Securitisation to the rescue: Column

Jan 17, 2011 09:00 AM IST
Asset-backed securities are slowly but surely clawing their way back to respectability, having been cast aside as a pariah for having, if not caused, then certainly exacerbated the global financial crisis in the eyes of the general populace.

In the aftermath of the meltdown of 2008, it became popular wisdom to blame securitisation as an immoral Wall Street invention that pushed the world to the brink. That was always ridiculous. Securitisation technology certainly facilitated the process of toxic risk distribution but blaming it for causing the crisis is a bit like blaming the road when your car breaks down.

The asset class is slowly being rehabilitated. It’s about time. Securitisation is among the financial world’s most inspired innovations and needs to be a central component of the capital markets toolkit. Not just that: it’s hard to envisage a revival of the US housing market without securitisation playing a central role that brings in the capital firepower of institutional investors which in turn enables banks to continue lending to the sector.

The process of rehabilitation doesn’t necessarily imply that issuance volumes will increase dramatically this year, but the growing number of investors willing to buy or look at buying in size suggests new-issue volumes are on an upward track. Volumes in the US reached around USD 140 billion in 2010 and are expected to grow modestly in 2011; European issuance hit in the region of 80 billion euros and some analysts are looking at a 20% pick-up. Issuance has steered towards plain-vanilla RMBS, and won’t divert towards exotic assets or untested jurisdictions any time soon. And some segments of the market, such as CMBS, continue to work through distress and 2011 won’t see much respite.

On the plus side, the swathe of regulatory and accounting rule changes either already enacted or in process will tighten up standards right along the securitisation value chain. They look eminently sensible, running the gamut of better and more transparent underwriting standards at originators to new-issue retention at securitisers, to better disclosure and more robust capital adequacy.

The combination of the Dodd-Frank Act; changes to the SEC’s Regulation AB (governing registration, disclosure and reporting requirements for publicly issued ABS); amendments to the FDIC’s securitisation rule safe harbor amendments (a.k.a. the skin-in-the-game provision); FASB accounting rule revisions (governing inter alia the sale of financial assets); changes to bank capital requirements; the NAIC’s interim reporting instructions for 2010 (which impose a clear methodology for allocating NAIC designations that impose a sliding scale of risk-based capital requirements for US insurance company holders of ABS) should offer sufficient comfort to all market participants.

They should certainly ensure that when securitisation takes its rightful place, it will be on a much sounder footing. And of course, better transparency and disclosure will make it easier for ratings agencies to provide a rating. Then again, perhaps transparency will obviate the need for a rating (assuming investors can be bothered to make the effort to do their own analysis).

There is a real-world element to a revived securitisation market. There has been a lot of comment (including in this column) about the bank capital shortfall – USD 563 billion for the world’s biggest banks. Assuming that retained earnings account for half of the shortfall, banks have a range of options to deal with the rest. They can raise capital through equity offerings or hybrid securities, they can exit capital-intensive business lines to reduce the regulatory capital charge, they can engage in portfolio sales, or they can securitise in order to get assets off the balance sheet.

Governments are doing their utmost to brow-beat banks (including threatening them on bonuses) to up their lending to consumers and businesses. A renaissance in securitisation looks to be the quickest and most efficient way to get banks lending again to create the economic growth that G7 governments are so desperate for. In short, securitisation could finish what quantitative easing started.