Clarity and certainty are not sufficiently given. A very strict definition of STS criteria could lead to a splintering of the market, render a good part of the established programs non-conforming and in turn undermine the goal of increasing acceptance of securitisations in Europe. Even from an investor’s perspective the proposed risk factors should be simplified as far as possible, since they cannot replace the investor due diligence, but rather mostly provide guidance to market participants. Maintaining this point of view, securitisation pools are evaluated relative to pools comparable in composition and performance, which formally does not require such a strict limitation to individual risk factors, as long as economic homogeneity exists - the standard should allow the market some freedom in establishing desirable risk factor combinations.
ESBG believes there will be no exhaustive list of risk factors to be considered in order to perfectly define a homogeneous pool for each asset category. Consequently, by providing a list of risk factors that shall be considered, there will always be specific homogeneous high quality portfolios which will not meet the strict formalised requirements of this RTS. ESBG would welcome some room for interpretation when claiming the pool as homogeneous. This room for interpretation should be well balanced since it will lead to legal uncertainty.
To go into greater detail, according to §12(e) page 8 of the CP, the underlying exposures should be further differentiated based on relevant risk factors which significantly affect the similarity of the risk profiles and cash flow characteristics of the exposures within the respective asset category under which the exposure falls, and hence enable the investor to assess the underlying risks on the basis of common methodologies and parameters. Such differentiation based on the risk factors is intended to broadly reflect the current market practice and, in essence, is not intended to impose additional requirements. The meaning of this is not fully clear. Is the concept of risk factors part of the criteria to determine homogeneity or not?
Does this mean a SME/corp pool Article 2 (d) needs to apply one risk factor that the originator can choose such as the same jurisdiction? Or do all seven quoted ones in Article 3 (d) need to be applied?
In Article 3 (e), (f) and (g) it seems that there is a typo in the letters referred to in Article 2.
No. (d) should be disregarded altogether. The introduction of an additional layer of risk factors, from ESBG’s perspective, does not add value to the examination whether a pool can be regarded as homogeneous or not. In fact, it could even lead to misinterpretation. Securitised portfolios that meet the homogeneity criteria could be, falsely, regarded as less risky. Even if thresholds were added to the individual risk factors, the information given by the risk factors (e.g. 90% senior claims (Article 3, 2. (c.)) is information relevant for the overall credit risk evaluation of the investor before investing, but not information to assess the homogeneity of the underlying pool of assets. Homogeneity of an underlying pool should be measured by overall pool stratification only as described in Article 1 (a) to (c).
Furthermore, if the EBA does include point (d), ESBG would like to fully understand the last part of Article 1 point (d) according to which “the underlying exposures take into account the relevant risk factors from among those that need to be considered for each asset category in accordance with Article 3, and at least one”. Does “at least one” mean, that only one of the required criteria needs to be met to fulfil the criteria requirement of (d) in Article 1 or does it mean that one has to take into account at least one risk factor?
In general, ESBG appreciates the EBA’s set of criteria and support the approach to incorporate servicing and underwriting standards. However, defining a strict register of asset categories and risk factors could adversely affect the creation of granular high quality homogeneous pools. As mentioned in the general comments with the unnecessary further decrease of available pools the full potential of STS-securitisation cannot be used and both customers and small markets such as CEE will not be able to benefit from the STS securitisation initiative.
More specifically, from our point of view, the criteria in Article 1 (a) to (c) would give the investor appropriate guidance for his assessment as to whether a pool of underlying assets can be described as homogeneous or not. Hence, it is a good starting point for the investor to gauge what can be expected in terms of homogeneity of underlying assets. Point (d), however, would introduce risk factors to be applied per asset class that would add credit risk assessment aspects not needed for this purpose. Furthermore, point (d) might lead the investor to make incorrect decisions as described in Q2.
Already answered in Q2 and Q3. The proposed risk factors either way would strongly carry the potential to point to an incorrect initial assessment of homogeneity of pools. Moreover, it would complicate the initial assessment of whether a pool of assets is homogeneous or not and, thereby, point to a wrong initial risk assessments. It might even prevent a large number of securitisation transactions from being eligible for the STS label without a reason. Again, risk factors are part of the overall credit analysis required by the investor; they do not, however, provide evidence for whether a pool should be described as homogeneous or not.
Agree. Although there are substantial differences in the respective structures of non-ABCP (i.e. term ABS, sometimes revolving, sometimes not revolving) and ABCP (warehouse financing, revolving), they share certain basic features. Under both types of transactions assets are sold to an SPV to prevent comingling risks with the asset seller and investments are ultimately bankruptcy remote backed by the value of those assets.
To ESBG’s understanding, credit facilities to SME’s are included in Article 2 (d). CMBS, on the other hand, should not be included. Each commercial loan follows its own contractual arrangements between several parties (sponsor, senior/ junior creditors) with various inter-creditor agreements etc. Therefore, it should be excluded from list because homogeneity cannot be achieved as Article 1 (a) does not hold for this asset class. CMBS loans typically present idiosyncratic risks, that (even if possible to classify as homogeneous) deviate from the initial aim of the STS regulation i.e. to create a standard for simple and transparent securitisations.
