EBA issues advice on securitisation

One of the most important lessons of the 2007-2009 crisis is that defaults and losses associated with securitisation positions have varied substantially across different types of securitisations and regions. The crisis has also shown that the poor performance of certain products was associated with recurring factors, including: i) misalignment of interest between originators and investors resulting in loose underwriting standards on the underlying exposures; ii) excessive leverage; iii) maturity transformation; and iv) complex structures. 

The post-crisis regulatory approach to securitisation incorporates a distinction between qualifying securitisations and other securitisations. 'Qualifying' securitisation is defined following a two-stage approach whereby in order to qualify for differential treatment, a securitisation transaction should first meet a list of criteria ensuring simplicity, standardisation and transparency and, as a second step, the underlying exposures should meet criteria of minimum credit quality of the underlying exposures. 

The rationale of the proposed criteria on simplicity, standardisation and transparency is to ensure that all the risks arising in the securitisation are properly mitigated. For this reason the capital treatment proposed for ‘qualifying’ transactions should aim at more appropriate levels of non-neutrality of capital charge.

Since the financial crisis, many regulatory reforms and initiatives, both at international and EU level, have been introduced or are still being proposed to address the shortcomings of the securitisation market. Reforms in each jurisdiction should be revisited depending on the progress and decisions taken by the Basel and IOSCO Committees on the definition of a global Simple, Standard and Comparable (STC) securitisations framework, and on the re-calibration of the BCBS 2014 securitisation framework to provide regulatory recognition to STC securitisations. In January 2014 the EBA recommended that a systematic review of the entire regulatory framework applicable to securitisations be carried out, across the different regulations and regulatory authorities, on a stand-alone basis and in comparison to the regulatory framework applicable to other investment instruments (i.e. covered bonds, whole loan portfolios). 

Following the public hearing held on June 26, the EBA published the full text of its advice to the European Commission on a framework for qualifying securitisation.  The report proposes a more risk-sensitive approach to capital regulation for long-term securitisation instruments, as well as for asset-backed-commercial paper. 

http://www.eba.europa.eu/-/eba-issues-advice-on-securitisation

FCA and PRA set out approach to Non-Executive Directors and the Senior Managers Regime

The PRA and the FCA published today the consultation paper on the new Senior Managers Regime (SMR) applicable to Non-Executive Directors (NEDs). As announced, the NED roles that will be in scope of the SMR are:

• Chairman;
• Senior Independent Director;
• and the Chairs of the Risk, Audit, Remuneration and Nominations Committees.

The individuals carrying out those functions will be subject to all aspects of the SMR, 'including regulatory pre-approval, the FCA’s and PRA’s new conduct rules and the presumption of responsibility'. The key concept of this approach to regulation of Senior Managers is accountability. It is expected that the new rules will incentivise the 'behaviour modification' of senior executives and staff when conducting the business for which they are responsible. 

The Consultation Paper is available here

The Press Release here

2015: the Regulatory Momentum for OTC Derivatives Market Reforms

2015 is expected to be a pivotal year for the OTC derivatives market regulation reaching the complete implementation of Basel III, Dodd-Frank Act and EMIR, the latter along with the subsequent reforms of the MiFID. 

The OTC derivatives trading through CCPs and the clearing obligation will be completely launched over the summer, thus buy-side firms are in the run of preparing themselves to meet the regulatory requirements. Although there have been tensions surrounding the systemic importance of CCPs and the correlative concentration of risk, the use of these market infrastructures has being gaining acceptance. Among the arguable advantages of the CCPs structure there are the capital efficiency, the better risk management, increase transparency  and the reduction of operating costs. 

Regulators are very keen to extend 'clearing' across all products, either through the mandatory obligation or by means of incentivising market participants (for uncleared derivatives).

There are still numerous aspects to be reviewed, among others we could anticipate: the further assessment of risk models, margin requirements on uncleared derivatives contracts and cross-border issues. 

One illustrative example of cross-border difficulties is the issue that concerns non-EU CCPs wishing to provide services in Europe. Under EMIR non-EU CCPs are required to be recognised in the EU, otherwise additional capital charges would be imposed to them. In this regard, the provisional decision of European regulators is to postpone the imposition of higher capital charges on unrecognised CCPs by six months to June 2015.

