Mexican regulators are upping the provision requirements for bank lending to states and municipalities, a move bound to stimulate demand for the services of rating agencies, structuring agents and law firms, according to sources.
"We're going to see more structures that look like deals done in the capital market; with the same covenants and legal protections," said Luis Videgaray, managing director of boutique shop Protego Asesores.
So far, 14 sub-sovereign entities have issued paper in the market for a total of Ps11.7 billion ($1 billion) according a Standard & Poor's report published last week. All those transactions are asset backed, with federal co-participation flows sourced from the central government accounting for the bulk of the collateral. Payroll taxes, toll-road fees and water fees have also backed deals.
Yet, despite recent growth, ABS issuance is still dwarfed by bank loans, which represented 90.3% of the total Ps121 billion in sub-sovereign debt as of June, according to S&P.
Due to take effect in December, the new rules for loans to states and municipalities in a sense clarify what sub-sovereigns need to do to bring down the cost of financing. Loans exceeding Ps300,000 will have to be provisioned according to the credit quality of the debtor assigned by at least one rating agency. Loans up to Ps300,000 will follow a different table, with the level of provisions determined by the degree of structuring, credit rating and other data. In both cases, credit enhancement can bring down the level of required provisions, and can thereby potentially cut the cost of funding for the borrower.
A recent batch of loans extended to the State of Sonora illustrates how critical a strong structure will be to cutting funding costs. The six loans amounted to Ps4 billion and have a tenor of 15 years. Rated mxAA' by S&P thanks to an asset-backed structure, the lending banks - BBVA Bancomer, Banco del Bajio, Banorte, and Scotiabank Inverlat - would have to collectively provision 0.5% or Ps20 million under the new rules. An unsecured loan would have achieved the same rating as Sonora, mxA', which would require 2.5% or Ps100 million of total provisions.
The regulatory change is expected to spur more rigorously structured asset-backed loans, generating demand for players with experience in ABS. With the new requirements for ratings, it's obvious that S&P, along with Fitch Ratings and Moody's Investors Service, are likely to face increased demand in this sector. Still, the appetite for ratings from states and municipalities has been far from meager. After the U.S., Mexico has the second highest number of sub-sovereign ratings, according to Protego's Videgaray.
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