When the European Central Bank (ECB) upped its threshold for repo-eligible ABS to triple-A beginning in March, this funding alternative shut down for emerging market securitizations, which could hit that rating only with a level of enhancement that is unavailable in today's environment.
Given that erstwhile ABS investors still refuse to open their wallets, ECB funding through the repo window remains one of the only viable avenues for banking originators to raise capital.
Russian banks hadn't been avidly using the ECB window to begin with - though it is rumored that an 'A3'-rated Russian CLO from VTB Capital was repo'd before the criteria change (see structuredfinancenews.com). VTB declined to comment.
But now that Russian issuers are effectively banned, it naturally follows that the repo activities of the country's central bank have become more crucial for rekindling activity. And indeed, the Bank of Russia has been pressing forward on the RMBS front.
What's more, Russian government entity the Agency for Housing Mortgage Lending (AHML) announced late last year that it would offer a guarantee for RMBS that would make these bonds eligible for the Lombard List, an inventory of securities used for repo funding by the Bank of Russia.
The moment, it would seem, is ripe for some return of activity.
But players are divided over the ultimate impact of these moves, and whether those in development will be firmed up in a timely fashion.
Some are more hopeful that planned changes to the current mortgage securitization law will stimulate covered bond issuance, making a boost in RMBS less critical for bank funding.
Just as the ECB has tweaked the admittance criteria for its repo window, so has the Bank of Russia. But in the latter case, the moves over the last several months have aimed to broaden the playing field. Last November, the Bank of Russia opened the door to RMBS, provided that it carry a rating of at least double-B on the global scale of a major rating agency. This was higher than the single-B-minus floor for vanilla bonds - which had initially been set at double-B-plus.
"The Bank increased the potential volume of the Lombard List to between two and three billion rubles," said Oleg Ivanov, vice president of the Association of Regional Banks.
But this includes the entire universe of eligible securities, with RMBS representing a sliver of potential, and one that shrinks even further when considering the other hurdles for entering the Lombard.
Russian RMBS issued from a foreign SPV - which account for the bulk of outstanding deals - are not eligible under the current criteria, Ivanov said. This alone slashes the number of deals that could make in onto the Lombard. Presently, RMBS meeting all Lombard criteria are limited to three outstanding transactions from the AHML, according to sources.
What's more, there are also limits on the amount of notes a bank can purchase from an SPV as well as reserve requirements, according to sources.
Originators could try to get around these obstacles in future deals, and there are expectations that in line with the proposed AHML guarantee, the Bank of Russia might loosen the criteria.
"There are a number of RMBS transactions that are due to close in Q2," said Victor Kisselev, deputy head of debt and trade finance at VTB24, part of the VTB Group. "And also a couple of older deals are under discussion with the [Bank of Russia] for inclusion into the Lombard List. Hence, we will see in the second quarter the first repo deals with RMBS notes."
Some argue that the Bank of Russia might not be that keen on activating RMBS, despite relaxing Lombard requirements several months ago. "Most officials at the Central Bank don't know about this type of security. It's a big problem for them," said Ivanov, who wears an additional hat as a legal expert for the Committee on Financial Markets of the State Duma, the legislature's lower house. He added that the subprime meltdown in the U.S. is far too often leading Russian government officials to tar all RMBS with the same toxic brush.
Officials at the Bank of Russia did not return e-mails or a fax requesting comment.
There has been some talk that a Lombard-approved guarantee that the AHML announced last year could revive issuance. The agency, akin to Fannie Mae, would provide the guarantee for a fee. As it is currently laid out, the criteria for obtaining the guarantee include an investment-grade rating, a certain DTI ratio and structural requirements like a reserve fund, according to Kisselev.
AHML officials did not return an e-mail requesting comment.
What is curious about this is that if, in theory, a double-B transaction can be admitted to the Lombard List, why would the AHML require an even higher threshold for its guarantee?
The answer could be that the AHML guarantee will automatically confer Lombard status, while even RMBS that fit the Central Bank's criteria could still be turned down.
"There's no guarantee that [an eligible] RMBS will be included on the list," said Dmitry Sobolev, a senior associate at Avakian, Tuktarov & Partners. "It's subject to the absolute discretion of the Central Bank."
He added that it's possible that once the AHML guarantee is put into practice, the Central Bank might alter its rating requirements for Lombard admission in order for the wrap to make more sense to originators.
Even so, the investment-grade requirement for the AHML guarantee - which some view as more of a recommendation - implies that the bump-up for a deal would be, at best, two notches. The agency's local currency rating stands a couple of notches into investment-grade territory, at 'Baa1' and 'BBB+' by Moody's Investors Service and Standard & Poor's, respectively.
