Mega US financial restructuring Bill mandates risk retention in securitization

23 December, 2009:  This is how lawmakers commonly react – to make up for lapses in shutting the door, they install a new door. In this case, they have put up several doors. In a massive exercise of lawmaking, the US draftsmen have presented a 1279 page bill that seeks to enact provisions in several of the sensitive areas of the recent crisis. It proposes a Financial Services Oversight Council, Office of Thrift Supervision be abolished and its functions be merged with those of Office of Comptroller of Currency, OTC derivatives to go through clearing houses and be traded on exchanges where possible, ‘stress tests’ and ‘living wills’ for risk firms and more. 

Specific to securitization, the Bill proposes a new Credit Risk Retention Act that primarily, as the name suggests, mandates retention of credit risk in securitization transactions. The 5% minimum risk retention that has been the central theme of regulatory discussions all over the world of last finds a place in the Bill as well, but with flexibility that permits appropriate regulatory authority to either reduce the minimum risk retention requirements in case of fully amortising loans, or in cases where the purchaser of the loans specifically negotiates for a first loss position. Such purchaser of first loss position must, however, provide due diligence on all individual loans covered in the pool. 

The standards subject to which the rules of risk retention will be framed would aim at improving underwriting standards, and encourage appropriate risk management by creditors. 

The above requirements apply in case of “asset backed securities”. The definition of the term “asset backed securities” has been imported from Regulation AB. As it stands today, the term “asset backed securities” includes only those securities that are serviced primarily from cashflows of defined assets. Hence, the term will not include any covered bonds, and will not include any synthetic securities as well. 

A new provision empowers the SEC to enact provisions pertaining to representations and warranties in case of securitization transactions.  

There are studies proposed about risk retention, and macro-economic impact of securitization transactions.

Links: See the Text of the Bill here; Read our news on the similar provisions by EU here

[Reported by: Vinod Kothari]

To see our recent news on securitisation click here

Join our mailing list for regular news fed direct into your mailbox