3. Financial Intermediation: A Further Analysis

P. McCulley, (2007), Teton Reflections, PIMCO Global Central Bank Focus, 2007; and later on P. McCulley, (2009), The Shadow Banking System and Hyman Minsky’s Economic Journey, PIMCO Global Central Bank Focus, May.

R. Rajan, (2005), Has Financial Development Made the World Riskier?, In Proceedings of the 2005 Jackson Hole Economic Policy Symposium, Federal Reserve Bank of Kansas City, pp. 313–369.

S. Claessens et al. (2012), Shadow Banking: Economics and Policy, IMF Staff Discussion Note, SDN 12/12, December 2012, p. 4.

S. Claessens et al. (2012), Shadow Banking: Economics and Policy, IMF Staff Discussion Note, SDN 12/12, December 2012, p. 5.

R. Greenwood, et al. (2012), A Comparative-Advantage Approach to Government Debt Maturity, Harvard Business School Working Paper Nr. 11–035; A. Turner, (2012), Shadow Banking and Financial Instability, speech at Cass Business School, March 14.

See, for example, for a very good study on the rise and fall of the demand for securitized products: S. Chernenko et al., (2014), The Rise and Fall of Demand for Securitizations, NBER Working Paper Series, Nr. 20,777. They find considerable heterogeneity in investor demand for securitizations in the pre-crisis period. Both investor beliefs and incentives (and inexperience of fund managers) help to explain this variation in demand. A more uniform picture was observed of investor behavior in the crisis. Consistent with theories of optimal liquidation, investors largely traded in more liquid securities.

N. Gennaioli, et al., (2012), Neglected Risks, Financial Innovation, and Financial Fragility, Journal of Financial Economics, Vol. 104, pp. 452–468; and Gennaioli et al., (2013), A Model of Shadow Banking, The Journal of Finance, Volume 68, Issue 4 (August), pp. 1331–1363.

J. Geanakoplos, (2010), The Leverage Cycle, in NBER Macroeconomic Annual 2009, (ed. by D. Acemoglu, K. Rogoff, and M. Woodford), Cambridge, Massachusetts, National Bureau of Economic Research Vol. 24, pp. 1–65).

P. Mehrling, (2010), The New Lombard Street: How the Fed Became the Dealer of Last Resort Princeton University Press, Princeton, New Jersey; M. Singh, and J. Aitken, (2010), The (Sizable) Role of Rehypothecation in the Shadow Banking System, IMF Working Paper Nr. WP/10/172, Washington M. Singh, and P. Stella, (2012), Money and Collateral, IMF Working Paper Nr. WP/12/95, Washington; M. Singh, (2011), Velocity of Pledged Collateral: Analysis and Implications, IMF Working Paper NR. WP/11/256, Washington.

B. Tuckman, (2010), Amending Safe Harbors to Reduce Systemic Risk in OTC Derivatives Market, Centre for Financial Stability, New York; E. Perotti, (2012), The Roots of Shadow Banking, Bank of England, Mimeo; K. Summe, (2011), An Examination of Lehman Brothers’ Derivatives Portfolio Post-Bankruptcy: Would Dodd-Frank Would Have Made any Difference, Working Paper Hoover Institution, Stanford University.

Claessens et al. (2012), Ibid. p. 7.

Claessens et al. (2012), Ibid. p. 7.

The credit transformation special-purpose vehicles (SPVs) have matched maturity funding and issue asset-backed securities (ABS) or collateralized debt obligations (not shown). The maturity transformation SPVs are funded short term (are maturity mismatched) and issue asset-backed commercial paper (ABCP) or other structured money market instruments, such as auction rate securities (not shown). Private collateral (PC) includes ABS, corporate bonds and equities. $1 NAV is the stable net asset value (a promise to repay at least USD $1 on USD $1 invested). R = repo; RR = reverse repo: see Claessens et al. (2012), Ibid. p. 8 footnote.

Claessens et al. (2012), Ibid. p. 8.

For a visualization of the different processes, see Claessens et al. (2012), pp. 8–9.

D. Greenlaw, et al., (2008), Leveraged Losses: Lessons from the Mortgage Market Meltdown, U.S. Monetary Policy Forum Report, Nr. 2, February.

See for details Claessens et al. (2012), Ibid. p. 10 and in extenso Z. Pozsar, (2011), Institutional Cash Pools and the Triffin Dilemma of the U.S. Banking System, IMF Working Paper Nr. 11/190, Washington.

For details and datasets: G. Gorton, et al. (2012), The Safe-Asset Share, American Economic Review: Papers & Proceedings, Vol. 102, Nr. 3, May, pp. 101–106.

Short-term public debt is the sum of treasury securities and agency- and GSE-backed securities. Short-term bank debt is the sum of checkable deposits and currency and time and savings deposits. Short-term private debt is the sum of open market paper, federal funds and security repurchase agreements: Claessens et al. (2012), Ibid. p. 13 note.

Claessens et al. (2012), Ibid. p. 12.

J. Geanakoplos, (2010), The Leverage Cycle, in NBER Macroeconomic Annual 2009, (ed. by D. Acemoglu, K. Rogoff, and M. Woodford), Vol. 24, pp. 1–65, National Bureau of Economic Research, Cambridge, Massachusetts; A. Shleifer, and R. W. Vishny, (2010), Unstable Banking, Journal of Financial Economics, Vol. 97, pp. 306–318; A. Boot, and L. Ratnovski, (2012), Banking and Trading, IMF Working Paper Nr. WP/12/238, Washington.

H.S. Shin, (2009), Securitization and Financial Stability, The Economic Journal, Vol. 119, pp. 309–332.

Claessens et al. (2012), Ibid. p. 13.

Claessens et al. (2012), Ibid. p. 14.

T. Alloway, (2014), Yield hunters Soak Up Venture Capital Debt, Financial Times, February 3, 2014. Other new areas of ABS are music portfolio’s and airline leases, solar panel leases, peer-to-peer loans and income portfolio of single-family rental properties.

A. Barker and C. Binham, (2015), EU Seeks to Relax Securitization Rules, Financial Times, February 17. The regulator however angered the securitization industry mid 2015 with new and additional disclosure rules for a wide variety of securitized products: T. Hale, (2015), New Regulatory Measures Anger European Securitization Industry, Financial Times, May 17.

Communication of the Commission to the Council and the European parliament on Long-Term Financing of the European Economy, SWD(2014)105. That was following a public consultation based on the green book published in 2013 titled: Green Paper on the Long Term Financing of the European Economy, (March 25, 2013).

Proposal for a Directive of the European Parliament and of the Council, on the activities and supervision of institutions for occupational retirement provision, COM(2014) 167 final, 2014/0091 (COD).

Communication: Unleashing the potential of Crowdfunding in the European Union, COM(2014) 172 final.

IOSCO, (2012), Global Developments in Securitisation Regulation, Final Report (November 2012).

BIS, (2012), Revisions to the Basel Securitisation Framework Consultative Document, Basel, December.

See Risk-Based Capital Guidelines: Market Risk, 77 Fed. Reg. 53,060 (Aug. 30, 2012), accessible: http://​www.​gpo.​gov/​fdsys/​pkg/​FR-2012-08-30/​pdf/​2012-16759.​pdf

BIS (2012), Ibid. Consultative document.

BIS (2012), Ibid. Consultative document.

BIS, (2013), Revisions to the Securitisation Framework, Basel, December.

BIS, (2014), Revisions to the Securitization Framework, Basel III Document, December 11, on which the review in this book is materially based.

The final rules demonstrate large similarities with the initial 2012/2013 and 2014 proposals, but there are also some material differences. The Original Proposals contained a number of significant changes to the Basel II securitization framework, including two alternative hierarchies of approaches for determining the regulatory capital requirements for securitization exposures, enhancements to the existing ratings-based and supervisory formula approaches, the introduction of a simplified supervisory formula approach, certain concentration ratio based approaches and a 20% risk-weight floor. But concerns were raised during the consultative process with respect to the calibration, the usability and the lack of risk sensitivity and capital neutrality (market participants argued that a bank should not be required to hold substantially more capital in relation to a securitization exposure than if it held the underlying exposures directly) of the proposed approaches, and concerns were expressed that the resulting increases in capital requirements would be unduly conservative.

Discussed and referred to supra. The revised 2013 proposals contained a number of key changes from the original proposals, including a simplified hierarchy of approaches, starting with an internal ratings-based approach, followed by an external ratings-based approach and then a Standardized Approach (If none of the approaches could be used, a 1250% risk weight would be applied). The approaches themselves were revised and in some respects were simplified; the calibration of the approaches was adjusted, resulting in reductions in risk weights compared with the original proposals; and the Revised Proposals also contained a number of changes and clarifications to the original proposals, including a 15% risk-weight floor. See for a full review of the changes that occurred moving from the proposals to the final rules: K. Hawken et al., (2014), Revisions To Basel Securitisation Framework—Final Rules, December 31, via mondaq.​com

Cliff effects were observed during the financial crisis where small changes in the quality of the underlying pool of securitized exposures quickly led to significant increases in capital requirements.

See for a detailed review and applications of the different approaches BIS, (2014), Ibid. pp. 15–27 and the caps and maximum capital requirements pp. 27–29.

The 2014 changes replace the 2006 Basel II Securitization Framework (paragraphs 538–643) ‘Basel II—International Convergence of Capital Measurement and Capital Standards: A Revised Framework—Comprehensive Version and certain items related to Basel 2.5; Basel 2.5—Enhancements to the Basel II framework (2009).

See for a review of the definitions used: BIS, (2014), Revisions to the Securitization Framework, Basel III Document, December 11, pp. 7 ff.

A clean-up call is an option that permits the securitization exposures (e.g. asset-backed securities) to be called before all of the underlying exposures or securitization exposures have been repaid. In the case of traditional securitizations, this is generally accomplished by repurchasing the remaining securitization exposures once the pool balance or outstanding securities have fallen below some specified level. In the case of a synthetic transaction, the clean-up call may take the form of a clause that extinguishes the credit protection (BIS, Ibid. p. 7)

An early amortization provision is a mechanism that, once triggered, accelerates the reduction of the investor’s interest in underlying exposures of a securitization of revolving credit facilities and allows investors to be paid out prior to the originally stated maturity of the securities issued. A securitization of revolving credit facilities is a securitization in which one or more underlying exposures represent, directly or indirectly, current or future draws on a revolving credit facility. Examples of revolving credit facilities include but are not limited to credit card exposures, home equity lines of credit, commercial lines of credit and other lines of credit (BIS, Ibid. p. 8).

Under the clause, the issuer may reduce its own administrative expenses by buying back the remaining issue when the principal has been reduced to an insignificant amount, usually to less than 10% of the original issue.

See for details: BIS, Ibid. p. 13.

Par. 74 of BIS, (2011), Basel III: A Global Regulatory Framework for more Resilient Banks and Banking Systems—revised version June 2011.

And is further detailed in BIS, (2014), Ibid. par. 42–47.

For example, a liquidity facility may not be contractually required to cover defaulted assets or may not fund an ABCP program in certain circumstances. For capital purposes, such a situation would not be regarded as an overlap to the notes issued by that ABCP conduit. However, the bank may calculate risk-weighted assets for the liquidity facility as if it were expanded (either in order to cover defaulted assets or in terms of trigger events) to preclude all losses on the notes. In such a case, the bank would only need to calculate capital requirements on the liquidity facility (BIS, (2014), Ibid. p. 14.

Further details can be found in the December 2014 BCBS final report on securitization as already highlighted (note that the 2016 update will be discussed a little further in this chapter and that ideally both should be read together); further reference can also be made to: S. Bell et al., (2015), Revisions to the Securitization Framework: Final Rules published by the Basel Committee, May 15, dsupra Business Advisors, via jdsupra.​com; K. Hawken et al., (2014), Revisions to Basel Securitization Framework- Final Rules, December 22, via mayorbrown.​com

D. Marques-Ibanez, (2016), Securitization and Credit Quality, IMF Working Paper Series Nr. WP/16/221, November (later on also in European Financial Management, Vol. 25, Issue 2, pp. 407–434).

That seems to be in line with the ‘signaling hypothesis’, that is, ‘that based on observables at the time of issuance, originating banks would be securitizing those loans with lower credit risk’ (Ibid., p. 9). He further details that ‘the signaling argument relies on the fact that outsiders could only roughly assess the credit quality of the borrower through observable indicators such as credit ratings or accounting statements. In contrast banks may possess a more accurate view on the future performance on the loans they originated due to their access to proprietary information on the borrower. Hence, banks would have an incentive to use this information and securitize apparently good loans’ (Ibid. p. 10).