The AHML is tied closely to the creditworthiness of the sovereign, whose foreign currency ratings risk slipping from investment grade over the next two years, as detailed in a recent Barclays Capital report.
Given the caveats, it is hard to imagine that this guarantee would hold much advantage for the larger, higher-rated banks in Russia. Sources said a wrap from the AHML is likely to appeal most to the second- and third-tier regional banks in the agency's sprawling network.
Sobolev said Avakian, Tuktarov and other law firms were already working on deals with an eye to secure the guarantee.
But there is still optimism that the agency will help revive issuance. Serge Ozerov, chief financial officer for DeltaCredit, said that with a potential boost from the AHML wrap, several banks are planning to issue RMBS via the repo window in 2009.
AHML: Funding Issues
By opening up a new front in the battle to keep the mortgage market moving, AHML has drawn questions about its own capacity to branch out from its primary activity of purchasing mortgages and providing other means of aiding the mortgage business of regional banks.
"The agency received a RUR60 billion ($1.8 billion) injection from the government in December, but this amount only supports its activities in the first half of this year," said Felix Ejgel, associate director at S&P. "Since it's difficult to raise cash in the market now, they will need more capital injections or they will have to scale down activities."
Ejgel added that only once the full-year budget is determined can the agency set aside the reserves that would be needed for the guarantee.
In early March, Regional Development Minister Viktor Basargin said the government may inject an additional RUR40 billion into the agency, according to Bloomberg News.
Guaranteeing local RMBS doesn't have to be confined to the AHML. During better times in Mexico, for instance, the Sociedad Hipotecaria Federal found ways to provide guarantees on RMBS and simultaneously encourage third parties such as multilaterals to do the same. It is understood that the International Finance Corp. is looking for ways to provide guarantees on domestic mortgage deals so they can join the Lombard List.
Some players are skeptical, however, that Russian policymakers would welcome such an instrument in their own backyard, as they've been grappling with the current crisis with less input or help from outside agencies than most other emerging markets.
Are Covered Bonds the Answer?
With RMBS a tougher sell to Russian authorities, some say the covered bond option might prove more palatable. Currently, Russian legislation doesn't specifically allow for these instruments. There is a mortgage-secured instrument described in the law that in some ways resembles a covered bond, but it doesn't allow for some essential ingredients, said Ivanov.
"When a bank goes bankrupt, the law prescribes a sequence of payments," said Irina Penkina, associate director at S&P. "It doesn't allow for collateral to be fully separated from the banking estate."
Apparently, the Moscow Mortgage Agency issued a covered bond in August 2007, but it was a one-off deal and doesn't seem to be relevant to the emergence of a true covered bond market. The issuer was understood to have used the bond to obtain refinancing from related companies, and, as the legislation is lacking, the instrument itself may lack the full legal protection of a covered bond as it is understood in jurisdictions such as Germany and Spain.
There is a push to amend existing mortgage legislation to identify and codify covered bonds along the lines of the German Pfandbrief, with mortgages of the covered pool separated from other assets in the event of insolvency and covered bondholders enjoying priority of payments.
"We have prepared a special amendment, with a description of mortgage covered bonds issued directly by the bank," Ivanov said. The "we" refers to an inclusive working group comprising Russia's largest mortgage banks, advisers from the Association of German Mortgage Banks, law firms, Fitch Ratings and Moody's. Ivanov said that Moody's has provided the group with full ratings documentation in order to ensure that a properly structured covered bond would garner a rating above the issuing bank's. He hopes the team will introduce the draft legislation into the State Duma in April.
Originators are certainly looking forward to this legislation. "If this happens in the [second quarter], then VTB would do a covered issue in 2009," said VTB24's Kisselev.
Tougher for Other Assets
While Russian policymakers may be loath to encourage RMBS issuance, other assets have it even harder. The mortgage law - however imperfect - has been in effect for several years, but there is no legislation covering a broader universe of securitizable assets. "The whole point is that the mortgage market is one of the state's priorities," said Sobolev.
Other assets haven't been as lucky, although players have found ways to get around the lack of specific legislation, having securitized a range of assets before the market shut down in late 2007.
Ivanov pointed out that while outstanding mortgages in Russia account for roughly RUR1 trillion, about 5% of banking assets nationwide, consumer and auto loans combined total about RUR3 trillion. He said that a draft law covering securitization in general was finalized last year, but the government has downgraded its priority in the midst of the financial crisis. Ivanov doesn't expect it to be presented to the legislature anytime soon.
The fear that securitization arouses in some Russian policymakers is misplaced, he added. When the crisis erupted, the market didn't have the sophisticated, multilayered instruments that arguably precipitated problems in the West.
"With the West it was too much securitization," Ivanov said. "Our problem is not enough securitization."
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