Contents

ABS

Bank retreat

Basel endgame to slash bank securitization lending

Next year in the securitization industry will be dominated by the fallout from the Basel III endgame and the consequent inevitable contraction of bank lending, says Jodi Schwimmer, global co-lead of Reed Smith’s Financial Industry Group.

“The reality is that the Basel III endgame will constrain bank lending. There is only so much money that banks can put out. So, who is going to fill the vacuum?” she asks.

Schwimmer also believes that the stipulations of the Basel III endgame proposals, which are set to increase capital requirements by up to 20% for the top banks, will go forward as they currently stand.

The plans have met a firestorm of criticism, and the public comment period was this week extended from the end of this month to January 16. There has been some hope in the financial industry that the Federal Reserve will row back from the most onerous aspects of the new rules, but Schwimmer does not share these hopes.

“It will be adopted mostly in the form it is now,” she says.

The almost certain reduction of US bank lending has thrust private credit into the spotlight. The private credit industry is having, as Schwimmer terms it, a “sweetheart moment.“ Private credit has been an increasingly significant part of the US capital markets for several years, but the ramifications of the Basel III endgame will make it even more popular, it is believed.

In 1994, US banks were responsible for underwriting 70% of middle market corporate loans; by 2020 this had shrunk to 10%, and the proportion is likely to have grown smaller in the last couple of years. In addition to not been governed by the same laws on capital retention as regulated banks and having capital to spare, private credit funds are also likely to be more nimble and able to respond faster than banks. This often makes them more attractive to borrowers.  

However, private credit is unlikely to be able to replace bank lending in its entirety. Smaller CMBS borrowers, for example, will be forced into the arms of other lenders but the gap left by the absence of banks is too large to be completely filled.

“Will private credit save the day in securitization? Probably not,” says Schwimmer.

Simon Boughey

Structured Finance

SCI Start the Week - 30 October

A review of SCI's latest content

Last week's news and analysis
'Endgame' comment period extended
Updates on Fed’s extension, Algonquin rating and Alpha/Unicredit partnership
EU leads the pack
Delegates at SCI CRT event stress jurisdictional divergence
Job swaps weekly: Antares beefs up team after strategy launch
People moves and key promotions in securitisation
Legacy adjustments
Call for enhanced transparency for restructured mortgages
Polish lease SRT prints
Millennium, Veld strengthen relationship
Risk transfer round-up - 26 October
The week's CRT developments and deal news
SCI CRT Awards: Arranger of the Year
Winner: BNP Paribas
SCI CRT Awards: Contribution to CRT
Winner: PGGM
SCI CRT Awards: Credit Insurer of the Year
Winner: Arch MI
SCI CRT Awards: Impact Deal of the Year
Winner: Project Bocarte
SCI CRT Awards: Innovation of the Year
Winner: SLG2
SCI CRT Awards: Investor of the Year
Winner: AXA IM Alts
SCI CRT Awards: Issuer of the Year
Winner: Santander
SCI CRT Awards: Law Firm of the Year
Winner: Clifford Chance
SCI CRT Awards: North American Issuer of the Year
Winner: Bank of Montreal
SCI CRT Awards: Personal Contribution to the Industry
Winner: Bruno Bancal, head of active management & transactions at BNP Paribas
Subprime auto is not the next credit crisis
Are challenges in the subprime auto market as significant as they seem?
Plus
Deal-focused updates from our ABS Markets and CLO Markets services.

Free Special Report available to download

SCI Global Risk Transfer Report 2023: New frontiers in CRT
Capital relief trade issuance witnessed another record-breaking 12 months in 2022, yet a number of regulatory challenges remained outstanding by the end of the year. SCI’s latest Special Report examines how the risk transfer community is addressing these issues – whether through regulatory fixes or structural enhancements – and the fallout from the turmoil in the bank sector in March. It also explores the new frontiers that are emerging across jurisdictions and asset classes, including by highlighting the potential of the Canadian and the CEE CRT markets.

Sponsored by Arch MI, Man GPM, Mayer Brown and The Texel Group, the report is available to download here.

Regulars

Recent premium research to download
(Re)insurer participation in CRTs
(Re)insurer interest in CRTs is rising, but execution of unfunded transactions remains limited. This Premium Content article outlines the hurdles that still need to be overcome.

Utility ABS – October 2023
An uptick in utility ABS is expected as US utilities seek financial solutions for retiring the country’s aging fossil fuel fleet. This SCI Premium Content article explores how the proceeds from these transactions can be used to facilitate an equitable energy transition.

Emerging UK RMBS – July 2023
The return of 100% mortgages and the rise of later-life lenders herald an evolving UK RMBS landscape. This Premium Content article investigates how mortgage borrowers’ changing needs are being addressed.

Office CMBS – July 2023
The office CMBS market is grappling with headwinds brought about by declining occupancy rates and rising costs of borrowing. However, as this Premium Content article finds, the European CRE market may not be as badly affected as its US counterpart.

All of SCI’s premium content articles can be found here.