See also: U. Albertazzi et al., (2015), Asymmetric Information in Securitization: An Empirical Assessment, Journal of Monetary Economics, Vol. 71, pp. 33–49; V. Bord et al., (2015), Does Securitization of Corporate Loans Lead to Riskier Lending?, Journal of Money, Credit and Banking Vol. 47, pp. 415–444; G. Cerqueiro et al., (2016), Collateralization, Bank Loan Rates and Monitoring: Evidence from a Natural Experiment. Journal of Finance, Vol. 71, pp. 1295–1322; R. Elul, (2015), Securitization and Mortgage Default, Journal of Financial Services Research Vol. 49, pp. 281–309; C. Jessen and D. Lando, (2015) Robustness of Distance-to-Default, Journal of Banking and Finance, Vol. 50, pp. 493–505; Y. Wang, and H. Xia, (2015), Do Lenders Still Monitor When They Can Securitize Loans? Review of Financial Studies, Vol. 28, pp. 2354–2391.

Banks tend to, when they securitize, retain them for collateral purposes. Changes in the risk-based capital ratios (increase due to transfer of risky assets), risk-weighted solvency ratios (improved) and in the leverage ratios (no reduction) of securitizer banks have been observed mainly due to the issuances of ABSs eligible as collateral. See in detail: A.D. Scopelliti, (2017), Securitisation, Bank Capital and Financial Regulation:

Evidence from European Banks, Warwick Working Paper, June, mimeo.

BCBS, (2014), Revisions to the Securitization Framework, July. Please observe that the securitization framework was impacted by both BCBS, (2016), Revisions to the Securitization Framework, July, and the December 2017 overall Basel III reform package. See Ibid. pp. 3–52; BCBS, (2017), Basel III: Finalising Post-Crisis Reforms, December. In particular the Standardized Approach to credit risk plays a role here. See BCBS, (2017), High-Level Summary of Basel III Reforms, pp. 2–4.

Regarding size and scope of the regulatory arbitrage, see in extenso M. Effing, (2016), Arbitraging the

Basel Securitization Framework: Evidence from German ABS Investment, ESRB Working Paper Nr. 22, September. Three findings in particular were of interest: (1) banks arbitrage Basel II risk weights for ABS. Banks tend to buy the securities with the highest yields and the worst collateral in a group of ABS with the same risk weight (and, therefore, the same capital charge), (2) banks operating with low capital adequacy ratios close to the regulatory minimum requirement are found to arbitrage risk weights most aggressively and (3) banks with tight regulatory constraints buy riskier ABS with lower capital requirements than other banks.

BCBS, (2016), Revisions to the Securitization Framework, July, p. 1. The changes are based on the sound practices as detailed on in the BCBS report (2015) regarding ‘[c]riteria for identifying simple, transparent and comparable securitisations’, July 23.

Ibid. pp. 5 ff.

As warranted under Article 410(1) of Regulation (EU) No 575/2013 (the Capital Requirements Regulation, or CRR).

See EBA, (2016), EBA Report on Securitization, Risk Retention, Due diligence and Disclosure, Report EBA-Op-2016–06, April 12. It needs to be observed at this stage that Mirza and Stevens conclude that forcing originators to hold additional skin-in-the-game reduces welfare. The question remains to what degree skin-in-the-game retention rules do effectively benefit markets, and whether the risk retention rule has improved the performance of the underlying loans. The initial evidence seems to be positive. So far after introduction of the rule we have observed issuances that are up. But issuers do not always use the horizontal risk retention, which from a regulatory point of view is the optimal structure (G. Chemla, and C. Hennessy, (2014), Skin in the Game and Moral Hazard, Journal of Finance, Vol. 69, Issue 4, pp. 1597–1641; T. Begley, and A. Purnanandam, (2017), Design of Financial Securities: Empirical Evidence from Private-label RMBS Deals, Review of Financial Studies, Vol. 30, Issue 1, pp. 120–161). Also other changes have been observed post-introduction of the retention rule: ‘issuances that previously would have contained an entire large loan are being replaced by multiple, smaller issuances that each contain only a portion of a larger loan, with each small deal having a different issuer. This allows issuers to limit their potential losses, since the amount an issuer is required to retain for a small security is less than it would be on a large security’. See J. Disalvo and R. Johnston, (2018), Skin in the Game in the CMBS Market, FRB of Philadelphia, Q1 Report, pp. 11–17. J. Yang concludes that asset securitization plays a role in supplying alternative liquid assets (fiat money). As the economy can invest its resources more efficiently in high-yielding illiquid assets (capital) due to securitization, both consumption and welfare increase overall. See in detail: J. Yang, (2019), Alchemy of Financial Innovation: Securitization, Liquidity and Optimal Monetary Policy, Bank of Korea Working Paper Nr. 10, February. See a contrario: J.I. Peña, (2019), Credit Cycles, Securitization, and Credit Default Swaps, Universidad Carlos III de Madrid – Department of Business Administration Working Paper, January 6, mimeo. Also E. Elul, (2015), Securitization and Mortgage Default, Working Paper FRB of Philadelphia, February; A. Bisbey, (2017), Large CMBS Loans Are Being Carved Up to Spread Risk, but…, American Banker, May. The implication of this phenomenon is that spreading a loan across multiple CMBS deals in this way means more claimants if the loan defaults, which could complicate the resolution effort. In recent times Furfine concluded that that risk retention implementation is associated with mortgages being issued with markedly higher interest rates, yet notably lower loan-to-value ratios and higher income to debt-service ratios. These findings suggest that the risk retention rules have made securitized loans safer, yet at a significant cost to borrowers. Roughly three times the amount of risk is retained compared to the situation prior to the introduction of the rule. See in detail: C. Furfine, (2019), The Impact of Risk Retention Regulation on the Underwriting of Securitized Mortgages, Journal of Financial Services Research, March, pp. 1–24. Bayeh et al. demonstrate that higher bank competition reduces efficiency. More importantly, their findings suggest that banks securitizing their loans are more cost efficient than other banks. A. Bayeh et al., (2018), Competition, Securitization, and Efficiency in US Banks, Working Paper Nr. September 27., mimeo.

BCBS, (2015), Criteria for Identifying Simple, Transparent and Comparable Securitisations, July 23 (bis.​org)

That is a minimum. Other markets might be included to reflect specific needs and applications related to collateral affairs, regulatory issues or investor mandates. Tightening skin-in-the-game also directly reduces the

resources available to those who most need them. See A. Mirza and E. Stephens, (2016), Securitization and Aggregate Investment Efficiency, Working Paper, May 10, mimeo. They refer to incomplete markets to explain that effect which they describe as follows: ‘[w]hen intermediaries are forced to hold some of the idiosyncratic risk associated with their investments however, a pecuniary externality can generate inefficient investment ex-ante and excessive fire-sales ex-post (due to higher valuations ed.)’ (p. 29).

BCBS, (2015), Criteria for Identifying Simple, Transparent and Comparable Securitisations, July 23, pp. 5 ff. including the annex for a further elaboration of these markers.

Regulation (EU) 2017/2401 of the European Parliament and of the Council of 12 December 2017 amending Regulation (EU) No 575/2013 on prudential requirements for credit institutions and investment firms, OJ L 347, 28.12.2017, pp. 1–34 and Regulation (EU) 2017/2402 of the European Parliament and of the Council of 12 December 2017 laying down a general framework for securitization and creating a specific framework for simple transparent and standardized securitization, and amending Directives 2009/65/EC, 2009/138/EC and 2011/61/EU and Regulations (EC) No 1060/2009 and (EU) No 648/2012, OJ L 347, 28.12.2017, pp. 35–80. The Regulation came into force in January 2018 and will be applicable as of January 1, 2019.

Following a lobby by the car industry, one of the largest users of ABCP, their ABCP products backed by car or equipment loans or leases can have a remaining exposure weighted average life of up to three and a half years, provided that none of the underlying assets has a residual maturity of longer than six years.

This sounds like a compromise in the legislative process. The EBA flagged already in its 2015 report on synthetic securitization that these products that are used by credit institutions to move credit-risk off-balance sheet have done fairly well in the past. See EBA, (2015), The EBA Report on Synthetic Securitization, EBA/Op/2015/26. The EBA felt it could be justified extending the preferential capital treatment to the senior tranches of the synthetic product (under conditions including a full cash-funded credit protection for investors).

Most ABS transactions are structured to achieve a true ale of the underlying assets. Otherwise, how else would be diversification and appropriate risk allocation in the market as an objective be achieved. Contractually, these structures are executed on a non-resource basis. At least, that is what you would expect. However, many securitization transactions show signs of implicit recourse, that is, the granting of non- contractual stipulated support activities of a transaction provided by the originator. Sidki argues that the motivation for this lies in the originator’s moral hazard to retain his reputation and capital market access. At the same time, implicit recourse in securitization transactions might also help to better allocate risk among capital market investors. See in detail: M. Sidki, (2014), Securitization with Implicit Recourse: Some Thoughts on the Economic Rationale, The Journal of Structured Finance, Vol. 19, Nr. 4, pp. 35–44. It is correctly pointed out that ‘[s]tructural support of a securitization transaction prior to its closing has to be differentiated from implicit support activities. While the former are performed as credit enhancements in the form of contractual credit support, which is adequately assessed by regulators and accountants in the process of structuring, the latter are non-stipulated. Hence, implicit recourse can be narrowed down as the granting of non-contractual (in the sense of exceeding the contractual) stipulated support activities of a transaction provided by the originator’s implicit recourse runs contrary to the original asset sale including its underlying risks and negates or at least distorts any balance sheet removal or regulatory relief’ (p. 2). See also in a wider context on the matter: S.C. Wenz, (2017), The Yield of Asset-Backed Securities After the Financial Crisis: An Empirical Approach, dissertation, TU Darmstadt, mimeo.

There are many more risk retention methods available. See the extensive 2014 SEC report ‘Risk Retention Methods’ detailing the different methods available (via sec.​gov). On December 15, 2017, the EBA released draft technical standards detailing on the different methods approved (EBA/CP/2017/22); final draft on July 31, 2018 (EBA/RTS/2018/01). The five methods approved by the EBA are (1) the retention of not less than 5% of the nominal value of each of the tranches sold or transferred to investors; (2) the retention of the originator’s interest of not less than 5% of the nominal value of each of the securitized exposures; (3) the retention of randomly selected exposures equivalent to not less than 5% of the nominal value of the securitized exposures; (4) the retention of the first-loss tranche; and (5) the retention of a first-loss exposure of not less than 5% of every securitized exposure (articles 5–9).

Initially the consultation papers: EBA, (2017), Draft Regulatory Technical Standards Specifying the Requirements for Originators, Sponsors and Original Lenders Relating to Risk Retention, EBA/CP/2017/22, December 15; final draft on July 31, 2018 (EBA/RTS/2018/01).

Comparable is defined as those assets which share similar characteristics in terms of the most relevant factors determining their expected performance. The performance of the selected assets should reasonably be expected not to be significantly different from that of the non-securitized assets over the life of the transaction based on indications such as past performance of applicable assets.

Still there is a major concern here. The EBA technical standards allow for a different route through which higher credit-risk assets can be securitized. It indicates that even where no such communication has been made, an originator will not be considered to have intentionally breached the selection of assets provision (in the absence of evidence to the contrary), if it proves that it has established and applied policies and procedures to ensure that the securitized assets would reasonably be expected not to lead to higher losses than those on comparable assets held on its balance sheet. The policies of the originator need to be appropriate. The layering of possibilities that are linked to subjective qualitative and quantitative assessments has a tendency of not working properly in practice, often due to its sheer complexity, the multi-causality when things go wrong and the inability to allocate responsibility to a party in what by any standard is a complex, slightly opaque and known for its overlapping set of responsibilities among the parties involved.

The STS regulation itself has been criticized for being very vague regarding the STS criteria. The concern has been how granular the homogeneity requirement will be and how asset pools need to be grouped (class or common characteristics). The EBA put out a consultation in April 2018 regarding STS standards for both (non)-ABCP products: EBA/CP/2018/05 and EBA/CP/2018/04, April 20, followed by a public hearing in June 2018; ESMA, (2017), Draft technical standards on content and format of the STS notification under the Securitisation Regulation, ESMA33-128-33, December 19. That was followed by a public hearing on February 19, 2018. See the clarifying presentation released following that hearing: EBA, (2018), Homogeneity of Underlying Exposures in Securitisation, Consultation on Regulatory Technical Standards, (via eba.​europe.​org). See infra this chapter on final RTS on the matter.

The EBA released consultation papers on the homogeneity of the underlying exposures: EBA/CP/2017/21 (December 15, 2017) and final draft EBA/RTS/2018/02 (July 31, 2018).

See EBA, (2015), The EBA Report on Synthetic Securitization, EBA/Op/2015/26.

The CMU project is obviously much wider in terms of its objective. As a vehicle to accelerate sustainable growth, it includes measures to (1) finance innovation, start-ups and non-listed companies, (2) make it easier for companies to enter and raise capital on public markets, (3) invest for long-term infrastructure and sustainable investment, (4) foster retail investing, (5) strengthen the banking capacity to support the wider capacity, (6) strengthen the capacity of EU capital markets and (7) facilitate cross-border investments in the EU. See in detail: EC, (2016), Communication from the Commission to the European Parliament, the Council, the European Central Bank, The European Economic and Social Committee and the Committee of the Regions, Capital Markets Union, Accelerating Reform, COM(2016)601final, September 14.

