Trustees in ABS and MBS have adopted a "don't ask, don't tell" policy in regard to their actions and responsibilities. That was the message put forth at the American Securitization Forum Sunset Seminar held last week discussing the "role of the trustee in securitizations." As a result, "if a specific action isn't included in a deal's documentation, don't expect it to get done," said Fitch Ratings managing director Kevin Duignan.
With roughly 100 audience members in attendance, panelists agreed that the root of the problem lies in what investors ask of trustees during a deal's inception. The phrase "The devil is in the details" was echoed by numerous panel members commenting on explicit description of duties versus implied responsibilities of the trustee.
The panelists, including Moody's Investors Service Senior Vice President Claire Robinson, who in February issued a report titled Moody's Re-examines Trustees' Role in ABS and RMBS, described the trustee's role in the day-to-day life of a securitization as "minimal." But Robinson added that Moody's stance in scrutinizing trustee behavior lies mainly in a post-bankruptcy situation.
Part of this conundrum, however, lies in the fact that, typically attention, is paid to trustee action only during a blowup, which, in most cases, a trustee can do little to prevent. Additionally, trustees are restricted in some instances from alerting those in charge of monitoring outstanding transactions, the rating agencies for example, of the telltale signs of a pending seller/servicer bankruptcy. Such signs include a lag time in the distribution of cash flows from the servicer, as well as an increase in employee turnover in a troubled servicer.
For the second time in as many weeks, Fitch's Duignan compared a trustee to an airbag, adding that "anyone who thinks a trustee could prevent certain events is fooling themselves...All of the airbags in the world can't stop a Pinto from blowing up." Moody's Robinson concluded that, despite the February report critiquing trustees, "Moody's assumes the trustee role as minimal."
The two rating agency representatives offered anecdotal evidence of trustee misbehavior, including a claim that while trustees are obliged to take delivery of certain statistical information provided by the servicer, the trustees are not explicitly directed to actually examine the data. Additionally, a circumstance was recalled in which an unnamed trustee refused to report a covenant breach to a rating agency upon request for fear that the bonds would be downgraded.
Remedies for the market's concerns were also offered. James Callahan, executive director and co-founder of Pentalpha Capital Markets, noted that the protections inherently built into ABS structures, such as overcollateralization accounts, have led to a relaxed attitude toward the health of a seller/servicer, in all but the most extreme cases.
"The problem is that there is no first-loss holder anymore," said Callahan. "The result is that a servicer uses tricks to protect the servicing asset, or a monoline [insurer] moves to protect its interest."
The idea of incorporating a "trustee fee increase trigger" in structures, allowing for a trustee to be more proactive as a seller/servicer experiences credit quality deterioration, was tossed around. Also, panelists discussed the potential for a higher quality trustee, offering more diligent involvement, albeit at a higher cost.
"A problem is that currently trustees are viewed by the market as fungible," said Rich Wasserman, from law firm Day, Berry & Howard. "It's unlikely that one [trustee] would announce greater service in return for greater fees. And would investors give up yield for increased service from a trustee?
Any service enhancements, noted Pentalpha's Callahan, would not likely come from within the trustee community, but instead from "some entity - investors or rating agencies for example - mandating trustee oversight." "This is an issue with governance," he added.
Following the panel discussion, attendees voiced various opinions on trustees' duties, with ideas ranging from establishing an ASF-certified industry standard for trustee activity, to abandoning the use of trustees in securitizations altogether. "In Australia, we didn't think trustees were doing enough to justify their fees, so we removed them from the equation," one attendee said afterwards.