SCI In Conversation podcast
In the latest episode, Matthew Bisanz, a partner in Mayer Brown’s bank regulatory practice, outlines how the Federal Reserve’s update on 28 September of the FAQs on Regulation Q is likely to impact the US capital relief trades market. The long-awaited guidance clarifies the definition of a synthetic securitisation and, crucially, states that a reservation of authority can be requested for direct CLNs. Bisanz, for one, anticipates an increased willingness – especially among larger CCAR banks – to enter into CRTs as a result.

The episode can be accessed here, as well as wherever you usually get your podcasts, including Apple Podcasts and Spotify (just search for ‘SCI In Conversation’).

SCI Markets
SCI Markets provides deal-focused information on the global CLO and Australian/European/UK ABS/MBS primary and secondary markets. It offers intra-day updates and searchable deal databases alongside CLO BWIC pricing and commentary. Please email Tauseef Asri at SCI for more information or to set up a free trial here.

SRTx benchmark
SCI has launched SRTx (Significant Risk Transfer Index), a new benchmark that measures the estimated prevailing new-issue price spread for generic private market risk transfer transactions. Calculated and rebalanced on a monthly basis by Mark Fontanilla & Co, the index provides market participants with a benchmark reference point for pricing in the private risk transfer market by aggregating issuer and investor views on pricing. For more information on SRTx or to register your interest as a contributor, click here.

Upcoming SCI events
Esoteric ABS Seminar
7 November 2023, New York

European CRE Finance Seminar
28 November 2023, London

Capital Relief Trades

Depletion analysis

CRT loan mods stress-tested

Excessive loan modifications could result in credit support depletion for US agency credit risk transfer transactions, according to S&P. A scenario analysis undertaken by the rating agency on typical CRT structures suggests that the presence of an associated coupon on the most subordinate B3H class, along with an elevated SOFR mitigates modification losses - particularly under higher interest rate reduction and forbearance stresses. Meanwhile, M1 classes remain largely unscathed by principal write-downs, even under severe modification assumptions.

The standard modification plan that servicers implement for agency loans purchased by Fannie Mae and Freddie Mac is the Flex Modification programme. The programme is designed to help borrowers achieve a target P&I reduction and a target post-modification housing expense-to-income (PMHTI) ratio. The plan provides payment reduction to delinquent borrowers or borrowers facing imminent default by changing the existing loan's terms while bringing the loan current.

In the case of agency CRT transactions, amounts attributable to lost interest due to rate reductions and principal forbearance are generally passed through the capital structure to permanently reduce contractual interest and then principal in reverse sequential order. In some cases, a subordinated reference tranche can have an associated coupon that is used for the sole purpose of offsetting loan modification losses. Losses on forborne principal are not realised unless the loan is liquidated.

To better understand how an increase in loan modifications could impact CRT transactions, S&P’s scenario analysis assumes various combinations of forbearance levels (up to 30%) and interest rate reductions (up to 2.50%), to examine their impact on write-downs to tranches of CRT structures benefitting from 25bp of credit support from the B3H reference tranche. The agency also examined corresponding recidivism rates under which these modifications could be considered a net benefit.

Assuming a 6% CPR and that 5% of the loans were modified, the analysis was applied on both a structure that included a hypothetical coupon of SOFR plus 15% and on a structure without the benefit of such a coupon. In addition, due to the material impact SOFR can have on the absorption of loan modification losses up the capital structure, S&P applied the analysis using a low, flat SOFR of 0.50% and a high, flat SOFR of 5%.

Interest rate reductions and forbearances were applied over the course of 96 periods from closing, which remained at their terminal level from period 96 until final maturity. S&P then aggregated principal write-down amounts to the classes in each of the scenarios to determine a ‘deal write-down amount’, representing the cumulative loan modification loss, less the support provided by the class coupons.

The highest level of deal write-downs arose from the low SOFR scenario on the structure with no hypothetical coupon. Conversely, the lowest level of deal write-downs arose from the high SOFR scenarios on the structure with a hypothetical coupon.

The analysis suggests that it could take a sizeable level of modifications (over 5%) and a significant enough combination of rate reductions (over 1%) and forbearances on the modified loans to not only result in principal write-downs on a class B2 or higher tranche, but also to result in higher write-downs than would be incurred absent modifications. However, given the combined LTV ratios observed in CRTs (ranging from low-70s to low-90s at closing), it would take a severe drop in home values to allow for moderate to high levels of forbearance. In addition, the level of forbearance given is limited to the extent a loan has no lower than an 80% MTMLTV.

“The net benefit of loan modifications to a CRT depends on the level, duration and effectiveness of the loan modifications and corresponding rate and timing of recidivism. Assuming a recidivism rate of 50% or less, it may take a moderate to severe level of interest rate reductions and/or forbearance on over 5% of a mortgage pool to result in higher write-downs to CRT transactions than would have occurred under liquidation, absent loan modifications,” S&P concludes.