The reason for this sort of cross-border issues is that the European Commission has to officially recognise as equivalent the CCPs overseen by non-EU authorities, and such decision is yet to be made. The 'equivalence decision' means that the Commission is satisfied that: (Art.13 EMIR)

a) the rules on clearing, reporting, the clearing thresholds and risk mitigation in that third country are equivalent to those in EMIR

b) the third country has equivalent provisions on professional secrecy; and

c) the rules are effectively applied and enforced so as to ensure effective supervision and enforcement.

In terms of transparency the implementation of MiFID II brings new rules on pre and post-trade transparency, besides the European approach to swap execution. The final consultation on MiFID II was published in December 2014 (available in the previous post in this blog)

EU releases MIFID II consultation and technical advice

The European Securities and Markets Authority (ESMA) published today the final advice for more than 175 rules contained in the Markets and Financial Instruments Directive (MiFID II). The Directive introduces tougher rules in transparency for Commodities, OTC Derivatives, High-frequency trading. MiFID II also strengthens investor protection and eases systemic risk and competition.

Full market implementation due on January 3 2017.

ESMA Press Release

ISDA Launches Principles on CCP Recovery

The International Swaps and Derivatives Association (ISDA) launches the Principles on CCP Recovery. The paper published today identifies the key issues that need to be addressed, and makes several recommendations on how to proceed. These issues can be broken down into two basic themes:

• The adequacy and structure of a CCP’s loss-absorbing resources; and

• Crisis management planning in the form of a clearly defined and transparent recovery and resolution framework (R&R) for CCPs when losses threaten to exceed their loss-absorbing resources.

The Principles comprehend transparent risk management standards, practices and  methodologies; Mandatory, standardised and transparent stress testing; Significant CCP SITG; Clearly defined CCP recovery plans; and Clearing service termination or resolution.

The paper is available here

OTC Derivatives Regulators Group (ODRG) issued a report to the G20 leaders

The Over-the-counter (OTC) Derivatives Regulators Group (ODRG) issued a report that provides an update to the G20 leaders regarding the ODRG's continuing effort to identify and resolve cross-boarder issues associated with the implementation of the G20 OTC derivatives reform agenda.

The report reflects the progress on cross-boarder issues identified by the ODRG. It also acknowledges the progress in implementing regulatory reforms since the St. Petersburg Summit (September 2013). This report consolidates for the G20 leaders the substance of previous reports made during 2014 to the G20 Finance Ministers and the Central Bank of Governors.

The Report

Are the CCPs’ powers too wide-ranging?

A comprehensive and clear definition of Central Counterparties is proposed by the European Commission stating that ‘a CCP is an entity that interposes itself between counterparties to contracts traded in one or more financial markets, becoming the buyer to every seller and the seller to every buyer. Due to its central role in the market, a CCP normally bears no market risk (the latter is still borne by the original parties to the trade)’ 

The concerns evidenced during recent financial crises have boosted the need for an extensive and well-founded regulatory framework for the CCPs. Nevertheless, the risk to create new too big to fail institutions must be seriously considered by regulators. Thus, regulation and supervision of Central Counterparties must preserve the nature of these entities as Financial Market Infrastructures that enable better management of risk instead of creating risks themselves. The warning comes from the increase of the scale and importance of CCPs for the functioning of the financial system, inspired by the G20 commitments on reforming OTC derivatives.

Following this rationale the Bank for International Settlements and the International Organisation of Securities Commissions (IOSCO), an umbrella group of regulators, have called for the drafting of a recovery plan. In a report published last month the regulators said CCPs should be given the tools to “continue to provide critical services as expected, even in times of extreme stress”.

Regulators included the option for CCPs to tear up derivatives contracts or apply a “haircut” to margins. The report also said clearing houses should be able to allocate any uncovered losses to their members and to replenish any funds they had used after a “stress event”.

Related articles:

FT Article 4th Nov 2014

FT Article 15th Oct 2014