase agreement to sell substantially all of its assets to an entity owned by a Fortress Investment Group affiliate under Section 363 of the US Bankruptcy Code (SCI 2 September).
• The PRA has set out some proposed updates to its approach and expectations in relation to the authorisation and supervision of insurance special purpose vehicles (ISPVs). The CP is relevant to parties who wish to apply for, or have obtained authorisation as, an ISPV. It is also relevant to insurers or reinsurers seeking to enter into arrangements with UK ISPVs as a form of risk mitigation (SCI 3 September).
• Tesco Personal Finance has sold its mortgage portfolio - comprising over 23,000 customers - to Lloyds Banking Group for a cash consideration of circa £3.8bn. The portfolio has a lending balance of circa £3.7bn and generated pre-tax profits of £9.1m in the 2018/2019 financial year (SCI 3 September).
• The EBA has announced that it has added the STS Regulation to its online Interactive Single Rulebook and Q&A. It allows market participants to access the EBA's guidelines, and it will also enable them to ask questions on any aspect of the criteria where it is felt require clarification under the EBA's continuing power to issue guidelines (SCI 4 September).
• The Reserve Bank of India's task force on the development of a secondary market for corporate loans (SCI 30 May) has since submitted its report to the governor of the central bank. Among the key recommendations of the task force are: the establishment of a self-regulatory body of participants to finalise detailed modalities for the secondary market, including standardisation of documentation; and a central loan contract registry (SCI 4 September).
• FastPay has launched a receivables securitisation program with the first tranche of US$80m, and senior funding and trade insurance provided by AIG. This program will offer significant capital to the media and technology sector and allow FastPay to open the door for larger, global media and tech clients to access working capital backed by their trade accounts receivable (SCI 5 September).
• The US Treasury has released its plan to reform the country's housing finance system. The Treasury Housing Reform Plan (THRP) consists of a series of recommendations that are designed to "protect American taxpayers against future bailouts, preserve the 30-year fixed-rate mortgage and help hardworking Americans fulfil their goal of buying a home." (SCI 6 September)
• The standardisation of blockchain technology, which the International Organisation for Standardisation (ISO) and others are promoting, will be credit positive for future securitisations that utilise the technology, says Moody's. Although the technology itself has the potential to provide many benefits to the securitisation market, namely via interoperability and operational efficiencies, the current lack of standardisation holds back market adoption (SCI 6 September).
• The transaction documents for the Permanent Master Issuer 2011-2, 2015-1, 2016-1 and 2018-1 RMBS have been modified to ensure that the programme complies with and is eligible for designation under the STS framework. The documents have also been amended to reflect the potential cessation of Libor (SCI 6 September).
• The US SEC has charged Live Well Financial and its ceo, Michael Hild, with perpetuating a multi-million dollar bond mismarking scheme against Live Well's short-term lenders. The complaint also charges Live Well's cfo, Eric Rohr, and evp, Darren Stumberger, both of whom consented to partial judgments against them. The US SEC alleges that Live Well, under the direction of Hild, fraudulently inflated the value of its portfolio of complex reverse-mortgage bonds (SCI 6 September).

Data

BWIC volume

Upcoming SCI event

Capital Relief Trades Seminar, 17 October, London

Capital Relief Trades

Risk transfer round-up - 12 September

CRT sector developments and deal news

Intesa Sanpaolo is rumoured to be prepping for 4Q19 two capital relief trades that reference respectively corporate and SME loans. The bank printed its last corporate and SME SRTs last year from the GARC programme (see SCI’s capital relief trades database).

The alleged transactions are riding a wave of Italian SRT issuance this year, fuelled by rising standardised bank issuance. BP Bari recently completed the first SRTs between a private investor and a standardised bank (SCI 2 August), while Banca Popolare dell’Alto Adige is expected to ink its own deal in 4Q19.

Structured Finance

CLO firm bulks up

Company hires and sector developments

CLO firm bulks up

Adrienne Dale has joined MidOcean Credit Partners a portfolio manager for its CLO strategies. She will report to Jim Wiant, who oversees MidOcean’s existing CLO business, as the firm looks to expand and scale the business further. Most recently, Dale held senior positions in Credit Suisse Asset Management’s credit investments group, where she spent the past 14 years.

Credit vet nabbed

CBAM Partners has hired Jean-Philippe Levilain to assist in the launch of its European business. He was previously global head of loans and private debt at Axa Investment Managers.