Corinne Smith

Capital Relief Trades

GSEs glisten

CAS and STACR look good versus comps as supply dwindles

Agency CRT bonds continued to outperform rates and both high yield and investment grade product in October, making it the seventh month in a row that the sector has recorded positive returns, according to data compiled by industry leader Mark Fontanilla and Co.

The CRTx, the company’s flagship index, returned 0.49% for the month, in the face of considerable market volatility occasioned in large measure by events in Israel and Gaza. The market was supported by coupon carry and the latest CAS tender offer. The index has now returned 14.31% for 2023 to date, which represents a record annual total return pace.

GSE supply declined for the third straight month, exerting bid side support. October net supply was minus US$0.65m, leaving unpaid principal balance (UPB) for the sector at just over US$50bn. There was a single CAS high LTV deal, but this was outweighed easily by the latest CAS tender offer which took US$748m out of the market. Overall 2023 GSE supply has been just over US$7bn, around a third of entire 2022 volume.

Compared to investment grade corporate risk, “CRT floaters remain a credit and convexity relative value,” notes Fontanilla, but adds that Q4 liquidity is a risk.

Last month also marked the maturity of the first Fannie Mae CAS note ever sold, the CAS 2012-C01. Since that inaugural offering Fannie Mae has sold 57 low LTV and high LTV notes for total issuance of US$62bn, referencing over US$2trn of home loans. Any investor who bought that debut note and held it to maturity would have received 83 cents for every dollar invested, says Fontanilla.

Simon Boughey

Capital Relief Trades

SRT Market Update

Project finance transactions in focus

SRT market conditions currently remain stable, with banks and investors looking to close trades before the end of the year, notably in the project finance sector. But pricing is poised to rise and spreads to widen heading into 2024.

Corporate and SME transactions typically dominate the lion’s share of SRT issuance, but activity in the project finance and infrastructure space is also ramping up. “There are a few interesting deals currently in the pipeline that are going to close either later this year or early next year,” notes one SRT investor.

Originating one of those trades is Natwest. The investor describes the deal as a “sizeable transaction, over the £1bn mark” and expects it to price before year-end.

As for additional mandates in this sector, the investor notes: “I know there is a French and an Italian bank looking to close project finance SRTs next year. They are currently reviewing the portfolio, preparing for Basel 4 and checking how it’s written on their book. My guess is that the Italian bank will probably try to place its deal with private investors, whereas the French bank will probably seek EIF support.”

Although JPMorgan is currently in the market with an enormous weight of synthetic securitised paper, the investor also expects the US bank to tap the project finance segment next year. He says: “We know the bank has quite a bit of project finance exposures in their books. But a deal is definitely not for this year; rather, it’s likely for Q3 next year.”

Outside of the project finance space, the investor highlights the increased interest and supply emerging from across the pond. He notes: “The JPMorgan trade is massive and is probably going to be placed with a very large pool of investors. CIBC in Canada also has a large deal on at the moment.”

In the European market, meanwhile, the investor highlights activity in Italy. “UniCredit recently closed ARTS Consumer 2023, which referenced over €800m of Italian consumer loans. Generally, UniCredit has been incredibly active this year, with around 7-10 SRTs between all their units and satellite entities.”

He continues: “There is another Italian bank also looking to close a trade, referencing a leasing portfolio. It is a very granular portfolio; however, the data quality wasn’t the best. From what I understand, it’ll close this year.”

Looking at current market conditions, pricing and technicals, the investor describes a stable environment. He notes: “Base rates have moved a little bit, but we haven’t yet seen a widening of spreads. I think that for deals pricing this side of the year, banks have already gone to investors and many non-binding offers are out. If you’re a serious investor, you're not going to reprice dramatically differently with one or two months left to go from closing.”

He concludes: “Next year will be a whole different story, I think. My personal view is that we'll have higher interest rates for longer. Pricing will probably have to be revised upwards and spreads should widen a little bit.”

Vincent Nadeau

CLOs

Top-tech

Private credit managers increasingly leveraging fintech

Top-tier CLO and private credit managers are increasingly leveraging fintech support to facilitate proactive management through recent issuance spikes. Siepe, for one, cites technology as the key to optimising portfolios and enabling trading into better quality credits – having closed on a milestone US$1.2bn in BSL CLOs and an additional US$500m in private credit transactions in Q3.

“By closing these CLO and private credit transactions, we are showing the value we add to the industry by using technology to aggregate and normalise data to help fund managers optimise their portfolios and trade into higher-quality credits,” confirms Michael Pusateri, Siepe’s founder and ceo.

All three of the rated BSL CLO transactions supported by Siepe were issued by tier-one US CLO managers, including one deal that is compliant with European risk retention regulations.

Among the current challenges faced by the global BSL CLO market are data integrity issues, inefficient processes front to back, and the inability to generate meaningful insights. Pusateri suggests that this is a direct result from legacy infrastructure platforms that require substantial costs and investments, which are ultimately absorbed by the buy-side managers.

“Siepe is addressing the issue with asset managers and asset owners by modernising their technology and operations platforms with solutions that leverage tech-enabled services, including machine learning etc, to scale their businesses and gain real-time, accurate data in their portfolios,” he says.