The European corporate world is so lightly standardised, that a strict definition could rule out all types of ABS based on SME – a sector that proved stable during and after the financial crisis. ESBG believes that hard criteria definitions as defined in Commission Recommendation 2003/361 /EC, are not suitable as criteria to determine homogeneity in underlying pool of assets.
Additionally it is important to avoid an overly finely grained classification.
Therefore ESBG strongly advocates no further differentiation between SMEs and corporates as the available portfolios for small and medium banks would be considerably decreased.
The proposed risk factor approach is too general and cannot capture the specifics of each individual transaction. Even within the asset classes there is too much variation for such an approach to be feasible. The proposed highly complex approach will further complicate both the structuring and investment process instead of creating clarity.
Furthermore, it is not entirely clear to us what the concept of risk factors can add to the concept of homogeneity. Risk factors are present in any ABS/ MBS and as such have to be considered in credit analysis. Without a grading or score card concept (e.g. 95% of senior loans etc.) the evaluation of individual risk factors is fairly meaningless. It is not clear to us what the purpose of risk factors in the determination of homogeneity is. If you look at a CMBS (Article 2 part (b)), for example, the associated risk factors are Article 3 part (a),(c),(f),(g),(i) and (j). To illustrate our point, we pick part (g) type of repayment or amortisation. In reality, repayment and amortisation plans are available and as such could be defined as adding evidence towards a homogeneous pool; however the individual asset performance could deviate substantially from the initial plan and as such is not suitable to guide the investor towards STS. In other words: the pool has been classified as homogeneous, however the risk profile is not as the repayment of CRE loans depends on various variables and is highly volatile.
The selection of a few risk factors per asset class does not enhance the investor’s guidance in terms of homogeneity as a homogeneous pool according to these factors does not mean that the investment is less risky.
On the contrary; there can be a high degree of risk that investors are invested in STS securitisations, without having the assurance, that the STS labelled securitisations are really less risky if compared to a securitisation assigned without the STS label. Therefore, the risk factor concept should be either re-written in large parts (focusing only on structural requirements, such as the one discussed in Q10) or abandoned altogether.
ESBG especially disagrees with the proposed set of risk factors for asset category d. In particular a certain variation in type of credit facility, type of repayment, jurisdiction and governing law is not detrimental to a homogeneous pool. ESBG is of the opinion that such variations are generally accepted practices and as such accepted by a broad investor base. As stated in the RTS’ rationale (see 12.e), the EBA’s intention is not to impose additional requirements to the market. ESBG would welcome a less strict regulation in this matter.
This risk factor is relevant for all type of securitisations and should be discussed further within the entire STS concept, however not within this consultation paper as the issue of available governing law has only limited importance for the assessment of whether a pool can be described as homogeneous or not. It is more a question of structural assessment by the credit analyst.
However, if the EBA decides to include the risk factor related to the governing law as proposed in the consultation paper, potential securitisation of European portfolios would be highly restricted. At least for asset category d, the European Economic Area, including Switzerland, and the UK should belong to one area.
Prepayments depend highly on current market conditions and might be quite volatile over time. Furthermore, prepayments from the pure risk perspective reduce credit risks in typical ABS/MBS securitisations. Therefore ESBG does not support prepayment characteristics as an additional risk factor.
No. Homogeneity could be secured on 1st and 2nd ranking mortgages, if pools are structured that way (e.g. 100% 1st lien or 100% 2nd lien) Therefore, the distinction between the credit claims is not suitable in this context. Again, the risk of 2nd lien pools is substantially higher, but could equally qualify as a homogeneous pool.
No. The attempt to open up the possibility for the entire ABS/MBS spectrum of being labelled as homogeneous (and may be therefore able to carry the STS label) would be misleading for the Investor and in fact contradict the entire STS approach. If it is possible to assign the entire ABS/ MBS market as STS, the label STS could be misused and would run danger of losing credibility on the longer run. Furthermore, there is a danger that the underlying credit risk is not backed by the correct amount of capital.
ESBG believes risk factors should not feature this consultation paper at all. Even if thresholds were introduced, our overriding criticism (risk factors are not a good indicator to determine homogeneity) would prevail.
However, if the EBA decides to include risk factors in the assessment of homogeneity, thresholds are much appreciated and would be in the interest of investors and originators, given the strict risk factors as limiting factor to generate a granular portfolio of homogeneous assets. For example, if a pool is in general uncollateralised, a certain amount of collateralised assets is not going to deteriorate the performance of the pool. It should be avoided at all times that one single misrepresented exposure has the potential to infect a whole portfolio as not homogeneous.
