By early next year, more European conduit programs will be eligible to receive Moody's Investors Service post review status, said panelists at the rating agency's second annual ABCP program in London last week.
Post review eligibility would allow conduit programs the benefit of purchasing assets without first obtaining a ratings confirmation, and would essentially allow for a faster and more efficient transaction execution period. Moody's conducts its review of the assets and documents after closing.
Moody's requires conduit programs to meet diversification requirements among obligors, sellers, asset types, industries and regions. It also reviews the programs' credit and investment guidelines, paying particular attention to the asset types included under the program, the originator's exposure limits and the obligor concentration limits. The rating agency stressed that the programs included structural protections in the event of deterioration in the performance of the assets. "It's important to remember that post review does not mean no review," said one panelist.
To date, only one European program has achieved post review status - the Eureka ABCP program. The 15 remaining programs are the more mature U.S. conduit programs that qualify for post review status not only because of their longevity, but also because the typically large size of these programs maintains the diversification levels required by Moody's. "European programs just haven't been around long enough to be considered," said one panelist. "We usually require these programs to have been around a minimum of five years."
A maturing European conduit market indicates that administrators have the experience that Moody's requires. Nonetheless, European conduits could face a number of disadvantages under the existing post review criteria. "There are many different asset types in the European market, which makes it difficult to introduce a one size fits all' post review structure for many of the European programs," said one panelist. "European conduits are not as well suited to the traditional post review criteria as their U.S. counterparts."
Panelists noted that European programs tend to include fewer asset pools and less diversity than U.S.-based programs. European conduits also tend to have a lower program-wide enhancement floor when compared with U.S. programs. This means that a single-seller addition to an existing program is more likely to have an effect on the overall credit quality, and the panel called for a more specific post review criteria that addresses the lower program-wide enhancements of European conduits.
Trade receivable criteria
While the number of trade receivables transactions in general is on the rise, small- and medium-sized trade receivables transactions could pick up great momentum in particular given the streamlined execution time provided under post review, said one panelist.
Under the post review criteria for trade receivable transactions, Moody's requires that the administrator propose pool-specific enhancement calculations incorporating a dynamic formula that responds to changes in asset performance, floor amount and cover for large obligors. "Post review criteria will specify the permitted exposure to obligors according to their ratings and the available enhancement," explained one panelist.
For smaller trade receivable transactions, Moody's requires a credit and investment policy designed to exclude transactions with high risks - including deals with inadequate historical data, deals that have exhibited a large spike in loss rates (reflecting increased volatility) and those that have recorded a significant upward trend in sales. Transactions that are not eligible for post review treatment would be rated on a prior review basis in order to properly calculate the risks.
"It's a high hurdle to overcome for some of these originators," said one panelist. "In response, we have collaborated with seasoned European originators to develop a more streamlined process for conduits that are working to achieve post review status in the future." The process is called "execution light" and provides a more efficient execution of the rating process for certain administrators by considering work done on previous, similar transactions.
It requires that an originator have a prior review process, which means that the more established asset classes like trade receivables and consumer loans would be likely candidates. The administrators best poised to undergo execution light are those with a superior, documented track record in underwriting and structuring similar deals with significant ABCP exposure to the market.
A submission to the execution light process would be regarded as the first step toward achieving post review status down the road. "We haven't implemented the process as of today, but it's fair to say that we should see more administrators participating by next year," said one panelist.