Indeed, the need for improved data management services is of increasing importance to market participants, as more than two-thirds of outstanding BSL CLOs are set to enter post-reinvestment by the end of the year. “CLO managers will need to accurately track amortisation schedules and payments to comply with indentures when redeploying unscheduled principal proceeds,” Pusateri adds.

As well, given the rising rate environment, the accuracy of stress-testing is now more important than ever to managers. Siepe offers tailored scenario analysis testing and tracking intraday ratings changes, all in one place.

“Siepe’s platform integrates its robust compliance engine to ensure systematic compliance with the indenture-driven tests for every trade on the platform. The result of this straight-through processing is optimised trade execution, reduced risk and operational efficiency, all of which provide a distinct competitive advantage to those who are leading the charge forward,” Pusateri explains.

The platform also supports private credit assets and the workflows associated with underwriting and allocating private loan originations, including across BDCs, middle market CLOs and rated note transactions. “Often these vehicles have leverage facilities which require borrowing base calculations to determine advance rates. Private credit managers need a platform that is flexible enough to asset allocation across multiple leverage facilities, as well as CLOs,” Pusateri concludes.

Claudia Lewis

SRTx

Latest SRTx fixings released

Volatility spikes in November index values

The latest fixings for the SRTx (Significant Risk Transfer Index) have been released. Notably, the volatility indexes have widened considerably across the board, in response to the conflict in the Middle East.

Values for the SRTx Volatility Indexes now stand at 59 (representing a +24.4% change), 66 (+31.3%), 61 (+36.4%) and 67 (+25.5%) for SRTx CORP VOL EU, SRTx CORP VOL US, SRTx SME VOL EU and SRTx SME VOL US respectively, as of the 1 November valuation date.

Meanwhile, levels across the SRTx Spread Indexes are a touch tighter for the large corporate segment and a touch wider for the SME segment on the month, reflecting recent moves in the credit curve. Values now stand at 1,072bp (representing a -1.2% change), 931bp (-2.4%), 1,161bp (+2.6%) and 1,213bp (+0.2%) for the SRTx CORP EU, SRTx CORP US, SRTx SME EU and SRTx SME US indexes respectively.

Similarly, survey responses for the SRTx Credit Risk Index suggest a slight improvement with respect to large corporates and a slight worsening of sentiment for SMEs. The indexes now stand at 66 (representing a -2.4% change), 63 (-10%), 70 (+8.4%) and 71 (+3.9%) across SRTx CORP RISK EU, SRTx CORP RISK US, SRTx SME RISK EU and SRTx SME RISK US respectively.

Finally, little has changed for the SRTx Liquidity Index - with estimates for European large corporates and SMEs still hovering around 50, indicating a neutral view going forward. Based on this month’s values, the indexes now stand at 48 (representing a +0.5% change), 38 (-10%), 48 (+12.3%) and 42 (+6.1%) across SRTx CORP LIQ EU, SRTx CORP LIQ US, SRTx SME LIQ EU and SRTx SME LIQ US respectively.

SRTx coverage includes large corporate and SME reference pools across the EU and US economic regions. The index suite comprises a quantitative spread index - which is based on survey estimates for a representative transaction (the SRTx Benchmark Deal) that has specified terms for structure and portfolio composition - and three qualitative indexes, which measure market sentiment on pricing volatility, transaction liquidity and credit risk.

Specifically, the SRTx Volatility Indexes gauge market sentiment for the magnitude of fixed-spread pricing volatility over the near term. The index scale is 0-100, with levels above 50 indicating a higher proportion of respondents estimating volatility moving higher.

The SRTx Liquidity Indexes gauge market sentiment for SRT execution conditions in terms of successfully completing a deal in the near term. Again, the index scale is 0-100, with levels above 50 indicating a higher proportion of respondents estimating that liquidity is worsening.

Finally, the SRTx Credit Risk Indexes gauge market sentiment on the direction of fundamental SRT reference pool credit risk over the near term. The index scale is 0-100, with levels above 50 indicating a higher proportion of respondents estimating that credit risk is worsening.

The objective of the index suite is to depict changes in market sentiment, the magnitude of such change and the dispersion of market opinion around volatility, liquidity and credit risk.

The indexes are surveyed on a monthly basis and recalculated on the last trading day of the month. SCI is the index licensor and the calculation agent is Mark Fontanilla & Co.

For further information on SRTx or to register your interest as a contributor to the index, click here.

Corinne Smith

Capital Relief Trades

Global Risk Transfer Report: Chapter one

In the first of six chapters surveying the synthetic securitisation market, SCI explores how SRT has become a key component of banks' capital management toolbox

IACPM’s latest risk-sharing survey notes that 2022 highlighted not only a substantial growth in SRT product utilisation by banks, with €200bn in new issuance, but also some structural changes in the risk-sharing activity of banks. Nevertheless, a number of regulatory challenges remain outstanding.

SCI’s Global Risk Transfer Report examines how the risk transfer community is addressing these issues – through regulation or structural enhancements – and the fallout from the turmoil in the US bank sector in March. It also explores the new frontiers that are emerging across jurisdictions and asset classes.

