European securitization players gathering this week at the IMN Global ABS conference in Barcelona, Spain are sure to be looking at how to keep the recent momentum in issuance going.
There are some hurdles that must be jumped before the market returns in earnest. A report published by Moody’s Investors Service on Monday highlighted what investors see as two of the biggest: a lack of liquidity and punitive regulatory costs that continue to make securitization an expensive investment alternative.
Issuance is gradually picking up; so far this year, Europe has seen nearly 40 billion of asset-backed bonds placed with investors, compared with just over 34 billion issued at the same time last year, according to Deutsche Bank.
Even more notable is the fact that investors appear to have an appetite for deals outside of the core markets. In May, there were two post-financial crisis “firsts,” the first Irish residential mortgage securitization by a non-bank to earn a triple-A rating, dubbed Dilosk I, was issued; and the first Spanish RMBS (by any kind of sponsor), Prado I, was issued.
But regulatory capital requirements make holding securitizations expensive relative to other instruments such as covered bonds. According to Moody’s, investors are looking for a better alignment of reserve requirements for products with similar risk profiles.
Investors also believe that the market would benefit from harmonization of regulations. For example, risk retention rules are already in force in Europe, won’t take effect for U.S. RMBS until late 2015 and a year after that for other asset classes. The discrepancy in both the U.S. and European risk retention regimes implementation timelines calls into question whether European insurers can invest in U.S. deals without facing exorbitant capital charges; it also makes building an international investor base more challenging
The growing acceptance of Europe’s high quality securitization (QS) label is a bright spot for investors that could eventually lessen the regulatory burden for holding some asset classes. Still, investors are concerned that the criteria is too limited and is not available to some assets. For example, commercial mortgage bonds are not eligible because the deals can be refinanced. Auto leasing transactions could also not benefit from the favorable regulatory treatment because assets with residual value don’t fit the high quality criteria. Collateralized loan obligations may also be ineligible for the QS label because they are actively managed and because of insufficient disclosure about their portfolios.
Better alignment of either capital requirements or risk retention rules could create a virtuous circle by attracting more investors, which would improve liquidity.
“If the number of investors increases following a change in the capital treatment of structured finance instruments, funds and other non-bank investors will follow. However, investors believed that bond funds in particular would want relatively more liquidity,” before investing, Moody’s stated in the report.