I recommend reading this part in parallel to the relevant parts of the ‘where to go from here’ chapter on securitization and the dedicated chapter on securitizations.

M. Aalbers and E. Engelen, (2015), Guest Editorial: The Political Economy of the Rise, Fall and Rise again of Securitization, Environment & Planning A, Vol. 47, Issue 8, pp. 1597–1605; E. Engelen, (2015), Don’t Mind the Funding Gap: What Dutch Post-Crisis Storytelling Tells Us about Elite Politics in Financialized Capitalism, Environment and Planning A, Vol. 47, Issue 8, pp. 1606–1623; E. Engelen, (2017), Shadow Banking after the Crisis: The Dutch Case, Theory, Culture and Society, Vol. 34, Issue 5–6, pp. 53–75. A large-scale study supports the view that securitizations have been used mainly by large and profitable banks, with the objective of improving their capital ratios and reducing the cost of funding. With few exceptions, the banks that did securitize their assets reduced their credit and liquidity risks. See in detail: F. Panetta and A.F. Pozozolo, (2018), Why do Banks Securitize their Assets? Bank-Level Evidence from over One Hundred Countries in the Pre-Crisis Period, Bank of Italy Working Paper Nr. 1183, July 20.

D. Pesendorfer, (2015), Capital Markets Union and Ending Short-Termism; Lessons from the European Commission’ Public Consultation, Law and Financial Markets Review, Vol. 9, Issue 3, pp. 202–209.

See the massive evidence contradicting these statements or claims in the chapter ‘Future Directions’ (chapter 7 Volume II). Including SME financing and securitizations. See also: E. Engelen and A. Glasmacher, (2016), ‘Simple, Transparent and Standardized’. Narratives, Law and the Interest Coalitions behind the European Commission’s Capital Markets Union, Feps Studies, September, pp. 5 ff.

See in detail: H. Kramer-Eis et al., (2015), SME Securitization- At a Crossroads, EIF Working Paper Nr. 2015/31, December, Luxembourg. It is extensively discussed why the securitization of SME loans is so problematic relative to, for example, mortgage loans. See the chapter ‘where to go from here’. In short, it all comes down to asymmetric risk and information that makes SME loan pools heterogeneous and therefore unprofitable to securitize. Unprofitable because the spread on the securitized product (as a whole) is as large (approx.) as the aggregate spread of the initial aggregate SME loan pool. Therefore it doesn’t happen. It still is problematic transferring asymmetric risk to a third party and reduce overall risk exposure across the securitized product. See also: U. Albertazzi et al., (2016), Information Asymmetry and the Securitization of SME loans, Bank of Italy Working Paper Nr. 1091, December.

Regulation (EU) 2017/2401 of the European Parliament and of the Council of 12 December 2017 amending Regulation (EU) No 575/2013 on prudential requirements for credit institutions and investment firms, OJ L 347, 28.12.2017, pp. 1–34.

This is probably the right time to remind the reader of the elsewhere discussed feature that tranching (in itself) concentrates uncertainty and thus that even a simple securitization model enhances rather than reduces overall risk concentration (rather than distribution). See in detail: A. Antionades and N. Tarashev, (2014), Securitisations: Tranching Concentrates Uncertainty, BIS Quarterly Review, December, pp. 37–53.

See also on this particular issue: V. Bavoso, (2016), Simple, Transparent and Standardized Securitisation. Business as Usual, Feps Working Paper, September, pp. 9 ff.

Ibid. pp. 13 ff.

See in detail: R. Harris and A. Meir, (2015), Recourse Structure of Mortgages: A Comparison between the US and Europe, CESinfo DICE Report 4/2015 December, pp. 15–22.

McGowan and Nguyen evaluate whether US foreclosure law causes lenders to securitize mortgage loans. Lenders are more likely to securitize GSE-eligible mortgage loans when subject to borrower-friendly foreclosure law. The effects are present before and after the financial crisis and imply that borrower-friendly foreclosure law increases taxpayers’ holdings of mortgage debt by $140bn per annum. This highlights how lenders use securitization to exploit the GSEs’ guarantees and transfer credit default risk. In detail: D. McGowan and H. Nguyen, (2018), Risk Transfer and Foreclosure Law: Evidence from the Securitization Market, Working Paper, August 29, mimeo.

E. Engelen and A. Glasmacher, (2016), ‘Simple, Transparent and Standardized’. Narratives, Law and the Interest Coalitions behind the European Commission’s Capital Markets Union, Feps Studies, September, pp. 7–8; J.W. Singer, (2015), No Freedom Without Regulation: The Hidden Lesson of the Subprime Crisis, Yale University Press, New Haven, Connecticut; T. Bayoumi, (2017), Unfinished Business. The Unexplored Causes of the Financial Crisis and the Lessons Yet to be Learned, Yale University Press, New Haven, Connecticut. In fact there is proof that default rates different materially between non-recourse and full-recourse states in the US: See in detail: A.C. Ghent and M. Kudlyak, (2011), Recourse and Residential Mortgage Default: Evidence from US States, Review of Financial Studies, Vol. 24, Issue 9, pp. 3139–3186.

See extensively in the chapters ‘Pigovian tax’ (vol. I) and the ‘where to go from here’ (Vol. II). Negative equity holds back consumer spending. Combined with austerity it has been the main driver behind a below-standard economic performance during almost a decade in Europe. One can qualify these side effects as negative externalities and therefore I qualify them as Pigovian targets. See also: M. Aalbers, (2017), The Variegated Financialization of Housing. IJURR, Vol. 41, Issue 4, pp. 542–554; G. Wijburg, and M. Aalbers, (2017), The Alternative Financialization of the German Housing Market, Housing Studies, Vol. 32, Issue 7, pp. 301–320; S. Quinn, (2010), Government Policy, Housing, and the Origins of Securitization, 1780–1968. University of California, Berkeley, CA.

See the introductory comments in the EC Proposal for STS securitizations (Proposal for a REGULATION OF THE EUROPEAN PARLIAMENT AND OF THE COUNCIL amending Regulation (EU) No 575/2013 on prudential requirements for credit institutions and investment firms COM/2015/0473 final – 2015/0225 (COD)), in particular pp. 7–11. See also: European Parliament, Committee on Economic and Monetary Affairs, DRAFT REPORT on the proposal for a regulation of the European Parliament and of the Council laying down common rules on securitisation and creating a European framework for simple, transparent and standardised securitisation and amending Directives 2009/65/EC, 2009/138/EC, 2011/61/EU and Regulations (EC) No 1060/2009 and (EU) No 648/2012 (COM(2015)0472 – C8-0288/2015 – 2015/0226(COD))2015/0226(COD), June 2016.

IOSCO/BCBS, (2015), Criteria for Identifying Simple, Transparent and Comparable Securitisations, July.

IOSCO/BCBS, (2018), Criteria for Identifying Simple, Transparent and Comparable Short-Term Securitisations, May 14. The criteria published take account of the characteristics of asset-backed commercial paper (ABCP) conduits, such as (1) the short maturity of the commercial paper issued, (3) the different forms of program structures and (3) the existence of multiple forms of liquidity and credit support facilities. Changes made include clarifying that the criteria do not automatically exclude equipment leases and auto loan and lease securitizations from the short-term STC framework. Similar to the STC criteria for term securitizations, the short-term STC criteria are non-exhaustive and non-binding. Just like was the case for the 2015 STS criteria, standards were designed for a reduction of capital weighting (preferential capital treatment) for these short-term products: BCBS, (2018), Capital Treatment for Simple, Transparent and Comparable Short-Term Securitisations, May 14. They take into account the changes to the overall securitization framework as agreed in 2016: BCBS, (2016), Revisions to the Securitisation Framework, July 11 as impacted by the BCBS, (2017), Basel III: Finalising Post-Crisis Reforms, December 7 conditions. Provided that the expanded set of STC short-term criteria are met, STC short-term securitizations will receive the same modest reduction in capital requirements as other STC term securitizations. Changes made include setting the minimum performance history for non-retail and retail exposures at five years and three years, respectively, and clarifying that the provision of credit and liquidity support to the ABCP structure can be performed by more than one entity, subject to certain conditions.

Cullen laments in the same direction when arguing: ‘that current analyses of the likely effects of securitisation on asset markets, particularly housing markets, are deficient. Instead of highlighting flaws in the securitisation process through improved incentives—which I term “process-focused” regulation—analysis of incentives ought to concentrate on the excessive credit-origination which techniques such as securitisation facilitates. This is particularly relevant to housing bubbles, the greatest threat to financial stability.’ See J. Cullen, (2017), Securitization, Ring-Fencing and Housing Bubbles: Financial Stability Implications of UL and EU Bank Reforms, University of Oslo Faculty of Law Legal Studies Research Paper Series Nr. 2017-13.

There is also no limit to, for example, loan-to-value or loan-to-income ratios of mortgages eligible: see E. Engelen and A. Glasmacher, (2016), ‘Simple, Transparent and Standardized’. Narratives, Law and the Interest Coalitions behind the European Commission’s Capital Markets Union, Feps Studies, September, pp. 9 ff. There are also many exemptions listed in the memorandum of the EC: loans that have gone into arrears but with a new debt plan agreed upon, often by extending the maturity of the debt instrument. So even ‘subprime mortgages’ by any standard can be included without violating TS criteria.

Synthetic Securitization is making a comeback. See in detail: O. Kaya, (2017), Synthetic Securitization. Making a Silent Comeback, Deutsche Bank Research, February 21.

Ibid. pp. 10–11. Also: S.L. Schwarcz, (2016), Securitization and Post-Crisis Financial Regulation, Cornell Law Review, Vol. 102, pp. 115–139. He addresses two market-failure causes (complexity and change). He seems mildly positive regarding the European STS model (from that perspective) and recommends the US adopts a similar approach. Also: P. de Goia Carabellese, (2018), Securitization and Structured Finance: From Shadow Banking to Legal Harmonization, in Research Handbook on Shadow Banking, Legal and Regulatory Aspects (eds. I. H.-Y. Chiu and I.G. MacNeil), Edward Elgar Publishing, Cheltenham, UK, pp. 117–160.

The process of delegating technical aspects started after the STS regulation came into force in January 2018. See, for example, the following features one is currently looking into: ESMA, (2017), ESMA Consult on Securitization requirements, ESMA Brief ESMA71-99-916. Included are the features: The contents and format of underlying exposures and investor report templates, the operational standards for providing these reports to securitization repositories and the operational standards for accessing this information from securitization repositories as well as the contents and format of the notification to ESMA of a securitization’s STS status. Also: ESMA, (2018), ESMA Consult on Requirements for Securitization, ESMA Brief ESMA33-128-109, March 23.

The arsenal of guidelines has been developed based on the following criteria: it constitutes a single point of interpretation and is cross-sectoral applicable. There will be separate guidelines for non-ABCP and ABCP instruments. There are layers of interpretation: green implies that the concept is self-explanatory and the interpretation merely serves the correct interpretation of the STS criteria; yellow implies that there is a substantial element of uncertainty and interpretation is necessary and required; red implies that interpretation is crucial and even then consistency might be difficult to achieve. See in detail and for applications of each of the categories: EBA, (2018), EBA Consultation Paper on the Guidelines on Interpretation of STS Criteria, Public Hearing, June 11, via eba.​europe.​org

Based on articles 19(2) and 23(3) of the Securitization Regulation.

The EBA is responsible and the EBA Guidelines will play a crucial role in the new EU securitization framework, by providing a single point of consistent interpretation of the STS criteria to originators, sponsors, investors and competent authorities throughout the Union. Draft Guidelines have been released for both ABCP and non-ABCP securitization products. See EBA, (2018), Draft Guidelines on the STS criteria for (Non)-ABCP Securitizations, EBA/CP/2018/04, EBA/CP/2018/05, April 20. Earlier on, they released similar consultations regarding risk retention (December 2017, EBA/CP/2017/22), the homogeneity of the underlying exposures in securitization (December 2017, EBA/CP/2017/21) and significant risk transfers (September 2017, EBA-DP-2017-03). The memorandum to the regulation seems rather relaxed with respect to risk retention, a critical component of post-crisis regulation. The Memorandum makes explicit that (1) the risk can be retained by either the sponsor/originator or original lender, (2) bank can decide which part of the securitized instrument to retain (equity or mezzanine tranches) and (3) there is no risk retention if the assets are fully, unconditionally and irrevocably guaranteed by public bodies. The latter in particular is deeply concerning as it deals with a major agency conflict that stays largely unresolved. See regarding agency conflicts in securitization: W.S. Frame, (2017), Agency Conflicts in Residential Mortgage Securitization: What Does the Empirical Literature Tell Us?, Federal Reserve bank of Atlanta Working Paper Nr. 1, March. It was commented that ‘[s]ecuritization itself may not have been a problem, but rather the origination and distribution of observably riskier loans. Low-documentation mortgages, for which asymmetric information problems are acute, performed especially poorly during the crisis. Securitized low-documentation mortgages performed better when included in deals where security issuers were affiliated with lenders or had significant reputational capital at stake….’