Chapter 1: Introduction
Capital relief trades (CRTs), also known as significant risk transfer (SRT) transactions, were once regarded as a niche, regulatory-driven product. Not anymore: CRTs are now a key component of banks’ capital management toolbox, helping them to meet tougher capital, leverage and liquidity requirements introduced since the global financial crisis. At the same time, more investors and (re)insurers are entering the market, attracted by the sector’s historical performance and the returns on offer.

CRT volumes witnessed another record-breaking 12 months in 2022, with 87 transactions issued during the period, according to SCI data. By the end of that year, €500bn securitised loans were covered by €44bn of protected tranches, the International Association of Credit Portfolio Managers (IACPM) reports in its 2016-2022 risk-sharing survey.

Olivier Renault, md and head of risk sharing strategy at Pemberton Asset Managers, says the introduction of the STS framework for synthetic securitisation in 2021 “has led to 10 to 12 new banks joining the market”, alongside more issuance “by the usual players”.

It’s “the copycat effect”, he adds. “In most jurisdictions, the leaders have opened the market. Now we have the second tier of banks that have looked at what their peers have been doing and they are replicating the structures for their benefit.”

Vesna Vladusic, a broker in the structured and bespoke solutions group at The Texel Group, agrees, pointing to the increasing number of new issuers in the CRT space. This expansion, Vladusic explains, is both a product of the increasingly well-publicised success of the existing CRT market from both an issuer and investor perspective and the result of “less traditional bank issuers executing CRT transactions to make sure they have access to as many tools as possible to manage their capital positions as new capital rules are phased in.”

Indeed, regional and smaller bank issuance is a significant growth area for CRTs, according to Michael Bennett, chief underwriting officer, European Mortgage at Arch Capital. “SRT is a very efficient capital management tool for smaller banks. More banks are coming to the market and we're very happy to support them, where the trades meet our risk appetite,” he confirms.

He adds: “The standardised banks are increasingly willing to adopt SRT technology. They may be smaller in terms of resources, but they're willing to commit to it.”

In its May 2023 report, entitled ‘Securitisation & Balance Sheet Optimisation’, KPMG estimates that over 80% of CRT trades are undertaken on IRB portfolios. However, the proportion of standardised pools “has increased from about 0% to 14% during the six-year period 2016-2022”, the firm notes.

Cash versus synthetic
One of the most interesting developments in terms of SRT issuance trends has been the adaptability of issuers in terms of cash versus synthetic risk transfer. Until earlier this year, there was uncertainty around how to use synthetic excess spread, but this has now been clarified by the latest EBA guidelines (see Chapter 2).

Robert Bradbury, md and head of structured credit execution at Alvarez & Marsal, says: “We've seen people more willing to consider the use of excess spread; it is more efficient than it used to be. Is it perfect? No. But it's very positive.”

He continues: “The only parties who could potentially remain objecting to the way it is now are perhaps some of the largest and most sophisticated banks; those who have big programmes where they can mix and match many assets all at the same time, across potentially different originators and different asset types. Banks always want as much freedom as possible to be able to combine different asset classes.”

At the same time, the senior markets for ABS have been hard to access and comparatively expensive, meaning that - at least for certain asset classes (such as consumer loans) - issuance in early 2023 proved challenging.

Bradbury says: “Do you do cash and try to use the excess spread – but there might not be any excess spread because the market rates are very high? Or do you go synthetic, where you might not be able to use the excess spread and that makes the deal less efficient (prior to the new guidance)?”

He adds: “The adaptability of the market and the ability of banks to move between cash, synthetic and unfunded risk transfer, depending on the situation, has been very interesting. There has been almost a coming of age, where you can now rotate between different formats, depending on what you're looking for.”

Positive outlook
The CRT market continues to be dominated by European issuers. KPMG reports that 55% of issuance volumes in 2021 were from Europe, excluding the UK.

Bennett concurs “that the focus of the market has historically been European”, but points out that “awareness and the appetite to issue SRT deals has spread to North America and Asia as well”. Late 2022 and early 2023 saw an uptick in issuance in Canada - with three new banks entering the market - and the first deal from Hong Kong.

More recently, some moderately positive developments have emerged in the US, where there had been a moratorium on CRT transactions issued by Fed-regulated banks for the whole of 2022 and throughout the first half of 2023 (see Chapter 5 for more on North America). “The Fed came back and told the banks that they can resume issuing, as long as the transactions are according to the book. The expectation is that US banks are going to start issuing again,” observes Renault.

Overall, the prospects for the CRT market in 2023 and beyond are encouraging. Renault says: “In our opinion, it’s a story of continued growth. I would expect this year’s tally to exceed the 2022 record figure of US$20bn of tranches placed. The first quarter was very active. Last year there was a surge in issuance in Q4, with around 40 transactions coming in Q4.”