Given how transaction specific risk factors are, defining an exclusive list appears almost as difficult as defining an exhaustive list. Correspondingly, ESBG would advocate for the alternative approach. The alternative approach would be much more appropriate for determining homogeneity as risk factors which are more likely to be considered in the credit analysis would being dismissed altogether. This would allow assessing homogeneity based on factors (a) to (c) and prevent the investor from being misled by the risk profiles/concentration risks as a result of other homogeneous risk factors. In addition, the lower complexity of the second proposal will make the concept more accessible and practical. In other words: the label STS would stand a much higher chance of being recognised by the market. Last but not least, an investor who wants to invest in STS labelled securities only, has to comply with Articles 405 to 409 CRR, which cover risk factors as mentioned in this consultation paper. Having said that, ESBG also acknowledges less legal certainty and the risk that a competent authority may ex-post not share the originator’s opinion to have a homogeneous pool. However, ESBG prefers that risk factors are not included in the homogeneity definition and also not in the alternative option under underwriting standards. The effect would be the same: pools would need to be decreased, e.g.the underwriting standards for private autoleases versus corporate autoleases might slightly differ due to the different borrower characteristics.
In addition, the homogeneity requirement should be deemed fulfilled even if the pool of securitised exposures consists of homogenous sub-portfolios that all belong to the same asset category and that can be easily assessed even if the entire pool doesn’t fulfil the homogeneity requirements. This would better reflect the market practice where pools of exposures of the originators that belong to the same asset category are securitised. Otherwise many well-established securitisations might be excluded from the STS-regime, because it wouldn’t be cost-effective and economically beneficial to securitise each sub-pool separately. The reason is that for each transaction a separate securitisation documentation, separate prospectus, separate legal opinions, separate assessments by mandated rating agencies and separate swap contracts etc. would be necessary. The duplication of costs would nullify scale effects. Hence, the issuance of STS-securitisations would be in many cases uneconomical although a simple assessment of sub-portfolios within a robust due diligence process would be feasible.
Accordingly, a paragraph 2 should be added to Article 1 that the underlying exposures shall be deemed homogenous as well where they consist of analysable sub-pools of underlying exposures that are grouped along the same or similar underwriting and servicing standards and relevant risk factors even if the homogeneity requirements are not met on the entire securitised pool as long as the overarching principle of the simple assessment of the securitised sub-pools is not endangered and as long as all exposures of the entire pool belong to the same asset category. To warrant that the sub-pools have a sufficient size for a simple and economic assessment a minimum threshold value could be envisaged.
At the investor level, there would be no difference in existing procedures. Credit analysis processes would be the same as stipulated (among other aspects) by Article 405 to 409 CRR.
At the level of the originator, the criteria in approach one could lead to more concentrated transactions in the market to comply with the defined risk factors. One member bank even stated that none of their synthetic SME and corporate exposure securitisations would meet the requirements on homogeneity according to option 1. This could impose investors to additional risks even if the pool is homogeneous and a transaction is classified STS.
Option 2 would at least allow the bank to present good reasons why they would consider these pools as homogeneous. However, even under option 2 many transactions that are well established on the market would be excluded from the STS-regime. Thus, as proposed under Q16 it should be allowed to fulfil the homogeneity requirements on the level of sub-pools as well even if the entire pool doesn’t fulfil the homogeneity requirements as long as the overarching principle of the simple assessment of the securitised sub-pools is not endangered and as long as all exposures of the entire pool belong to the same asset category.
In any case, if risk factors are applied, some banks would not have large enough auto lease pools for their well-established securitisation transactions (an existing one has around 50% private and 50% commercial leases) as well as too small SME/Corporate pools due to the collateralised versus uncollateralised as well as amortising versus bullet breakdown.
As pointed out throughout our comments, approach 1 does not make sense to determine homogeneity and in fact raises the spectrum of misalignment within the meaning of STS. However, if the EBA would prefer to have option 1 include in some form, a hybrid approach would probably be a possible compromise. Something along the lines of “comply or explain” could maximise transparency for all involved parties. Defining an even more granular register of categories and factors should be avoided as this would adversely affect the creation of granular homogeneous pools. However, the additional allowance to enable the fulfilment of the homogeneity requirements on the level of sub-pools as proposed under Q16 based on the overarching principle of the simple assessment of the securitised sub-pools and on the condition that all exposures of the entire pool belong to the same asset category would be the most flexible one that best reflects the current market practice of well- established securitisations.
The key concern is to balance legal certainty (option 1) and flexibility (option 2). See also our answer to Question 18.
The language of the alternative option is more in line with current securitisation origination in Europe and as such would not support the development of concentrated pools (higher risks) only to meet the homogeneity criteria within the STS context. However, as stated above, there is a risk of legal uncertainty that goes along with the alternative option. However, ESBG would rather prefer the alternative option to option 1. In addition, ESBG advocates to allowing the fulfilment of the homogeneity requirements on the level of sub-portfolios.