There is an exception foreseen (article 248 of Regulation (EU) No 575/2013 (CRR) for institutions that provide excessive implicit support for securitizations. Originator institutions and sponsor institutions that have failed to comply with the relevant requirements shall at a minimum hold own funds against all of the securitized exposures as if they had not been securitized. The concept of ‘implicit support’ allows diverging interpretations and therefore the EBA was mandated to issue guidelines on what constitutes arm’s length conditions and when a transaction is not structured to provide support. See for those guidelines: EBA, (2016), Final Report: Guidelines on Implicit Support for Securitization Transactions, EBA/GL/2016/08, October 3.

B. Braun et al., (2018), Governing through Financial Markets: Towards a Critical Political Economy of Capital Markets Union, Vol. 22, Issue 2, pp. 101–116; B. Braun, (2018), Central Banking and the Infrastructural Power of Finance: The Case of ECB Support for Repo and Securitisation Markets, Socio-Economic Review, DOI: https://​doi.​org/​10.​1093/​ser/​mwy008. Also earlier on Hübner wondered why securitization now has become such a prime pillar of the CMU, a project with a string political commitment to market-based finance. She wonders if the whole idea is not based on a monetary objective of stabilizing the eurozone. See in detail: M. Hübner, (2016), Securitisation to the Rescue: The European Capital Markets Union Project, the Euro Crisis and the ECB as ‘Macro-economic Stabilizer of Last Resort’, Febs Report, September.

See also C. Ban, (2016), Grey Matter on Shadow Banking: International Organizations and Expert Strategies in Global Financial Governance, GEGI Working Paper, Boston University. He concludes that ‘[t]he evidence suggests that their experts ((ed.) of the IMF, BIS and FSB) embedded a bland reformism opposed to both strong and “light touch” regulation at the core of the emerging regulatory regime. In so doing, these technocrats reinforced each other’s expertise, excluded some potential competitors (legal scholars), coopted others (select Fed and elite academic economists) and deployed measurement, mandate, and status strategies to assert issue control. Finally, rather than derive authority from high-status publications on shadow banking, academic economists’ most effective source of influence was their credibility as arbitrageurs between several professional fields.’

And that includes the EC commissioned Impact Assessment that goes with the proposal (SWD(2015) 185 final) of September 30, 2015 which includes a highly unconvincing, paper-thin, slightly over half a page literature overview (p. 130). The exact same thing could be said about the reference document on securitizations used by the European Parliament: A. Delivioras (EP), (2016), Understanding Securitization: Background-Benefits-Risks, p. 22, January, revised version.

E. Engelen and A. Glasmacher, (2018), The Waiting Game: How Securitization Became the Solution for the Growth Problem of the EU, Competition and Change, Vol. 22, Issue 2, pp. 165–183.

In any case, higher securitization propensities weaken the financial stability of banks with relevant effects on different sectors of the economy. In detail: A. Mazzochetti et al., (2018), Systemic Financial Risk Indicators and Securitized Assets: an Agent-Based Framework, MPRA Working Paper Nr. 89,779, October 24.

A. Grodecka, (2016), Subprime Borrowers, Securitization and the Transmission of Business Cycles, Sveriges Riksbank Working Paper Series Nr. 317, March.

Interest rate hikes slow down growth but lead intermediation to migrate from banks’ balance sheets to non-banks via increased securitization activity. Systemic risk increases when intermediation is pushed outside the regulatory framework. See in detail: A. Pescatori and J. Solé, (2016), Credit, Securitization and Monetary Policy: Watch Out for Unintended Consequences, IMF Working Paper Series Nr. WP/16/76, March. As such, higher interest rates have the potential for unintended consequences.

E.F. Gerding, (2015), Bank Regulation and Securitization: How the Law Improved Transmission Lines between Real Estate and Banking Crisis, Georgia Law Review, Vol. 50, pp. 1–42.

The link between reputation of issuers and performance has been examined. Deku et al. examine the link between issuer reputation and mortgage-backed security (MBS) performance. They find that, overall, MBS sold by reputable issuers are collateralized by higher quality asset pools which have lower delinquency rates and are less likely to be downgraded. However, as credit standards declined during the boom period of 2005–2007, asset pools securitized by reputable issuers were of worse quality compared to those securitized by less reputable issuers. Therefore, reputation as a self-disciplining mechanism failed to incentivize the production of high-quality securities during the credit boom. See in detail: S.L. Deku et al., (2019), Do Reputable Issuers Provide Better Quality Securitizations, ECB Working Paper Nr. 2236, February 7.

S. Deku et al., (2019), Trustee Reputation in Securitization: When Does it Matter?, Financial Markets, Institutions & Instruments, Vol. 28, Issue 2, pp. 61–84. Engaging reputable trustees benefit from lower spreads on their MBSs.

See regarding the notion of the fragility of resale markets in securitized products: M. Kuncl, (2016), Fragility of Resale Markets for Securitized Assets and Policy of Asset Purchases, Bank of Canada Working Paper Nr. 46, October.

See extensively: T. Sogo and K. Kawai, (2016), Planned Opaqueness in Securitization, Working Paper, mimeo, September 22.

Q. Li, (2017), Securitization and Liquidity when Asset Owners Possess Private Information, Working Paper, February 17, mimeo.

Question then is ‘what is the optimal security design for banks who have private information and issue ABS instruments’ since securitization creates value for the society only ‘by mitigating informational frictions in the financial markets’. Li comments ‘[a]n asset-backed security can be ‘good’ because it is backed by an asset that is more likely to pay out a high dividend, or it can be ‘good’ because its holder has the priority to receive payments when a bad state occurs’ (p. 25).

Either vertically through retaining a slice of each tranche or horizontally through retaining the first-loss tranche.

See, for example, the EBA, (2017), On the Significant Risk Transfer in Securitization, Discussion Paper EBA-DP-2017-03, September 19.

See the recently announced FSB project dealing with evaluation on the effects of financial reforms on small- and medium-sized enterprise (SME) financing on August 13, 2018. The project is part of a broader mandate to evaluate the effect of enacted regulation and policies in a variety of domains: FSB, (2017), Framework for Post-Implementation Evaluation of the Effects of the G20 Financial Regulatory Reforms, July 3. The real question should be about the link between SME finance and entrepreneurialism: M. Ayyagari et al., (2017), What Determines Entrepreneurial Outcomes Across the World? Role of Initial Conditions, Review of Financial Studies, Vol. 30, Issue 7, pp. 2478–2522; R. Gopalan et al., (2016), Do Debt Contract Enforcement Costs Affect Financing and Asset Structure? Review of Financial Studies, Vol. 29, Issue 10, pp. 2773–2813. Here and there support emerges for securitization as a vehicle to remove financing hurdles for MEs and decrease the cost of bank financing. O. Kaya and O. Masetti, (2019), Small- and Medium-Sized Enterprise Financing and Securitization: Firm-Level Evidence from the Euro Area Economic Inquiry, Vol. 57, Issue 1, pp. 391–409. They (supporting studies) however stay far and few between.

See also: EIF, (2017), European Small Business Finance Outlook, Working Paper Nr. 43, June; C. Masiak, (2017), Financing of European SMEs: Patterns, Determinants and Dynamics over Time, Presentation 5th Annual Meeting of the Knowledge Programme—European Investment Bank, March 7, eib.​org; A. Rahman et al., (2017), Determinants of SME Financing: Evidence from Three Central European Countries, Review of Economic Perspectives, Vol. 17, Issue 3, pp. 263–285, September; S. Roux and F. Savignac, (2017), SMEs’ Financing: Divergence Across Euro Area Countries?, Banque de France Working Paper Nr. 654, December; IOSCO, (2015), SME Financing Through Capital Markets, Final Report, FR11/2015, July.

Interesting as a parallel thought process is the fact that volumes of securitization in catastrophe risk are low. Relative to securitization, reinsurance features lower adverse selection costs because reinsurers possess superior underwriting resources than ordinary capital market investors. Insurers’ risk transfer choices trade off the costs and benefits of reinsurance relative to securitization. Low risks are transferred via reinsurance, while intermediate and high risks are transferred via partial and full securitization, respectively. An increase in the loss size increases the trigger risk level above which securitization is chosen. Hence, catastrophe exposures, which are characterized by lower probabilities and higher severities, are more likely to be retained or reinsured rather than securitized, Subramanian and Wang conclude. Lower probabilities and higher severities are criteria one can apply directly to SME loan books, with factual modifications obviously. A. Subramanian and J. Wang, (2018), Reinsurance Versus Securitization of Catastrophe Risk Insurance: Mathematics and Economics, Vol. 82C, Elsevier, pp. 55–72. In the same direction: J.D. Cummins and P. Trainar, (2009), Securitization, Insurance, and Reinsurance, Journal of Risk & Insurance, Vol. 76, Issue 3, pp. 463–492. They go directly to the point this belief is essential: [t]raditional reinsurance operates efficiently in managing relatively small, uncorrelated risks and in facilitating efficient information sharing between cedants and reinsurers. However, when the magnitude of potential losses and the correlation of risks increase, the efficiency of the reinsurance model breaks down, and the cost of capital may become uneconomical. At this juncture, securitization has a role to play by passing the risks along to broader capital markets. Securitization also serves as a complement for reinsurance in other ways such as facilitating regulatory arbitrage and collateralizing low-frequency risks.

In fact it was deregulation that helped create the originate-to-distribute model. That has a number of implications. See D. McGowan and H. Nguyen, (2019), Deregulation and the Securitization Boom, Working Paper, June, mimeo.

Schwarcz has been arguing that financial regulation in originate-to-distribute models face often on asymmetric information. However, he argues, the real challenge is that the relevant market failure is less likely to be asymmetric information than mutual misinformation—neither the originator (i.e. seller) of the loans nor the buyer may fully understand the risks. Complex markets and segments tend to have that effect (securitization, structured finance, collateralization and re-use of collateral, etc.). The regulation of collateralization levels and interconnectedness faces fundamentally different challenges than those underlying the (technically) analogous post-Depression regulation of ‘margin’ lending to acquire publicly traded stock, he argues. See in detail: S.L. Schwarcz, (2018), Secured Transactions and Financial Stability: Regulatory Challenges, Law & Contemporary Problems, Vol. 81, Issue 1, pp. 45–62. He identifies a number of problematic areas that requires a ‘different’ type of regulation: (1) moral hazard in the secured loan origination markets, (2) levels of collateralization and re-use, (3) collateralization as a source of interconnectedness, (4) access of SIFIs to reorganization financing, (5) remedies against collateral, (6) non-traditional secured transactions and (7) de facto collateral rights. Also: S. Flynn et al., (2018), Informational Efficiency in Securitization after Dodd-Frank, Sixth Annual Conference on Financial Market Regulation, Conference Paper, November 5. Echeverry identifies two information frictions between issuers and investors: (1) incomplete information on the underlying loans. Prices of junior tranches appear no more informative than those of AAA tranches within ‘low-doc’ deals, while the latter are no less informative within ‘full-doc’ deals. Only secondary is the lack of investor sophistication. See in detail: D. Echeverry, (2019), Information Frictions in Securitization Markets: Unsophisticated Investors or Opaque Assets? University of Notre Dame—Mendoza College of Business Working Paper, February 28, mimeo.

Daley et al. studied the effect of credit ratings on loan origination and securitization. That turned out to be a two-step process: (1) banks decide whether to originate a given loan pool or not, and obtain private information about the pools originated, and (2) each bank chooses what portion of the pool’s cash own rights to retain and what portion to securitize. Their study highlights how ‘credit ratings affect the trade-off between productive efficiency (i.e. efficiency of the origination process) and allocative efficiency (i.e. efficiency of the securitization process)’. Credit ratings increase allocative efficiency by reducing costly retention and increase the supply of credit, but reduce average quality of loans originated and can lead to an oversupply of credit relative to first best. Credit shopping and manipulation were not used as variables, but ceteris paribus these variables have the same overall effect as reducing the informativeness of ratings. See in detail: B. Delay et al., (2017), Securitization, Ratings and Credit Supply, Working Paper, September mimeo.

U. Albertazzi et al., (2017), Asymmetric Information and the Securitization of SME Loans, BIS Working Paper Nr. 601, January.

A securitization is affected by asymmetric information if ‘conditional on the characteristics of the securitized loans which are observable to the investors—there is a positive correlation between the errors of the model for the probability of a loan being securitized, and those for the probability that the loan goes into default (or deteriorates)’; Ibid. p. 3. The information asymmetry takes one of two forms: frictions due to adverse selection and those stemming from moral hazard.

Ibid. pp. 3–4, 23 ff.