Supply and demand
From a supply point of view, the big banks are expected to continue operating in the market, while the smaller banks will need to engage because of Basel 4 and because of the impact of other global macro events, such as the failures of Silicon Valley Bank and Credit Suisse. “The impact that had on the implied access to additional tier one and tier two was significant. Banks were prudent in ensuring they retained their ability to access other forms of capital, so some deals were brought forward that might have happened later in the year or next year,” Bradbury notes.

Additionally, high interest rates mean that banks are increasingly incentivised to optimise legacy books. They want to deploy capital into new business, providing further motivation for them to recycle capital through the efficient use of well-structured CRTs.

Bennett says: “We're bullish on the prospects for the evolution of the growing SRT sector. We think we'll see a lot of new trades and issuance from existing participants, but also new participants, so it’s a very positive outlook.”

Demand is also rising from new investors that are interested in CRT and want to know more about the market. “There's a lot of investors who are in the space already. There's also a lot of people trying to come into the space because they've heard about the historical performance. They've heard about the yields and they think it seems attractive on a risk-adjusted basis,” Bradbury confirms.

As a greater number of investors become more familiar with the product, regulators seem to be increasingly supportive. Based on the results of its surveys and the increasing number of banks and securitised asset classes, the IACPM estimates that by end-2023 close to €60bn of aggregated capital will have been raised by private risk-sharing between banks, specialised investors and insurers acting as long-term partners of banks.

“Based on current trends, EU participating banks will contribute to at least half of this amount of capital released and the final decisions…by co-legislators on CRR3 should continue to support growth of risk sharing. The return of large US banks to the SRT market will trigger additional growth, but to what extent is still subject to regulatory uncertainties,” the association notes.  

While the sector may have been seen as somewhat niche and regulatory-driven 10 years ago, CRT is now a key part of the capital management strategies of many European banks, according to Bradbury. “In the same way as you need the RMBS market to function to make sure that mortgages can be granted efficiently, you need the SRT market to function to ensure that SMEs and corporates have efficient access to funding (obviously to a different extent, however, given the relative materiality of each space),” he explains.

He continues: “This sector is complicated, technical and very idiosyncratic, but that doesn't mean it's not important. Because it's highly leveraged, the impact of a single transaction can be worth a huge amount of money to the real economy indirectly. So it does make a big difference and I think it's important for everyone to remember that.”

SCI’s Global Risk Transfer Report is sponsored by Arch MI, Man GBM, Mayer Brown and Texel. The report can be downloaded, for free, here.

ABS

EIB Group backs BNP's €627m energy efficiency drive

Market updates and sector developments

The EIB Group has signed its first true sale securitisation in France in more than 15 years, in support of BNP Paribas’s commitment to provide €627m of financing for home energy efficiency equipment.

The deal sees the European Investment Bank contributing €400m and the European Investment Fund providing a further €50m. The investors will take senior and mezzanine tranches of securities backed by a consumer portfolio originated by BNP Paribas Personal Finance.

Private investors have also agreed to invest €24m in the junior tranches.

The transaction will enable BNP to supply the €627m over a three-year period, with deployment particularly targeted at the installation of high-performance boilers, insulation, windows and solar panels.

BNP Paribs CIB acted as strategic advisor on the transaction.

Structured Finance

PRA consults on CRR rules

Market updates and sector developments

The UK PRA has launched a consultation on draft rules to replace firm-facing requirements regarding securitisation under the CRR in 2H24. As such, it has published a discussion paper (DP) that raises certain key issues for feedback, in order to inform its approach - including the use of unfunded credit risk mitigation (CRM) in SRT transactions.

In particular, the DP considers: the calibration of the Pillar 1 framework for determining capital requirements for securitisation exposures and their interaction with the Basel 3.1 output floor; the hierarchy of methods for determining capital requirements for securitisation exposures; and the specification of securitisations that qualify as STS and associated preferential prudential treatment. In general, the PRA considers that broad alignment with the Basel standards would advance its primary objective of promoting the safety and soundness of PRA-authorised firms by addressing prudential risks associated with securitisation exposures.

However, the authority says it supports a wider review by the Basel Committee of Basel standards relating to the Pillar 1 securitisation capital requirements. “These have not been implemented uniformly across jurisdictions and their interaction with the Basel 3.1 output floor raises questions about their design and calibration,” the DP states.

Regarding the output floor, the PRA is considering a range of policy options while monitoring the impact of the proposals. One option would be to go ahead with implementation of the Basel 3.1 output floor without any adjustment to the Pillar 1 framework for determining capital requirements for securitisation exposures. Another option would be a targeted and evidence-based adjustment to the Pillar 1 securitisation capital framework.

Another topic addressed in the paper is the hierarchy of methods for determining securitisation capital requirements; in particular, the divergence of the current hierarchy of methods in the Securitisation Chapter of the CRR from the Basel standards. The consultation explores the possibility of better aligning this hierarchy.

Finally, the DP discusses the scope of the UK framework for STS securitisations, which is currently aligned with the Basel standards in that it covers traditional (funding) securitisations meeting the eligibility criteria, but not synthetic securitisations. The PRA sets out policy considerations that would on balance support maintaining this approach.

