A Treasury Department proposal aimed at reforming the private-label securities market would give federal regulators some flexibility in setting risk retention standards for the banks.

The legislative proposal Treasury recently sent to Congress requires securitizers to retain at least 5% of the credit risk, which cannot be sold or hedged. However, regulators can make "exceptions" and "adjustments" for banks provided they retain some risk and it leads to sound underwriting practices.

"We felt it was important to give agencies some flexibility on the no hedging requirement to ensure banks were able to do appropriate risk management at the same time they were being required to retain some risk from their lending," a Treasury official said.

The regulators could also lower the 5% threshold on credit risk retention for banks that securitize mortgages if some of the credit risk is retained by originators. "That would also be consistent with our aims," the Treasury official said.

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