O. Abdesalam et al., (2017), Asset Securitization and Bank Risk: Do Religiosity or Ownership Structure Matter, Working Paper, mimeo. They ‘find that banks with higher securitization activity have consistently shown a riskier profile by being significantly less adequately capitalized and offering higher ratio of net loans to total assets.’ That is even true within the Islamic bank sphere which are relative to their Western peers less risk inclined. There is evidence that bank risk declines in the year of the securitization and increases in the following year. They also show that this effect is driven by low-risk securitization deals. They also show that the risk reduction effect is weaker in crisis periods relative to normal times. F. Battaglia et al., (2018), Securitization and Crash Risk: Evidence from Large European Banks, Bank of Finland Research Discussion Papers Nr. 26, December 11. Their paper provides evidence that bank risk declines in the year of the securitization and increases in the following year. They also show that this effect is driven by low-risk securitization deals. Risk reduction effect is weaker in crisis periods relative to normal times.

D. Castellani, (2017), Mortgage-backed Securitization and SME Lending During the Financial and Economic Crisis: Evidence from the Italian Cooperative Banking System, Review of Banking, Finance and Monetary Economics, Vol. 47, Issue 1, pp. 187–222.

EC, (2018), Proposal for a REGULATION OF THE EUROPEAN PARLIAMENT AND OF THE COUNCIL amending Regulations (EU) No 596/2014 and (EU) 2017/1129 as regards the promotion of the use of SME growth markets, COM(2018) 331 final/2018/0165 (COD), May 24; EC, (2018), COMMISSION DELEGATED REGULATION (EU) …/...of XXX amending Commission Delegated Regulation (EU) 2017/565 as regards certain registration conditions to promote the use of SME growth markets for the purposes of Directive 2014/65/EU of the European Parliament and of the Council, May 24.

EC, (2018), Capital Markets Union: Making it Easier for Smaller Businesses to Get Financing through Capital Markets, Press Release IP/18/3727, May 24; EC, Frequently Asked Questions: Easier Access to Financing for Smaller Businesses through Capital Markets, Fact Sheet Memo/18/3728, May 24.

They are defined as Multilateral Trading Facilities (a type of trading venue) where at least 50% of issuers are SMEs.

These proposed alleviations will be limited to SME Growth Markets and will not be extended to SMEs listed on regulated markets. Otherwise, investors will be faced with a complex situation whereby companies listed on the same stock exchange are subject to two different sets of rules (alleviated requirements for SMEs, and normal requirements for all other companies), Ibid. factsheet EC.

For those looking for a quick refresher, see B. Bjerke, (2017), Securitization in Light of the New Regulatory Landscape, in the International Comparative Legal Guide to Securitization 2017, pp. 24–27.

I got convinced there are sufficient excellent alternatives. See, for example, the excellent annualized overview that Hogan Lovells produces regarding the comparative dynamics regarding securitization on both sides of the pond called ‘Summary of key EU and U.S. Regulatory Developments Relating to Securitization Transactions’. Country-specific analysis can be found in the International Comparative Legal Guide on Securitizations released annually.

B. Bjerke, (2017), Securitization in Light of the New Regulatory Landscape, in International Comparative Legal Guide to Securitization 2017, p. 27. Also: B. Bjerke, (2018), Regulatory Drivers of Securitizations, in International Comparative Legal Guide to Securitization 2018, online via iclg.​com

For some that’s enough to ban the product altogether as capital relief with high leverage ratios is a recipe for disaster over and over again. Although I’m not totally opposing that line of thinking, it is a symptomatic approach. The constant and growing demand for ‘safe assets’ underlying the securitization market for beyond what the sovereign bond market can yield embeds much more complexity than capital charges for banks. Banning securitization for the capital relief argument is an honest argument but the wrong fight ultimately.

See also in the recent Basel III monitoring review: EBA, (2018), Basel III Monitoring Exercise. Results based on Data of 31 December 2017, October 4.

For those not willing to dig into phone books of guidelines, see for the list: B. Bjerke, (2017), Securitization in Light of the New Regulatory Landscape, in the International Comparative Legal Guide to Securitization 2017, p. 28.

And that is a lot, see B. Bjerke, (2017), ibid. p. 28.

The EBA will assess the impact of the STS regulation starting 2019 but the first results will likely only be compiled after the close of the manuscript.

That was often accompanied by a level of arrogance unnecessary, unconvincing, un-preferred and edging counterproductive. See, for example, R. Hopkin, (2016), Now is Not the Time to Delay Securitisation’s Revival, June 13, via afme.eu; R. Hopkin, (2017), Reviving Securitization in Europe: Is the End in Sight at Last, ICLG to Securitization 2017, pp. 30–33.

The uniformity of risk in a pool of mortgage loans is higher making it a much more attractive product group.

Rather than maximize profits on an ever narrowing string of equity, bulking volumes of leverage, the feasible alternative is to expand their balance sheet in an orderly fashion and still generate attractive risk-adjusted returns based on enhanced allocation efficiencies. But then again, they gave that skillset away when they, starting in the late 1970s, loaded up their balance sheets with mortgage loans rather than business loans.

See for an analysis of the outstanding issues: R. Jones and L. Cohen, (2017), Securitization Reform Analysis, the International Comparative Legal Guide to: Securitization 2017, Macmillan, pp. 34–39.

EBA, (2018), Final Draft Regulatory Technical Standards On the Homogeneity of the Underlying Exposures in Securitization under Articles 20(14) and 24(21) of Regulation (EU) No 2017/2402 laying down a general framework for securitization and creating a specific framework for simple transparent and standardized securitization, EBA/RTS/2018/02, July 31.

There was a separate draft consultation issued in 2018 to specifically focus on adapted interpretations for STS ABCP: EBA, (2018), Draft Guidelines on the STS Criteria for ABCP Securitisation, EBA/CP/2018/04, April 20. Final Guidelines: EBA, (2018), Final Report on Guidelines on the STS Criteria for ABCP Securitisation, EBA/CP/2018/08, December 12. They provide answer to questions such as ‘What is “active portfolio management”? When should exposures be considered “similar”? What information on underlying exposures is relevant? The required expertise of originators, original lenders and servicers. Exposures in default and to credit-impaired obligors. What constitutes “predominant dependence” on asset sales? What is “appropriate” hedging? What interest rates may be referenced? What exposures can be treated as “substantially similar” for the purpose of comparable data on historical default and loss performance?’ M. Daley. (2019), EBA STS Guidelines now in Force, May 17, dlapiperblog.​org

See A. Bak, (2018), Reviving Securitisation in Europe, ICLG Securitisation, 2018, via iclg.​com

See initial draft released in December 2017. See high up in this chapter for full reference.

EBA, (2018), Final Draft Regulatory Technical Standards, Specifying the Requirements for Originators, Sponsors and Original Lenders Relating to Risk Retention pursuant to Article 6(7) of Regulation (EU) 2017/2402, EBA/RTS/2018/01, July 31.

Commission Delegated Regulation (EU) No 625/2014 of 13 March 2014 supplementing Regulation (EU) No 575/2013 of the European Parliament and of the Council by way of regulatory technical standards specifying the requirements for investor, sponsor, original lenders and originator institutions relating to exposures to transferred credit risk. Text with EEA relevance OJ L 174, June 13, 2014, pp. 16–25.

A. Bak, (2018), Reviving Securitisation in Europe, ICLG Securitisation, 2018, via iclg.​com

See ESMA, (2017), Draft Technical Standards on Disclosure Requirements, Operational Standards, and Access Conditions under the Securitisation Regulation, Consultation Paper, ESMA33-128-107, December 19. The final report: ESMA, (2018), Technical Standards on Disclosure Requirements under the Securitisation Regulation, ESMA33-128-474, August 22. Regarding the securitization repositories: ESMA, (2018), Draft Technical Standards on the Application for Registration as a Securitisation Repository under the Securitisation Regulation, ESMA33-128-109, March 23. For non-ABCPs: EBA, (2018), Draft Guidelines on the STS criteria for Non-ABCP Securitisation, EBA/CP/2018/05, April 20. Final guidelines on the STS criteria for Non-ABCP Securitisation: EBA, (2018), Guidelines on STS criteria for non-ABCP Securitization, EBA?GL/2018/09, December 12, via eba.​europe.​eu

ESMA, (2018), Draft RTS and ITS on STS Notification under Regulation (EU) N° 2017/2402, Final report, ESMA33-128-477, July 16.

ESMA, (2018), Draft RTS on Authorisation of Firms Providing STS Verification Services, Final Report, ESMA33-128-473, July 16.

Securitization tends to structurally have a positive effect on bank profitability. Bank risk, cost of funding, liquidity and regulatory capital individually and jointly mediate the securitization-profitability relationship. In detail: M. Bakoush, (2014), Securitization and Bank Profitability, Working Paper, September 12, mimeo.

EBA, (2018), Draft Regulatory Technical Standards on the Conditions to Allow Institutions to Calculate KIRB in Accordance with the Purchased Receivables Approach under Article 255 of [Regulation (EU) 2017/2401 amending Regulation (EU) No 575/2013], EBA/CP/2018/10, June 19. Final draft issued April 4, 2019.

See higher up in the securitization chapter for details on the method. The method should be used by banks when information is available to calculate the capital charge on the underlying securitized pool (K_IRB) and the position is backed by a pool of qualifying exposures (an IRB pool). The bank then has the permission to use the IRB approach given the quality of the IRB pool. Risk-weighted exposures are then calculated using the IRB method, which typically has a floor of 15% (and a ceiling of 1250%) based on rating, seniority and maturity unless they constitute an STS exposure.

When it is indicated that guidelines were released or issued, it is often referred to the guidelines prior to the STS securitization regulation as they were developed based on the CRR legislation which goes obviously further back in time than the STS securitization regulation. Adjustments to those guidelines are still to be expected for many of these items unless specifically indicated.

A number of these developments will go on beyond the cut-off date of this manuscript.

Initial Guidelines: EBA, (2016), Guidelines on Implicit Support for Securitisation Transactions, EBA/GL/2016/08, October 3.

This one is particularly relevant and equally debated. Underlying discussion is whether synthetic securitizations can meet STS standards altogether. The primary STS securitization regulation left the door open to answer that question with a yes. However, during the consulting phase, it became clear that the EBA, through their guidelines could poop the party, forcing banks to look for capital relief elsewhere. A possible way would be to not provide capital relief or only under harsh conditions. Another way would be to provide no capital relief deal ex ante, but only possible ex post. FIs would then never know for sure whether a risk transfer would provide capital relief. That opaqueness could deter many in practice from engaging in those deals altogether. What adds to the complexity is that the regulator has never formally indicated the list of requirements for recognizing risk transfer deals in regulatory capital, but has always engaged in a ‘case by case’ scenario.

See already in 2017: EBA, (2017), On the Significant Risk Transfer in Securitisation, Discussion Paper, EBA-DP-2017-03, September 19.

See in detail: O. Sanderson, (2018), EBA Plan Could Cut Benefits of Synthetic Securitization, February 1, via globalcapital.​com. See A. Delivorias, (2016), Synthetic Securitization, A Closer Look, EP Briefing June 2016, via europarl.​europa.​eu

Credit-risk transfers (CRTs) can help to price credit risk, because they are transparent, open priced in liquid markets and there is no counterparty risk. See in detail: S.M. Wachter, (2018), Credit Risk Transfer, Informed Markets, and Securitization, Economic Policy Review Vol. 24, Nr. 3, pp. 117–131; P. Morganti, (2018), A Securitization-based Model of Shadow Banking with Surplus Extraction and Credit Rik Transfer, in Shadow Banking: Financial Intermediation beyond Banks (Ed. Esa Jokivuolle), SUERF Conference Proceedings 2018/1, Larcier, pp. 98–107.