Lender lawsuit dismissed

The US District Court for the District of Columbia has, for the second time, dismissed a lawsuit brought by the Conference of State Bank Supervisors (CSBS) that sought to block the Office of the Comptroller of the Currency’s (OCC) special purpose national charter for financial technology firms (better known as the fintech charter), but the charter’s long-term survival remains uncertain due to an identical, but separate, lawsuit filed by the New York Department of Financial Services (NYDFS).

In dismissing the action, Judge Dabney Friedrich reasoned that the CSBS lacked standing because the OCC has not yet received a fintech charter application, similar to the reasoning she used when she dismissed the CSBS’ lawsuit against the OCC in May 2018. The court also noted that no event concerning the fintech charter since the prior case’s dismissal, including the OCC’s decision to begin accepting applications for fintech charters and its finalization of its fintech charter policy on 31 July, 2018, cured the original jurisdictional deficiency.  Though the CSBS’ lawsuit was dismissed, there is still active litigation concerning the fintech charter in the U.S. District Court for the Southern District of New York, where the NYDFS brought a lawsuit against the OCC seeking to block the charter. On 2 May, 2019, Judge Victor Marrero ruled against the OCC’s motion for dismissal and ruled that the NYDFS’ claims against the OCC and its fintech charter are ripe for adjudication. In her opinion concerning the CSBS’ lawsuit, Judge Friedrich noted her disagreement with Judge Marrero’s decision.

P2P information call

China’s internet finance regulators last week issued a notice asking peer-to-peer lending platforms to submit credit information on all their borrowers to the country’s major credit bureaus. Moody’s notes in its latest Credit Outlook publication that the move is credit positive for Chinese ABS backed by consumer debt, as the availability of such information will allow both internet-based and traditional lenders to make better informed underwriting decisions, increasing the asset quality in structured finance deals. The regulators also encouraged financial institutions and insurance companies to take tougher action against borrowers that default on online loans, including by limiting their loans and insurance services and charging them higher interest rates for future loans – another credit positive move, according to Moody’s, since it will discourage poor credit behaviour.

Structured Finance

Country md announced

Company hires and sector developments

Country md announced

Jervis Smith has been appointed country md of Vistra Luxembourg, responsible for leading Vistra’s Luxembourg office and growing the business, together with the Vistra office in the Netherlands to maximise joint opportunities between the two offices. Based in Luxembourg, he will report to Vincent Bremmer, regional md, Europe, Vistra. Smith previously spent over 25 years with Citi, most recently as head of investor services, Luxembourg.

Israel ABS discussions started

The Israel Securities Authority (ISA) has published an advisory document for public comment ahead of the publication of a legal memorandum for the regulation of the securitisation field in Israel. The goal of the advisory document is to increase the investing public and sponsors’ familiarity with the main characteristics of securitisation transactions, as well as to receive feedback from them as to the primary issues that may arise when executing securitisation transactions. The purpose of this is to establish effective regulation in the area.

Law firm bulks up

King & Spalding today announced that Jonathan Arkins has joined as a partner in the firm’s corporate, finance and investments practice group in its New York office. Arkins joins the firm from Arnold & Porter Kaye Scholer. Arkins represents financial institutions, private equity funds and other institutional investors on bankruptcy safe-harbored financing transactions, repurchase transactions, securitisation and supply chain and trade financing transactions.

Structured Finance

CLO firm incorporates ESG approach

Company hires and sector developments

Cayman CLO first

Maples Group has supported the first ever US CLO to issue out of the Cayman Island. The transaction was a US$501m middle market CLO from Natixis, which closed on 13 August 2019.

ESG implementation

THL Credit has developed and begun utilising a new investment framework for assessing environmental, social, and governance (ESG) factors in analysing credit quality and risk factors. THL Credit said the goal is to increase the consideration of ESG factors and better understand their impact on the long-term value and strength of its borrowers across the firm’s tradable credit portfolio, which includes syndicated bank loans, high yield debt, and CLO debt and equity, as well as its direct lending portfolio.

ILS

Twelve Capital is expanding its distribution efforts into Australia and New Zealand by partnering with Allen Partners, a capital advisory and fund placement consultancy based in Sydney. The firm has successfully helped establish specialised asset managers in the region across a number of different asset classes. Twelve Capital says that the insurance sector is typically under-researched by asset managers and banks in the region, which creates significant investment opportunities for its clients in asset classes including catastrophe bonds and ILS.