Specifically regarding significant risk transfer, the authority says it expects firms to ensure that any reduction in capital requirements achieved through securitisation continues to be matched by a commensurate transfer of risk throughout the life of the transaction. Firms are expected to take a substance-over-form approach to assessing SRT: they should be able to demonstrate that the capital relief post-transaction adequately captures the economic substance of the entire transaction and is commensurate to the retained risks.

Nevertheless, the PRA is seeking information on CRM in synthetic SRT securitisations to assist it in identifying any prudential risks from CRM practices in SRT securitisations and, if necessary, in considering policies to mitigate these risks. While the authority understands that UK originators of SRT securitisations generally use CRM in the form of funded credit protection, it would like to engage with SRT market participants to better understand current market practice and also market interest in using unfunded CRM in SRT securitisations.

As part of this, the PRA is seeking to “understand more fully” the potential prudential risks associated with the use of unfunded CRM in SRT securitisations - including the risk of late payment or non-payment of credit protection when a counterparty defaults, as well as the risk that the unfunded CRM provider may be downgraded and then cease to be eligible to provide unfunded credit risk mitigation. The paper is also seeking feedback on how such risks could be mitigated, including through contractual features of unfunded CRM, so that unfunded credit protection remains robust and that SRT continues to be achieved on an on-going basis.

Responses to the DP are requested by 31 January 2024.

In other news…

Call to eliminate ‘redundant’ due diligence requirements
The Managed Funds Association (MFA) has submitted letters encouraging the UK FCA and the PRA to enhance the UK capital markets by eliminating redundant securitisation due diligence regulations. The association argues that removing duplicative regulations will increase capital investment in the UK and optimise risk management on behalf of UK investors.

Specifically, the letters explain that duplicative due diligence requirements for securitisations will continue to place UK-based fund managers at a competitive disadvantage to managers in the US and other non-EU countries. Limiting UK-based manager access to foreign securitisation markets has impeded their ability to manage risk and deliver returns for their investors, according to the MFA. It has also dampened alternative investment fund manager (AIFM) participation in the securitised markets generally, preventing UK capital markets from recovering more fully from the global financial crisis.

The letters point out that AIFMs are already subject to the robust requirements from the Alternative Investment Managers Directive (AIFMD). However, UK-based managers are also subject to duplicative requirements from the Securitisation Regulation.

The MFA suggests that these regulations are better suited to market participants, such as banks and insurance companies, that mainly serve a domestic client base of retail investors and are not subject to the AIFMD. AIFMs serve global clients primarily comprised of institutional investors and already operate in a highly regulated environment. The association therefore calls for AIFMs to be excluded from the additional due diligence requirements when investing in securitisations.

Challenger debuts dedicated ABS fund
Challenger Investment Management (CIM) has launched the Challenger IM Global Asset Backed Securities Fund, which builds on the firm’s existing range of products that aim to exploit inefficiencies in the pricing of credit risk across public and private markets. The fund marks CIM’s first offering providing dedicated access to securitised credit. With over A$8bn invested in securitisation markets, investment experience dating back to 2005 and 14 investment professionals dedicated to ABS investing, the team believes it has developed a strong edge in this part of the credit landscape.

The fund will target a 3%-4% per annum through-the-cycle return before fees over the Euro Short Term Rate by investing predominantly in publicly rated investment grade opportunities across global developed securitised markets, with a particular focus on Europe, UK, Australia and opportunistically in the US. By selectively blending attractive private market opportunities with public market transactions, the fund seeks to offer incremental yield in addition to diversification away from more traditional strategies. It will focus on floating rate assets, with interest rate and currency exposures hedged.

The fund is structured as a Qualifying Investor Alternative Investment Fund (QIAIF) and is euro-denominated, with share classes in alternative currencies available. It will be managed by lead portfolio manager Chris Whitcombe and co-portfolio manager Justin Voller.

EIB, ICO support Sabadell deal
The EIB Group and Instituto de Crédito Oficial (ICO) have invested in senior and mezzanine tranches of a new ABS originated by Sabadell Consumer Finance to address the investment constraints of Spanish SMEs and mid-caps. Part of the financing generated will be channelled into green projects and a large proportion of the final beneficiaries of this agreement will be based in less developed regions, where per capita GDP is less than 75% of the EU average and where it is particularly difficult to access financing.

As part of the transaction, the EIB is purchasing different securitisation tranches amounting to €350m, while €30m is invested by the EIF. ICO’s participation in the transaction translates into a total investment of €95m. This deal will enable the Banco Sabadell Group to channel €936m into the real economy.

The deal’s green component stems from the EIF’s €30m investment. Banco Sabadell will originate a new portfolio of SME loans totalling €60m, of which about one-third will be financing granted for green projects.

Legacy RMBS fund launched
Deer Park Road Management Company has launched a closed-end fund focused on legacy non-agency RMBS. Dubbed Deer Park Mortgage Opportunity Fund I, the fund will invest in RMBS with the principal objective of realising long-term capital appreciation and cashflow from its investments, while also seeking to provide access to the current trade opportunities in the structured credit market.