For example, deals between Barclays and Unicredit in 2008 ended up in UK Court in 2012 because of this issue. See Barclays bank Plc vs. Unicredit bank Ag & Anor, via Casemine.​com

A. Ali, (2018), European ABS LCR Rules Disappoint, Could Drive bank Exodus, July 24, via globalcapital.​com

M. Daley, (2018), LCR vs. CMU: EC Scores an Own Goal, July 28, via lexicology.​com

The final regulation came through on June 1, 2018: Commission Delegated Regulation (EU) 2018/1221 of 1 June 2018 amending Delegated Regulation (EU) 2015/35 as regards the calculation of regulatory capital requirements for securitizations and simple transparent and standardized securitizations held by insurance and reinsurance undertakings (Text with EEA relevance), C/2018/3302, OJ L 227, 10.9.2018, pp. 1–6. In the final regulation, the Commission has developed a new calibration for non-senior tranches of STS securitizations, which should also benefit from an adapted capital charge under Solvency II with improved risk sensitivity. I personally see that as a good thing, at least from the perspective of the CMU development. Insurance companies and related investors have a role to play in the distribution of risk across the different market players based on their risk appetite and longevity. Those investors are better placed to absorb mezzanine and junior tranches and have the potential to provide risk-return levels these investors are looking for. BUT where I see the pain is that the capital that is freed up will not necessarily flow back into the economy. And if it does it will most likely go back into the system as new mortgages, which ultimately is a low value-adding industry. The justification of the lower capital charge is not only in its input legitimacy, but also in its output legitimacy, that is, what value does the freed-up capital bring to the economy. If that question cannot be answered, or only in a negative way, and so the value is limited to enhancing returns on a string of equity for banks, we might have no capital relief or securitization model altogether, as it will concentrate risks and create systemic risk at the level of the interconnected banking system without any proper benefits. Legislators will then have to do soul-searching and conclude this was another self-orchestrated corporate governance failure drama. It would have been better to analyze deeper the alternative of covered bonds that have repeatedly been presented as a direct alternative for securitization techniques. See S. Cabó-Valverde et al., (2011), Are Covered Bonds a Substitute for Mortgage-Backed Securities, Federal Reserve Bank of Chicago Working Paper Nr. 2011-14, Chicago; S.E. Dincă, (2014), Covered Bonds v. Asset Securitization, Theoretical and Applied Economic, Vol. 21, Nr. 11, pp. 71–84; N. Boesel et al., (2016), Do European Banks with a Covered Bond Program Still Issue Asset-Backed Securities for Funding, Utrecht University, School of Economics Discussion Paper Nr. 16-03 (the answer is by the way yes); A. Arif, (2017), Deciphering Securitisation and Covered Bonds: Economic Analysis and Regulations, PhD thesis, December 11; T. Ahnert, (2018), Covered Bonds as a Source of Funding for Banks’ Mortgage Portfolios, Bank of Canada Financial System Review, June, pp. 37–49. See for a variety of alternatives to securitization: S.L. Schwarcz, (2013), Securitization, Structured Finance and Covered Bonds, The Journal of Corporation Law, Vol. 39, issue 1, pp. 129–154. See also the EC impact assessment underlying the introduction of the covered bond legislation: EC, (2018), Impact Assessment, Accompanying the document Proposal for a Directive of the European Parliament and the Council on the issue of covered bonds and covered bond public supervision and amending Directive 2009/65/EC and Directive 2014/59/EU And Proposal for a Regulation of the European Parliament and the Council on amending Regulation(EU) No 575/2013 as regards exposures in the form of covered bonds (SWD 2018-50 final- 2018/042 (COD)). The EBA produced an analysis to what degree European secured notes (ESNs), which are covered-bond-like dual recourse instruments, may provide a useful funding alternative to banks engaged in lending to SMEs and lending to infrastructure projects. See in detail: EBA, (2018), EBA Report on the European Secured Notes (ESNs), July 24.

There are more principles and layers; see IOSCO, (2017), Objectives and Principles of Securities Regulation, May, via iosco.​org

M.C. Turk, (2018), Securitization Reform after the Crisis: Regulation by Rulemaking or Regulation by Settlement? Review of Banking and Financial Law, Vol. 37, pp. 757–769. The more elaborated conference contribution is also very recommendable (accessible through SSRN).

The differences in securitization markets are discussed elsewhere, but different policies are accountable for the large differences in size and scope between the US and EU securitization markets. The early support to use external credit scores/FICO scores in the US helped to overcome the asymmetric nature, and FICO scores actually enable risk transfer by reducing information asymmetry problems. Moreover, while limiting screening reduces the upfront costs of lending, it also increases loans made to uncreditworthy borrowers. And because increasing loans made to bad borrowers raises the rates good borrowers have to pay (to compensate investors for higher defaults), US rules that sacrifice information for more ‘complete’ markets may be a bad bargain, Bhide explains. A. Bhide, (2017), Formulaic Transparency: The Hidden Enabler of Exceptional U.S. Securitization Journal of Applied Corporate Finance, Vol. 29, Issue 4, pp. 96–111.

There are some accounting issues here, see Q. Zhao, (2019), Interaction Between Securitization Gains and Abnormal Loan Loss Provisions: Credit Risk Retention and Fair Value Accounting, Journal of Business Finance and Accounting, Vol. 46, Issue 7–8, pp. 813–842.

C.A. Sweet et al., (2019), Multijurisdictional Securitization in the Age of the New EU Securitization Rules, February 20, via lexicology.​com

J. Hull and A. White, (2012), Ratings, Mortgage Securitizations, and the Apparent Creation of Value, in A. Blinder, A. Lo and B. Solow (eds.), Rethinking the Financial System, Chapter 7, Russell Sage Foundation.

A. Antoniades and N. Tarashev, (2014), Securitizations Concentrate Uncertainty, BIS Quarterly Review December 2014, pp. 37–53.

Antoniades and Tarashev, (2014), Ibid. pp. 39–40.

See for a quantification of this Hull and White, (2014), Ibid. Annex 1, pp. 52–53.

Antoniades and Tarashev, (2014), Ibid. pp. 40–41.

Antoniades and Tarashev, (2014), Ibid. pp. 41–46.

Antoniades and Tarashev, (2014), Ibid.

Antoniades and Tarashev, (2014), Ibid. pp. 42–46.

See in detail: I. Fender, N. Tarashev and H. Zhu, (2008), Credit Fundamentals, Ratings and Value-at-Risk: CDOs Versus Corporate Exposures, BIS Quarterly Review, March, pp. 87–101.

Such as Dow Jones CDX North America and Markit iTraxx® Europe.

See in detail: M. Pykhtin, and A. Dev, (2002), Credit Risk in Asset Securitisations: Analytical Model, Risk, Vol. 15, Issue 5, May, pp. 16–20.

G. Duponcheele, et al., (2013), A Principles-Based Approach to Regulatory Capital for Securitisations, Risk Control Working Paper.

Antoniades and Tarashev, (2014), Ibid. p. 46.

See for a variation on this view: I. Fender, and J. Mitchell, (2009), The Future of Securitisation: How to Align Incentives, BIS Quarterly Review, September, pp. 27–43. They argue that, when a securitization originator’s uncertainty about tranche riskiness differs from that of an investor, the credibility of the securitization process is at stake. To support this credibility, it is thus necessary to impose specific retention requirements on originators.

Antoniades and Tarashev, (2014), Ibid. pp. 46–50.

A discussion paper, EBA (2014), has published a list of proposed criteria that simple and transparent securitizations should satisfy. These criteria include homogeneous underlying assets, well-defined capital structures, enforceable repayment schedules and long performance history of the underlying assets. See in detail: European Banking Authority, (2014), EBA Discussion Paper on Simple Standard and Transparent Securitizations, EBA/DP/2014/02, October. See earlier in this chapter for a discussion and full update on the issue.

An increase in the asset-level PD sets three forces in motion. First, all else the same, a higher asset-level PD is estimated with more noise, implying higher likelihood and severity of undercapitalization. Second, in line with the regulatory model, Antoniades and Tarashev’s setting accounts for an empirical regularity that a higher PD goes hand in hand with a lower default correlation. See Antoniades and Tarashev, (2014), Ibid. p. 49. And the lower the default correlation, the lower the noise in PD estimates, all else the same. A higher default correlation implies that observed default rates are more likely to be either very large or very small, irrespective of the true underlying PD. Thus, the higher the default correlation, the less informative are the default rates and, ultimately, the noisier is the PD estimate. Third, regulatory capital is less sensitive to noise around high PD estimates than around low PD estimates. The second and third forces reduce the likelihood and severity of undercapitalization and, in their stylized setting, roughly balance the effect of the first force.

See Antoniades and Tarashev, (2014), Ibid. p. 50.

See for a full and twice per year updated comparison between the US and European regulatory initiatives in the securitization field: Hogan Lovells, (2015 and following years), Summary of Key EU and US Regulatory Developments Relating to Securitization Transactions, most recent edition: June. The analysis is developed across the following areas: risk retention, due diligence, disclosure and the role of credit rating agencies and analyzes the differences in the US and the European reforms in these individual areas.

It can make disclosure insufficient to eliminate information asymmetry; complexity makes understanding harder, which increases the chance of panics; complexity heightens the risk of ‘mutual misinformation’.

Refers to classical principal-agent conflicts or intra-firm between higher- and lower-ranked managers.

Includes human irrationality, including the tendencies to over-rely on heuristics, such as credit ratings, in order to try to simplify complexity; to see what we want to see in the face of uncertainty; failing to perform sufficient due diligence (tendency to discount actual risk), and is largely inevitable.

The difficulty of regulating a constantly changing financial system.

As market participants suffer from the actions of other market participants, that is, the benefits of exploiting finite capital resources accrue to individual participants, the costs are distributed among many (externality concept).

Discussed in: S. L. Schwarcz, (2012), Controlling Financial Chaos: The Power and Limits of Law, Wisconsin Law Review, pp. 815–840.

K. Mullin, (2015), STS Self-Certification? Barking Up the Wrong Tree, International Financing Review, August 27, via ifre.​com

See in detail: S.L. Schwarcz, (2016), Regulating Financial Change: A Functional Approach, Minnesota Law Review, Vol. 100, Issue 4, pp. 1441–1494.

Discussed later but see also: S.L. Schwarcz, (2015), Securitization and Post-Crisis Financial Regulation, Working Paper, December 9 and I. Anatawi and S.L. Schwacz, (2013), Regulating Ex-Post: How Law Can Address the Inevitability of Financial Failure, Texas Law Review, Vol. 92, pp. 75–131.

The three Agencies are the Board of Governors of the Federal Reserve System (‘FRB’), the Office of the Comptroller of the Currency (‘OCC’) and the Federal Deposit Insurance Corporation (‘FDIC’).

See Regulatory Capital Rules: Regulatory Capital, Implementation of Basel III, Capital Adequacy, Transition Provisions, Prompt Corrective Action, Standardized Approach for Risk-weighted Assets, Market Discipline and Disclosure Requirements, Advanced Approaches Risk-Based Capital Rule, and Market Risk Capital Rule, 78 Fed. Reg. 55,340, 55,482 (Sept. 10, 2013).

Ibid. 55,430.

Employee Retirement Income Security Act of 1974 (ERISA) is a federal law that sets minimum standards for pension plans in private industry. ERISA does not require any employer to establish a pension plan. It only requires that those who establish plans must meet certain minimum standards. The law generally does not specify how much money a participant must be paid as a benefit. ERISA requires plans to regularly provide participants with information about the plan including information about plan features and funding; sets minimum standards for participation, vesting, benefit accrual and funding; requires accountability of plan fiduciaries; and gives participants the right to sue for benefits and breaches of fiduciary duty. ERISA also guarantees payment of certain benefits through the Pension Benefit Guaranty Corporation, a federally chartered corporation, if a defined plan is terminated.

Ibid. 55,430–55,431.

Ibid. 55,431.

Ibid. 55,431.

Ibid. 55,431.

Ibid. 55,430.

Ibid. 55,431.

Ibid. 55,431

Ibid. 55,431.

Ibid. 55,432.

As required by Section 939A of the Dodd-Frank Act.

Ibid. 55,437.

Ibid. 55,437.

Ibid. 55,435.

Ibid. 55,434.

Ibid. 55,435.

Ibid. 55,435.

Ibid. 55,433.

Claessens et al., (2012), Shadow Banking: Economics and Policy, IMF Staff Discussion Note SDN 12/12, p. 14.

See in detail for this: M. Singh, and J. Aitken, (2010), The (Sizable) Role of Re-hypothecation in the Shadow Banking System, IMF Working Paper Nr. WP/10/172, Washington.

Claessens et al., (2012), Ibid. pp. 14–15.

A. Admati and M. Hellwig, (2013), The Bankers New Clothes: What’s wrong with Banking and What to Do about It, Princeton University Press, Princeton NJ.

M. Singh, and P. Stella, (2012), Money and Collateral, IMF Working Paper Nr. WP/12/95, Washington.

Defined as the volume of secured transactions divided by the stock of source collateral.

M. Singh, (2012), The Other Deleveraging, IMF Working Paper Nr. WP/12/178, Washington.

See for quantification: Claessens et al. (2012), p. 16; M. Singh, (2011), Velocity of Pledged Collateral: Analysis and Implications, IMF Working Paper No. 11/256 (Washington: International Monetary Fund) and M. Singh, (2012), The Other Deleveraging, IMF Working Paper Nr. WP/12/178, Washington.

There is much debate about the size of the OTC market. It is argued that a better estimate may be based on adding ‘in-the-money’ (or gross positive value) and ‘out-of-the-money’ (or gross negative value) derivative positions (to obtain total exposures), further reduced by the ‘netting’ of related positions. Once these are taken into account, the resulting exposures are currently about $3 trillion, down from $5 trillion. See in detail: BIS (Bank for International Settlements), 2012, Uncovered Counterparty Exposures in Global OTC Derivatives Markets, BIS Quarterly Review, June and M. Singh, (2010), Collateral, Netting and Systemic Risk in OTC Derivatives Markets, IMF Working Paper Nr. WP/10/99, Washington. The under-collateralization is estimated (by BIS) at 1.5 trillion USD or about half of the exposure. See for a recent overview of the OTC interest derivative market, by far the largest OTC market: J. Gyntelberg and C. Upper, (2013), The OTC derivatives Market in 2013, BIS Quarterly review December 2013 and the bi-annual BIS release on the matter: BIS, (2015), Statistical release OTC derivatives statistics at end-December 2014 Monetary and Economic Department, April 2015. Regular updates regarding OTC statistics can be found through bis.​org.

