AS the US and European financial sectors continue to collectively dust themselves off after the financial crash of 2008, it is clear that securitisation is vital for market stability and for economic growth – allowing for more efficient use of capital, higher liquidity and more stable risk management.
According to the Bank for International Settlements, in 2006 the volume of asset-backed securities (ABS) issued in the US and the EU was around $4 trillion. This was comparable to the value of gross corporate bond issuance. Treated as a black sheep by politicians, the ABS sector for securitised products shrank to $1 trillion by 2009.
The sector is now returning to growth, but in the middle of the current bun-fight for regulatory control, it is essential that a regulatory sledge-hammer is not used to crack the financial walnut.
EU AND US DIFFERENCES
In Europe, securitisation is particularly important as a means to restore healthy growth to economies. By way of comparison, within the EU, banks provide around two thirds of non-equity external finance – with the remainder provided by capital markets. In the US, this ratio is reversed. As banks are pushed to deleverage and rebalance their balance sheets, and as a result are left with less money to lend, securitisation is necessary to provide the required funding. According to Rick Watson of the European Securitisation Forum, “in Europe this is a particularly important issue because in the past a larger proportion of funding was provided by banks than capital markets. Some EU banks relied upon a high leverage, low risk, low margin business and funding strategy. Securitisation really is the only way to to solve the policy friction between politicians encouraging banks to lend more without increasing leverage.”
BASEL III REQUIREMENTS
The challenge for regulators, as they deal with bank deleveraging, changes to financial institutions and new capital requirements, is that they must not interfere with the smooth running of the pan-European securitisation markets.
At the same time, there are fears that the securitisation sector could get trampled in the regulatory stampede. Specifically, as the tougher regulatory capital requirements for banks kick in, there is the risk that the requirements could raise the costs of securitisation.
Last year, the Bank for International Settlements announced stricter regulatory requirements for banks in form of Basel III. This came as part of several revisions to the regulatory capital framework – collectively known as Basel II – that the Basel Committee on Bankink Supervision had previously proposed to address the issues that were seen to influence the credit crisis (see summary, right).
According to a report from the rating arm of Standard and Poor’s: “We believe the adoption of the Basel III capital requirement platform is likely to raise the cost of securitisation and could influence the strategies of banks that originate or invest in structured finance transactions.”
In the debate on the correct approach to regulatory reform, European Commissioner Michel Barnier has become increasingly hostile. Last week he responded to criticism by saying “some were accusing us of damaging the economic recovery by implementing rules which would be too tough for banks because they would impede their lending to the real economy.” He continued, “others seem to accuse us of the opposite with suggestions Europe would not be implementing Basel properly, thus not learning all the lessons from the crisis.” With a hint of the flexibility and ability to respond to market demands for which the EC is famed, he concluded “they will not affect my determination. I will not be swayed by various pressures.”
As things stand, banks are being pulled in both directions – responding to capital reserve requirements as well as being pushed to lend more. As such, the regulators need to listen to the needs of the securitisation sector rather than simply pushing through heavy handed regulation in the name of being seen to do the right thing.