As the structured finance market struggles to make sense of myriad new rules stemming from the Dodd-Frank Act, it's become clear that rating agency reform initiatives from the regulators have largely been put on hold.

Substantial revisions to Reg AB, referred to as Reg AB II, were proposed last April, including one provision that would remove the investment-grade ratings requirement to issue ABS from a shelf and impose other requirements, including issuers retaining a portion of the credit risk.

Reg AB II proposes that issuers retain a "vertical" 5% slice through all the various layers of an ABS shelf offering. The proposal issued by six banking regulators last week would require issuers to retain 5% of all ABS offerings, exempting securities backed by loans where borrowers made down payments of 20% or more.

The Securities and Exchange Commission (SEC)has made it clear that until the risk retention proposal and the many other Dodd-Frank rules the regulator is charged with approving are put to bed, Reg AB II has been placed on the back burner. Dodd-Frank requires regulations stemming from the legislation to be approved by July. Given that the risk-retention rule was just proposed and comments aren't due until June 10, it is expected that the final rule - as well as numerous others spawned by Dodd-Frank - won't be issued until well after the deadline.

Meanwhile, SEC Chairman Mary Schapiro said on March 2 that a proposal made in July 2008 to remove any references to credit ratings from Rule 3a-7 will be considered in a later proposal. That rule exempts offerings of ABS from registration under the Investment Company Act, and it requires securities offered to the general public to be rated investment-grade.

And perhaps the rating agencies' greatest fear, the repeal of Rule 436(g), requiring ratings to be included in the prospectus, has been put on indefinite hold. Dodd-Frank's enactment last summer removed the agencies exemption from that rule, and almost immediately the agencies stopped issuing ratings for fear of the liability that could incur. The SEC soon granted them temporary relief and in November issued a no-action letter that put the issue on indefinite hold.

"This rating agency reform hasn't proceeded as quickly as people expected," said Edward Gainor, a partner at Bingham McCutchen.

In an effort to foster competition among the rating agencies, the SEC's Rule 17g-5 has been effective since last June. It requires issuers to make available the data they provide to the agency they solicit for a rating also to unsolicited agencies, so the latter can issue an unsolicited rating providing it follows certain protocol.

So far, none of the top three rating agencies have issued unsolicited ratings under Rule 17g-5, although on a few deals, including the recent Redwood Trust MBS offering, the agencies have issued unsolicited reports commenting on what their models determine to be credit weaknesses.

"The markets view 17g-5 as a total failure," Gainor said.

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