Recent regulatory efforts focus on moving OTC derivatives contracts to central counterparties (CCPs). A CCP will be collecting collateral and netting bilateral positions. While CCPs do not have explicit taxpayer backing, they may be supported in times of stress. For example, the U.S. Dodd-Frank Act allows the Federal Reserve to lend to key financial market infrastructures during times of crises. Incentives to move OTC contracts could come from increasing bank capital charges on OTC positions that are not moved to CCP. See in detail: BCBS (Basel Committee on Banking Supervision), 2012, Capital Requirements for Bank Exposures to Central Counterparties, Bank for International Settlements, July. See for the technical aspects: BIS, (2013), Capital Treatment of Bank Exposures to Central Counterparties, (July).

Claessens et al., (2012), Ibid. pp. 16–17.

D. Duffie, (2010), The Failure Mechanics of Dealer Banks, Journal of Economic Perspectives, Vol. 24, No. 1, pp. 51–72 and Squam Lake, (2010), Prime Brokers and Derivatives Dealers, in The Squam Lake Report: Fixing the Financial System, ed. by Kenneth R. French, Martin N. Baily, John Y. Campbell, John H. Cochrane, Douglas W. Diamond, Darrell Duffie, Anil K. Kashyap, Frederic S. Mishkin, Raghuram G. Rajan, David S. Scharfstein, Robert J. Shiller, Hyun Song Shin, Matthew J. Slaughter, Jeremy C. Stein, and René M. Stulz (Princeton and Oxford: Princeton University Press).

A. W.A. Boot, Arnoud, and L. Ratnovski, (2012), Banking and Trading, IMF Working Paper 12/238 (Washington: International Monetary Fund) and M. Singh, (2012), Puts in the Shadows, IMF Working Paper No. 12/229 (Washington: International Monetary Fund).

K. Summe, (2011), An Examination of Lehman Brothers’ Derivatives Portfolio Post- Bankruptcy: Would Dodd-Frank Would Have Made Any Difference? Hoover Institution, Stanford University; P. Bolton, and M. Oehmke, (2011), Credit Default Swaps and the Empty Creditor Problem, Review of Financial Studies, Vol. 24, Nr. 8, pp. 2617–2655; D. Duffie, and D. A. Skeel, (2012), A Dialogue on the Costs and Benefits of Automatic Stays for Derivatives and Repurchase Agreements, Institute for Law & Economic Research Paper Nr. 12-02, Philadelphia, University of Pennsylvania) and Rock Center for Corporate Governance at Stanford University Working Paper Nr. 108; R.R. Bliss, and G. Kaufman, (2005), Derivatives and Systemic Risk: Netting, Collateral and Closeout, Federal Reserve Bank of Chicago Working Paper Nr. 2005-03.

For more context see L. Brickler et al., (2011), Everything You Wanted to Know about the Tri-Party Repo Market, but Didn’t Know to Ask, Liberty Street Economics, April 11, via http://​libertystreeteco​nomics.​newyorkfed.​org/​; A. Martin, (2011), Stabilizing the Tri-Party Repo Market by Eliminating the Unwind, July 20, via http://​libertystreeteco​nomics.​newyorkfed.​org/​; A. Martin, (2011), Remaining Risks in the Tri-Party Repo Market, November 7, via http://​libertystreeteco​nomics.​newyorkfed.​org/​; A. Copeland and I. Selig, (2014), Don’t Be Late! The Importance of Timely Settlement of Tri-Party Repo Contracts, Liberty Street Economics, October 20, via http://​libertystreeteco​nomics.​newyorkfed.​org/​; A. Martin and S. McLaughlin, (2015), Financial Innovation: The Origins of the Tri-Party Repo Market, Part I & II, Liberty Street Economics, May 11–12, via http://​libertystreeteco​nomics.​newyorkfed.​org/​; J. Adenbaum et al., (2015), The Tri-Party Repo Market Like You Have Never Seen It Before, Liberty Street Economics, October 19, via http://​libertystreeteco​nomics.​newyorkfed.​org/​; A. Copeland et al., (2012), Key Mechanics of the U.S. Tri-Repo Market, FRBNY Economic Policy Review, Vol. 18, pp. 1–12; A. Copeland, et al., (2014), Repo Runs: Evidence from The Tri-Party Repo Market, Journal of Finance Vol. 69, pp. 2343–2380; A. Copeland, et al., (2012), Mapping and Sizing the U.S. Repo Market, Federal Reserve Bank of New York Liberty Street Economics Blog, via http://​libertystreeteco​nomics.​newyorkfed.​org/​. On the EU side: L. Mancini et al., (2015), The Euro Interbank Repo Market, Working Paper, May 19.

M. Singh, (2012), Puts in the Shadows, IMF Working Paper Nr. WP/12/229, Washington.

See further Claessens et al. (2012), Annex 2, p. 30.

See in detail: A. Copeland, A. Marin, and M. Walker, (2010), The Tri-Party Repo Market before the 2010 Reforms, FRBNY Staff Report Nr. 477, New York, Federal Reserve Bank of New York and D. Tarullo, (2012), Shadow Banking after the Financial Crisis, speech at the Federal Reserve Bank of San Francisco Conference on ‘Challenges in Global Finance: The Role of Asia,’ June 12, San Francisco.

Claessens et al. (2012), Ibid. Annex 2, p. 30.

See also: NY FED, (2015), Update on Tri-Party Repo Infrastructure Reform, Liberty Street Economics, June 24, via http://​libertystreeteco​nomics.​newyorkfed.​org/​. For many in the field the reform insofar implemented haven’t taken out the risk identified. See, for example, F. MCKenna, (2018), Reforms Haven’t Eliminated Risk of Another Lehman-Type Failure, September 14, via marketwatch.​com

Indications can be found at Claessens et al. Ibid. (2012), p. 18.

FSB (Financial Stability Board) 2012, Global Shadow Banking Monitoring Report 2012, 18 November, Basel, Bank for International Settlements.

For a visualization see Claessens et al. (2012), p. 20.

Claessens et al. (2012), Ibid. p. 19.

Claessens et al. (2012), Ibid. p. 19.

T. Adrian, and B. Ashcraft, (2012), Shadow Banking Regulation, FRBNY Staff Report Nr. 559, New York, Federal Reserve Bank of New York; E. Kane, (2012), The Inevitability of Shadowy Banking, presentation at the Federal Reserve Bank of Atlanta, March 19; I. Ötker-Robe, et al., (2011), The Too-Important-to-Fail Conundrum: Impossible to Ignore and Difficult to Resolve, Staff Discussion Note Nr. SDN/11/12, Washington; G. Gorton, and A. Metrick, (2010), Regulating the Shadow Banking System, Brookings Papers on Economic Activity, Fall, pp. 261–297; V. Acharya, et al., 2009, Manufacturing Tail Risk: A Perspective on the Financial Crisis of 2007–09, Foundations and Trends in Finance, Vol. 4, Nr. 4, pp. 247–325; C. Pazarbasioglu, et al., (2011), Contingent Capital: Economic Rationale and Design Features, Staff Discussion Note Nr. SDN/11/01, Washington; J. Zhou, et al., (2012), From Bail-out to Bail-in: Mandatory Debt Restructuring of Systemic Financial Institutions, IMF Staff Discussion Note Nr. SDN/12/03, Washington.

Claessens et al., (2012), Ibid. p. 23.

M. Ricks, (2012), Reforming the Short-Term Funding Markets, John M. Olin Center for Law, Economics and Business Discussion Paper Nr. 713, Cambridge, Massachusetts, Harvard University; G. Gorto, and A. Metrick, (2010), Regulating the Shadow Banking System, Brookings Papers on Economic Activity, Fall, pp. 261–297.

E. Fielding, et al., (2010), The National Transportation Safety Board: A Model for Systemic Risk Management.

M. Singh, (2012), Puts in the Shadows, IMF Working Paper Nr. WP/12/229, Washington.

A.W.A. Boot, (2011), Banking at the Cross Roads: How to Deal with Marketability and Complexity, presentation to the Federal Reserve Bank of Atlanta’s Conference on Navigating the New Financial Landscape, March 31; A.W.A. Boot, and L. Ratnovski, (2012), Banking and Trading, IMF Working Paper Nr. WP/12/238, Washington.

B. Tuckman, (2012), Federal Liquidity Options: Containing Runs on Deposit-Like Assets without Bailouts or Moral Hazard, Center for Financial Stability Policy Paper, January 24. Similarly, while Dodd-Frank enables an orderly liquidation of a dealer bank by the Federal Deposit Insurance Corporation, the precise processes have neither been fully articulated in theory nor tried in practice. At the same time, Dodd-Frank has tightened the rules of lender-of-last-resort support to non-banks.

P. McCabe, (2011), An A-/B-share Capital Buffer Proposal for Money Market Funds, Board of Governors of the Federal Reserve. Mimeo; E. Rosengren, (2012), Our Financial Structures–Are They Prepared for Financial Instability? Keynote remarks at the Conference on Post-Crisis Banking, Amsterdam, The Netherlands, June 29 (Federal Reserve Bank of Boston); SEC (Securities and Exchange Commission), (2012), Testimony on Perspectives on Money Market Mutual Fund Reforms by Chairman Mary L. Schapiro before the Committee on Banking, Housing, and Urban Affairs of the United States Senate, June 21; Squam Lake (Working Group on Financial Regulation), (2010), Reforming Money Market Funds, Working Paper, University of Chicago; R. Wermers, (2012), Runs on Money Market Mutual Funds, Working Paper, University of Maryland.

Claessens et al., (2012), Ibid. p. 24, refer to examples such as imposing capital requirements may open the door to (1) relaxing investment standards, (2) make MMFs quasi-banks, (3) necessitate the need for detailed bank-type regulations and (4) removing the par guarantees (i.e. MMFs becoming a version of mutual funds) may dramatically shrink the system as investors shift funds to bank deposits and elsewhere. That besides the fact that attempts to remove the par guarantees may be ineffective because some of the guarantees are implicit.

Claessens et al., (2012), Ibid. p. 25.

Claessens et al., (2012), Ibid. p. 25.

Claessens et al., (2012), Ibid. p. 26.

Claessens et al., (2012), Ibid. p. 27.

M. Brunnermeier, and L. H. Pedersen, (2009), Market Liquidity and Funding Liquidity, Review of Financial Studies, Vol. 22, Nr. 6, pp. 2201–2238.

D. Acemoglu, et al., (2012), Systemic Risk and Stability in Financial Networks, Working Paper, MIT Cambridge, Massachusetts.

P. Fegatelli, (2010), The Role of Collateral Requirements in the Crisis: One Tool for Two Objectives, Working Paper Nr. 44, Banque Central du Luxembourg, Luxembourg; L. Valderrama, (2010), Countercyclical Regulation under Collateralized Lending, IMF Working Paper Nr. WP/10/220, Washington; BCBS (Basel Committee on Banking Supervision), (2012), Capital Requirements for Bank Exposures to Central Counterparties, Bank for International Settlements, July.

Claessens et al., (2012), Ibid. p. 28.

See for a general but complete overview on the matter: R. Saleuddin, (2015), Regulating Securitized Products. A Post-Crisis Guide, Palgrave, Basingstoke, July; M. Choudhry, (2013), The Mechanics of Securitization: A Practical Guide to Structuring and Closing Asset-Backed Security Transactions, Wiley, Basingstoke.

See L. Goodman, (2015), The Rebirth of Securitization. Where is the Private-Label Mortgage Market?, Housing Finance Policy Center, Urban Institute, mimeo, pp. 1–3.

Regulation effective as of January 1, 2019.

There has been evidence of that both ways, but most point in the direction that there is no clear positive correlation between enhanced liquidity, due to the sell-off of assets, and credit supply. Most of the evidence points out that a long-term banking relationship is the best way to relax credit constraints rather than anything else. However, to the extent that ABS activity by banks lowers lending standards in normal times, banks with more ABS activity may reduce their lending more in crisis times as an ex post effect of a previously higher risk adoption. On the other hand, a relationship with a bank that is more involved in securitization activities relaxes credit constraints in normal periods. In contrast, while a relationship with a firm’s main bank that issues covered bonds reduces credit rationing during crisis periods, the issuance of asset-backed securities by a firm’s main bank aggravates these firm’s credit rationing in crisis periods; see S. Carbó-Valverde et al., (2012), Lending Relationships and Credit Rationing: the Impact of Securitization, Department of Accountancy, Finance and Insurance (AFI), KU Leuven Working Paper Nr. 1272.

