New regulations aimed at reducing the European securitization market’s reliance on external credit ratings were enacted today, according to Emil Paulis, the European Commission’s director responsible for financial markets
Paulis made the announcement as part of his keynote address at IMN Global ABS conference on Thursday.
The regulation introduces a mandatory rotation rule forcing issuers of financial instruments that pay CRAs for their ratings to switch to a different agency every four years. The regulation limits mandatory rotation to ratings of structured finance products with underlying re-securitized assets.
Mandatory rotation does not apply to small CRAs or to issuers employing at least four CRAs each rating more than 10% of the total number of outstanding rated structured finance instruments.
The regulation also requires issuers to obtain double ratings on transactions. And it calls for public disclosure on the performance of the underlying assets of a rated securitization.
To mitigate the risk of conflicts of interest, the regulation requires CRAs to disclose publicly if a shareholder with 25% or more of the capital or voting rights holds 25% or more of the rated entity. The regulation also prohibits ownership of 25% or more of the capital or the voting rights in more than one CRA.
Paulis said the regulations will make CRAs more accountable for their actions. Investors or issuers can claim damages from a CRA if they suffered a loss due to an infringement committed by the agency, either intentionally or with gross negligence.
The new regulations, said Paulis, “address a number of the weaknesses [of the CRAs] that have been observed.”
The regulation provoked strong input by EU member states. Christopher Lake, general counsel on regulatory affairs at Standard & Poor’s, said on the CRA panel held later on Thursday at the IMN event that the rules include much of what is already done by the ratings agencies.
But a key provision of great interest is the rotation of ratings agencies, which Lake called “a controversial measure.”
Dominic Swan, head of a team at HSBC Bank, and another speaker on the panel, called the new regulations “complicated” and “irrelevant.” Specifically he said that while the regulation on disclosure is practical because “any measure reinforcing disclosure of information is good,” he said the double-rating requirement is less effective.
Swan said that forcing issuers to employ more than one CRA and to rotate them every four years invites confusion, since investors may not be aware of the criteria of the new ratings agency. The new agency's criteria might even fall out of the investor’s investment criteria. “Will it make me a forced seller as a result?” said Swan.