Certain asset classes, such as credit cards, may benefit from the BIS' return to the complex supervisory formula.
While it is still unclear how well the bulk of the securitization industry will welcome the so-called final release of Basel II, this draft undoubtedly brings the accord one step closer to finality. As expected, the industry is exploring some of the revised terms and how they may shift market dynamics going forward.
"There has been no major changes in certain respects since the last version of the accord that we saw. I think now it's just a matter of waiting to see how the individual regulators will interpret the terms set by the new accord," said one market source. "Everybody is waiting for what the [European Union] capital adequacy perspective will look like."
Last week, ASR highlighted one of the major changes since the last edition of the accord: a return to the more complicated supervisory formula included in the April version of the Consultation Paper No. 3 (CP3). This approach is advantageous for banks holding revolving consumer portfolios with a probability of default below 3.0%.
"Under the IRB approach, revolving retail exposures such as credit cards and overdrafts are treated with a 0.04 correlation instead of the function of probability of default as previously suggested," explained researchers at the Royal Bank of Scotland. "A portfolio with a 5% probability of default and 80% loss-given-default would now carry a 97.3% risk weight versus 75.2% under the January 2004 proposals, but a 2.5% probability default with an 80% loss-given-default would carry a 60.4% risk weight versus 66.8% under the old proposal."
According to sources at RBS, the new risk weightings might lead to further growth in the credit card securitization market, particularly for transactions backed by loans of lower-quality borrowers. As a result, analysts said that it's likely that banks will begin to divide their credit card pools into a hierarchy, where high-quality pools are accounted for on balance sheet and the lower-quality loans are tranched out to investors in securitizations.
"The new rules are punitive for any lending with a probability of default greater than 3% - quite likely for credit card receivables where 6% annualized charge-off rates are reported by several master trust transactions," explained analysts. "We expect these higher capital charges will encourage banks to securitize these assets, perhaps even drawing new issuers to the market."
In terms of risk weighting for mortgages, there has been little deviation from the last version of the accord. Individual countries will have to examine and interpret LTV risk. Going forward, mortgage insurance may become a more important tool for issuers, said one source at PMI Europe. The group recently received regulatory approval to operate its new Italy-based branch (see ASR 3/29).
"At the moment, banks are working on clarifying how higher LTV mortgages have different risk properties than lower LTVs, and how a product like mortgage insurance will help transfer this risk," said the PMI source. "Banks in the U.K. and Ireland are more familiar with [mortgage insurance], but on the continent, many institutions are not familiar with it at all."
At the moment, the challenge is to gain growing recognition of how a mortgage insurance product will offer regulatory benefits under the new accord, the source added.
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