G. Chiesa, (2015), Bankruptcy Remoteness and Incentive-compatible Securitization, Financial Markets, Institutions & Instruments, Vol. 24, Issue 2–3, pp. 241–265, May/August.

See L. Goodman, (2015), The Rebirth of Securitization. Where is the Private-Label Mortgage Market?, Housing Finance Policy Center, Urban Institute, mimeo, pp. 5–10.

See L. Goodman, (2015), Ibid. pp. 11–15.

A.G. Anderson, (2015), Ambiguity in Securitization Markets, Finance and Economics Discussion Series 2015-033. Washington, Board of Governors of the Federal Reserve System, May, pp. 2–6.

Observe that this is the case for sponsors and originators but also AIFM denominated funds that are looking to invest in securitized products (art. 17 of the AIFM Directive): see in detail AIMA (Alternative Investment Management Association), (2013), Article 17 of AIFMD—A Barrier to Investment in Securitisation Positions, September.

Hidden and/or asymmetric information in securitized products contributing to ‘hidden information frameworks’ can encompass asymmetric information: (1) between insiders and outside investors as to the value of non-securitized assets; (2) between classes of outside investors as to the value of securitized assets; or (3) between insiders and outsiders as to the value of securitized assets. Asset securitization is driven by the tendency of the market to match claims with investors who are best informed about asset values; see in detail: E.M. Iacobuci and R.A. Winter, (2001), Asset Securitization and Asymmetric Information, Journal of Legal Studies, Vol. 34, Nr. 1, pp. 161–206. They conclude ‘[w]here an informational asymmetry is different between two classes of assets owned by a corporation, as in the three theories, the market can achieve this efficient matching only by splitting the ownership of the two classes. Asset securitization is thus a response to the asymmetry across assets in the informational asymmetry across investors as to the asset returns.’ See also: D.O. Beltran and C.P. Thomas, (2010), Could Asymmetric Information Alone Have Caused the Collapse of Private-Label Securitization?, Board of Governors of the Federal Reserve System, International Finance Discussion Papers, Nr. 1010, October; U. Albertazzi, et al., (2015), Asymmetric Information in Securitization: An Empirical Assessment, Journal of Monetary Economics, Vol. 71, April, pp. 33–49.

See also: F. Cortes and A. Thokar, (2015), Does Securitization Increase Risk?: a Theory of Loan Securitization, Reputation, and Credit Screening, Working Paper, mimeo, December 5.

And based on the BCBS criteria for STS securitizations: BCBS, (2015), Criteria for Identifying Simple, Transparent and Comparable Securitisations, Basel, July.

M. Thiemann, (2015), Capital Markets Union. How to Achieve Risk Diversification Through Standardized Securitization, FEPS Policy Brief, April.

Y. Aksoy and H.S. Basso, (2015), Securitization and Asset prices, Banco de España, Documentos de Trabajo Nr. 1526. Spain is one of the largest securitizing countries in Europe especially relative to its economy but also in absolute terms.

M. Kuncl, (2015), Securitization under Asymmetric Information over the Business Cycle, Bank of Canada/Banque de Canada Working Paper Nr. 2015-9.

The EBA feels different about that and endorsed the existing risk retention rules included in article 405 of the CRR; EBA, (2015), EBA Report on Securitisation Risk Retention, Due Diligence and Disclosure, December 22, London.

For the US portion based on A.M. Faulkner, (2015), Regulators Adopt Final Risk Retention Rules for Asset-Backed Securities, Skadden’s 2015 Insights—Financial Regulation, January, via skadden.​com. For the official SEC documents: SEC, (2014), Credit Risk Retention, via sec.​gov. See for a broader comparison between the US and the EU in terms of securitization: T.C. Fuhriman, (2013), The Global Financial Crisis & Asset-Backed Securitization Regulatory Responses Thereto in the EU and the United States, Kyungpook National University Law Journal, Vol. 43, Issue 8 (August), pp. 29–36.

The risk retention part is in force since mid-2014 and absorbed by the STS regulation in 2017.

EBA, (2015), EBA Report on Securitisation Risk Retention, Due Diligence and Disclosure, December 22, London, pp. 15–25. Despite the many advantages of the ‘direct approach’, the EBA sticks with the ‘indirect’ approach. CRR Article 405 places the onus on the investor institutions (so-called ‘indirect’ approach) to ensure that the multiple components of the risk retention requirements are satisfied: type of retainer (originator, original lender or sponsor), forms of retention used (five possible forms), level of net economic interest retained and assessment of the consolidated situation of the retainer. Conversely, a ‘direct’ approach would put the obligations on the originator, original lender or sponsor to comply with the retention requirements. The ‘indirect’ approach adopted in the CRR ensures that investor institutions buy only securitizations subject to the retention requirement. This approach addresses the misalignment of incentives (in particular with the ‘originate-to-distribute’ business model used in the US) between the originator, sponsor and original lenders and investors and ensures that EU investor institutions conduct proper due diligence before investing in securitization positions. Imposing the requirement on the investor also has the benefit of making the rules enforceable, unlike imposing a requirement on the originator (so-called direct approach) which would raise legal issues when the originator/sponsor/original lender is located outside the EU/EEA or are non-regulated entities. On the other hand, the ‘indirect’ approach appears on some occasions to act as a disincentive to investors in Europe. Submissions to the EBA’s questionnaire on securitization risk retention, due diligence and transparency requirements from industry stakeholders suggested that the indirect regime (i.e. where the investor bears the onus of monitoring compliance) sometimes causes legal uncertainty for investors, because it is difficult for investors to ascertain whether the original lender, originator or sponsor is complying with the risk retention requirement on an ongoing basis. Furthermore, the indirect approach does not require EU originators to retain any economic interest in transactions sold to non-EU investors. Indeed, the burden is on the investors which means that if the securitization transaction does not have any EU/EEA investors, the originator, sponsor or original lender does not need to comply with the retention requirement. In contrast to an ‘indirect’ approach, a ‘direct’ approach puts a direct legal obligation on the originator, original lender or sponsor to retain a meaningful exposure to credit risk. Placing the obligation directly on the originator, original lender and sponsor instead of the investors reduces the legal uncertainty of non-compliance on investors and has the potential to improve investor certainty and to encourage new investors to invest in securitizations.

Latham & Watkins, (2014), EU Risk Retention Rules and CLOs—the Journey’s End?, Structured Finance and Securitization Commentary Nr. 1704, June 26.

See for a comparison of both approaches: EBA, (2015), EBA Report on Securitisation Risk Retention, Due Diligence and Disclosure, December 22, London, pp. 15–17.

Exemptions also exist for certain types of assets and transactions, the most significant of which is the US exemption for qualified residential mortgages (QRMs). A pool comprised entirely of QRMs has no retention requirement. The exclusion for QRMs means that risk retention will not be required for most RMBS transactions. In the EU proposal, an exemption from the 5% requirement in case the securitization is guaranteed by a financial institution whose risk weight is equal or below 50% under CRD IV. While in theory it sounds alright as the guarantee protects investors, in reality this is a problem because it creates counterparty risk in case the guarantor cannot deliver on its commitments; Finance Watch, (2015), STS Securitization Q&A, p.3.

It was only in October 2014 that the relevant regulators in the US adopted a final set of rules implementing the credit-risk retention requirements of the Dodd-Frank Act. Relevant documents were published in the Federal Register on December 24, 2014, and compliance with the rules with respect to asset-backed securities (ABS) collateralized by residential mortgages is required by December 24, 2015, and with respect to all other classes of ABS is required by December 24, 2016. See for an update brief: Morgan Lewis, (2018), Guide to the Credit Risk Retention Rules for Securitizations, February 20, via morganlewis.​com

It is however documented that 5% is too low to provide a meaningful disciplining effect to for banks. Once

losses reach 5%, the bank has no longer any incentive to care about investors. Some therefore recommend increasing it to 15% and removing the choice of options and require that the retention requirement can only be satisfied by retaining a vertical slice of each tranche, to ensure an alignment of interest all the way between the bank originator and the investor (and thus removing the optionality that exists); Finance Watch, (2015), Ibid. p. 3.

See also: Board of Governors of the Federal Reserve System, (2010), Report to the Congress on Risk Retention, October.

EBA, (2015), EBA Report on Securitisation Risk Retention, Due Diligence and Disclosure, December 22, London, pp. 17–19. The EBA commented on this matter ‘[t]he combination of horizontal and vertical risk retention may mitigate some of the costs related to the horizontal only (first-loss option) or vertical only risk retention options. It provides greater flexibility if the retainer can use any combination of horizontal and vertical slice as long as the 5% requirement is met. Furthermore the ‘L-shaped’ option as an alternative form of retention has the potential to lower funding costs, which could be beneficial for different types of transactions that do not fit neatly into the traditional model of securitization such as certain managed transactions. However, providing greater choice with an additional form of retention has its drawbacks: by giving originators, original lenders and sponsors the choice of how to retain risk, their chosen ‘L-shape’ form of retention may not be as effective in aligning interests and mitigating risks for investors. It may also complicate the implementation of risk retention as well as investors’ processes for due diligence and the ongoing measurement of compliance due to the wider choices that originators, original lenders and sponsors would enjoy. That is, providing this additional form of retention may create fewer benefits or more costs for investors than other alternatives might. The EBA has considered the ‘L-shape’ retention method as an additional suitable retention option. However, the features of this additional option would add to the complexity of measuring the net economic interest and the increase of flexibility provided by this option might reduce the overall effectiveness of the retention requirements in terms of alignment of interests (pp. 18–19)’. See also: ESMA & EBA, (2015), Joint Committee Report on Securitization, JC 2015 22, May 12.

Which varies depending on the type of securitized product. For residential mortgage-backed security (RMBS) transactions, the prohibitions on sale or pledging expires no later than seven years after the closing date or later of five years after the closing or the date on which the total unpaid principal balance of the residential mortgages has been reduced to 25% of the original balance. For other ABS transactions, the prohibitions on sale or pledging expire on or after the date that is the latest of (1) the date on which the total unpaid principal balance of the securitized assets has been reduced to 33% of their original balances, (2) the date on which the total unpaid principal obligations of the ABS interests have been reduced to 33% of the total ABS interest on the closing date and (3) two years after the closing date.

See for a very good, but by now somewhat outdated, overview of what has been going on in terms of developing new securitization frameworks: IOSCO, (2012), Global Developments in Securitization Regulation, Final Reports, FR09/12, November 16. A follow through and update however can be found in IOSCO, (2015), Peer Review of Implementation of Incentive Alignment Recommendations for Securitisation: Final Report, FR20/2015, September. The FSB also produces regular implementation report regarding a variety of issues including securitization regulation implementation, via fsb.​org.

IOSCO and the BCBS have been working hand in hand on the matter, see BCBS, (2015), Criteria for Identifying Simple, Transparent and Comparable Securitisations, Basel, July.

Falls apart in (1) nature of the assets, (2) asset performance history, (3) payment status, (4) consistency of underwriting, (5) asset selection and transfer and (6) initial and ongoing data.

Falls apart in (1) redemption cash flows, (2) currency and interest rate asset and liability mismatches, (3) payment priorities and observability, (4) voting and enforcement rights, (5) documentation disclosure and legal review and (7) alignment of interests.

Falls apart in (1) fiduciary and contractual responsibilities and (2) transparency to investors.

Ibid.

See EU chapter (Volume II) for a discussion.

J. Kolm, (2014), Securitization, Shadow Banking and Bank Regulation, University of Vienna, Working Paper, August, mimeo, pp. 1 & 25.

A. Almazan, et al., (2015), Securitization and Banks’ Capital Structure, Banco de España, Documentos de Trabajo Nr. 1506, March.

R. Meeks, et al., (2014), Shadow Banks and Macroeconomic Instability, Bank of England Working Paper Nr.487, p. ii.

See in detail: D.M. Frankel and Y. Jin, (2015), Securitization and Lending Competition, Review of Economic Studies, doi: https://​doi.​org/​10.​1093/​restud/​rdv013, March 30.

C. Farruggio and A. Uhde, (2015), Determinants of Loan Securitization in European Banking, Center for Tax and Accounting Research, Taxation, Accounting and Finance (TAF) Working Paper, Nr. 7, January, pp. 25–27.

Which occurs when financial institutions diversify asset holdings by exchanging shares in their projects. The difficulty with linear diversification is that losses and profits are shared among investors always. Therefore, if two banks share the ownership of two loan portfolios, the losses generated by one portfolio may trigger the insolvency of both banks. This may happen even if the other portfolio performs relatively well; M.R.C. van Oordt, (2012), Securitization and the Dark Side of Diversification, DNB Working Paper Nr. 341, March 21, Amsterdam, pp. 2–3. His conclusions can also be applied to ‘syndicated loan’ models and are not limited to securitization models only.

M.R.C. van Oordt, (2012), Securitization and the Dark Side of Diversification, DNB Working Paper Nr. 341, March 21, Amsterdam.

M.R.C. van Oordt, (2012), Ibid. p. 3.