Markel Corporation today announced the launch of Lodgepine Capital Management Limited, its new retrocessional insurance linked securities (ILS) fund manager in Bermuda, together with a reinsurance company, Lodgepine Re. Lodgepine's initial product offering will be the Lodgepine Fund, a property catastrophe retrocessional investment fund ahead of the 2020 renewal period. Markel's Andrew Barnard will serve as Lodgepine ceo. Additionally, the entity is drawing from Markel's deep talent by appointing James Welsby as cio and John Duda to lead the retrocessional portfolio management team. The Bermuda Monetary Authority (BMA) has given its approval in principle for the licensing of Lodgepine Re, the reinsurance company, and once all requisite approvals of the other Lodgepine entities have been obtained, Markel will work to have all entities organised and capitalised in the coming weeks.

Structured credit support

Quantifi, has been selected by Jefferies Group to support its growing structured credit business. To meet investor demand for more innovative and tailored investments, Jefferies has grown its structured credit capabilities to include synthetic CDOs based on diverse portfolios of corporate credit default swaps. To support this synthetic CDO business, Jefferies sought to acquire a state-of-the-art pricing and analytics solution with enhanced capabilities for synthetic structured products, instead of developing its own in-house system. Quantifi was selected for its market leading analytics, including the ability to calculate VaR for complex credit products, strong integration with existing in-house systems, technical flexibility, and high performance computing.

Structured Finance

ECB stimulus announced

Sector developments and company hires

ECB stimulus package outlined

The ECB has announced that it is cutting the interest rate on the deposit facility will be decreased by 10 basis points to -0.50%. The interest rate on the main refinancing operations and the rate on the marginal lending facility will remain unchanged at their current levels of 0.00% and 0.25% respectively.  Additionally, net purchases will be restarted under the asset purchase programme (APP) at a monthly pace of €20bn as from 1 November 2019. The Governing Council expects them to run for as long as necessary to reinforce the accommodative impact of its policy rates, and to end shortly before it starts raising the key ECB interest rates.

Reinvestments of the principal payments from maturing securities purchased under the APP will continue, in full, for an extended period of time past the date when the Governing Council starts raising the key ECB interest rates, and in any case for as long as necessary to maintain favourable liquidity conditions and an ample degree of monetary accommodation. Additionally, the modalities of the new series of quarterly targeted longer-term refinancing operations (TLTRO III) will be changed to preserve favourable bank lending conditions, ensure the smooth transmission of monetary policy and further support the accommodative stance of monetary policy. Finally, in order to support the bank-based transmission of monetary policy, a two-tier system for reserve remuneration will be introduced, in which part of banks’ holdings of excess liquidity will be exempt from the negative deposit facility rate.

RaboBank’s analysts note that, as for the ABSPP, it is a very small part of the overall APP and net purchases are potentially only some €0.1bn a month. As such, redemption flows continue to be the most important factor as they total some €6.6bn (~25% of the portfolio) in the next 12 months.  The analysts add: “As it stands currently, the ECB is already failing to keep their ABSPP portfolio steady, let alone grow it further (however marginal the net increase actually is). Hence, no pullback by the ECB in the ABS market is expected.”

Key man replaced

Neel Doshi has replaced Donald Pollard as key person under the investment management agreement for CVP CLO 2017-1 and 2017-2, as well as CVP Cascade CLO-1 and CLO-2. The holders of a supermajority of the controlling class of notes issued by these transactions may object to the replacement key person by 4 October.

Multifamily purchase

KBRA received a notification on 10 September from Wells Fargo, the trustee on LNCR 2018-CRE1, regarding the collateral manager’s (LoanCore) exercise of its right to purchase the West 107th Street and 471-476 Central Park West collateral out of the CRE CLO trust at their respective par purchase prices of US$85.2m and US$35.6m. The purchase occurred as the loans became 60-plus days delinquent and transferred to the special servicer, having been reported 30-plus days delinquent during the August remittance period. If the loans are not purchased within 45 days, the note protection test may fail, causing a mandatory redemption of some portion of the class A notes to be paid from interest proceeds. Both loans are collateralised by multifamily assets located in New York City, a large number of which are rent-stabilised/rent-controlled units where the borrowers’ business plans included converting some to market rent apartments. However, KBRA notes that the Housing Stability and Tenant Protections Act of 2019 – passed on 14 June - dramatically reduces the ability of New York City landlords to increase rents on such property.

SFA appointment

The Structured Finance Association (SFA, formerly SFIG) has appointed Leslie Sack, head of government relations at SFA, as executive director of the Structured Finance Foundation. Established in 2016, the Structured Finance Foundation partners with Scholarship America and Mentor Foundation USA to develop and provide scholarship programs for the young people engaged in the Mentor Foundation’s programs. Since its inception, the Structured Finance Foundation has awarded 29 students nearly $500,000 in scholarships.  Sack takes over the role of from Sairah Burki, who was recently named md and head of policy at the SFA.