Deer Park has been active in the non-agency RMBS market since the early 2000s and is committed to providing fundamental credit analysis, an adaptive approach to sourcing investment opportunities and a deep focus on risk management. The firm will seek to leverage its decades of credit investment experience across cycles to identify and invest in bonds trading at less than their intrinsic value, with the intention of holding them to term.

Structured Finance

CLO ESG scores compared

Market updates and sector developments

Sustainable Fitch reports that European CLOs – with an average ESG Score of 50.4 - have noticeably higher ESG scores, environmental scores and social scores than North American CLOs, which demonstrate an average ESG Score of 47.9. Governance scores are broadly similar across the two regions, however.

These insights are based on an assessment of 317 European CLOs and 449 North American CLOs, where Sustainable Fitch has ESG Scores available for more than 85% of their notional holdings. Average ESG Scores coverage of the assessed portfolio is 96.4% in Europe and 88.1% in North America.

Regarding the industries that CLOs are exposed to, the firm found that the CLOs with the highest ESG Scores are most exposed to healthcare providers, telecommunications and business services. CLOs with lower ESG Scores are most exposed to utilities, industrial and manufacturing, and broadcasting and media.

However, highest industry exposure does not always influence ESG Scores. European CLOs outperform North American CLOs, even when comparing CLOs with similar highest industry concentrations.

In other news…

SFR partnership inked
Rithm Capital Corp and Pagaya Technologies subsidiary Darwin Homes have formed a new strategic partnership. The agreement will establish Adoor Property Management (APM), a new property management platform for Rithm subsidiary Adoor’s build-to-rent and single-family rental homes. The partnership will also onboard Adoor’s current SFR portfolio onto Darwin’s turnkey, technology management platform.

The aim is to leverage Darwin’s proprietary software and end-to-end real estate platform, establishing the new venture as a leading player in the SFR industry and enabling Rithm to focus on capital allocation and strategic decision-making. Rithm’s investment and asset management capabilities, combined with Darwin’s technology will position the new venture to drive improved operational efficiencies and enhance the resident experience across the portfolio, while supporting Rithm’s long-term growth objectives.

Pagaya acquired Darwin earlier this year, in order to extend its two-sided network product solutions to the real estate market.

Structured Finance

Job swaps weekly: Balance sheet distribution head steps up

People moves and key promotions in securitisation

This week’s round-up of securitisation job swaps sees ING promoting its global head of balance sheet distribution. Elsewhere, Orrick strengthens its structured finance group in New York.

ING has appointed Gertjan van Toorn as global head of the loan distribution group within its wholesale banking capital markets and advisory unit. He was previously global head of balance sheet distribution, leading a team responsible for end-to-end secured funding, capital relief and securitisation solutions. Van Toorn began his career as a management trainee at ABN AMRO in 1996.

 Meanwhile, Banco Sabadell has promoted Alvaro Celorio Diez to vp in its structured finance team, based in its Mexico City office. Celorio Diez joined the bank in 2016 as an analyst in its corporate banking division and has been on the corporate and investment banking infrastructure team since 2019.

Additionally, Madrid-headquartered Bankinter has promoted Pablo Martínez Mayo to vp for structured finance. Martínez Mayo joined the bank in late 2020 and is promoted from the role of director of structured finance credit risk and international finance. He previously spent over eight years with Banco Santander.

Lloyds has appointed Laura McGill as business manager for structured finance and syndicate, within its corporate and institutional division. McGill is based in Birmingham and transitions from her role as associate director for strategic debt finance asset management, after 10 years focusing on leveraged finance. She joined the bank in 2009.

Fintech industry veteran Erik DiGiacomo has joined Webonise subsidiary Olympus, a developer of software for CLO, debt and private equity management, as general manager based in New York. DiGiacomo left his role as president at Phaxis in July, after two years with the staffing, recruiting and consulting business, and previously held senior roles at Allvue Systems, Broadridge Consulting and Virtusa. 

Orion Mountainspring has rejoined Orrick’s structured finance group in New York, having previously spent several years working as an attorney at the firm. He returns as a partner, after most recently serving in the same capacity at Chapman and Cutler.

S&P has promoted Angha Gupta to senior analyst on its US RMBS team, based in Toronto, Canada. Gupta is promoted from the role of associate, after two years with the rating agency, having previously worked on the mortgage teams at Scotiabank and KingSett Capital.

Solutus Advisors has appointed Edward Register as head of servicing, responsible for managing the delivery of loan servicing to the firm’s European and UK clients. Based in London, he was previously director at Levance Consulting and worked at DBRS Morningstar, Fitch, Trimont Real Estate Advisors and JPMorgan before that.

Finally, private market investment platform Yieldstreet has bolstered the structured credit capabilities of its Prism Fund with the appointment of Prytania Asset Management as sub-advisor – allowing the fund to invest in structured credit opportunities, such as CLOs. In addition, Yieldstreet has elected two new directors to the fund, including cio Ted Yarbrough and board member George Riedel.