By Amy Leisinger, J.D.
The House Subcommittee on Capital Markets and Government Sponsored Enterprises conducted a hearing on the impact of financial reform and accompanying regulations on the fixed income market and the securitization process and invited witnesses to comment on proposed legislation that would provide special risk retention requirements for certain collateralized loan obligations (CLOs) and that would exempt certain commercial real estate loans from those requirements.
Proposed legislation. In December 2014, regulators released risk retention rules for all types of securitizations. H.R. 4166, the Expanding Proven Financing for American Employers Act of 2015, would create a “qualified CLO” that would be subject to special risk retention requirements. The legislation would eliminate certain leverage restrictions and permit securitizations to qualify for exemption with certain types of loans while providing a number of structural protections, including asset quality and portfolio composition requirements, transparency and disclosure obligations, and regulatory oversight provisions.
A separate discussion draft bill would exempt certain commercial real estate loans from the risk retention requirements. Specifically, the bill would create an exemption for a securitization of a single commercial real estate loan or a group of cross-collateralized or cross-defaulted loans that represent the obligation of one or more related borrowers secured by one or more commercial properties under common control.
Support for exemptions. A climate of regulatory uncertainty and compliance cost burdens has hindered access to capital by reducing the number of banks and certain types of money markets funds and increased costs to borrowers, said Anthony J. Carfang of Treasury Strategies, Inc. Both proposals are important steps to restore the efficient flow of capital, he explained.
Loan Syndications and Trading Association Executive Vice President Meredith Coffey echoed the need for the qualified CLO exemption for participants in the corporate loan market. CLOs provide sources of financing to “non-investment grade” companies, and, without these types of loans, businesses would have to turn to more expensive financing options or find themselves without access to credit, she explained. CLOs did not perform like problematic collateralized debt obligations and should not be restricted in a similar way, according to Coffey. The bill provides “a commonsense solution that would both meet the letter and the spirit of the Dodd-Frank Act and would avoid a material disruption of the CLO and corporate loan markets” and would ensure continued CLO financing options while minimizing risk, she opined.
Richard Johns of the Structured Finance Industry Group also offered support for H.R. 4166 as a workable option for CLO risk retention. Regulators have essentially determined that all asset-backed securities (ABS) products are illiquid, he explained, but a blanket exclusion is not warranted, because high-quality ABS are among the most liquid types of assets. In addition, he continued, the European Union has recognized that regulation has actually hindered the return of the European ABS market and has considered more fitting rules for high-quality securitizations. The bills provide solutions for two specific asset-class issues in U.S. markets, Johns stated.
Opposing views. Andy Green of the Economic Policy Center for American Progress, however, took issue with the proposed exemptions, noting that markets are “as good as or better” than they were in the past. The changes made since Dodd-Frank have made us safer and the securitization markets and secondary trading markets are functioning well, he explained. The focus now needs to be on finishing the job and moving forward with compliance while continuing to respond to evolving markets and increasing transparency; the proposed bills are overbroad and unnecessary, he stated.
Dr. Marcus Stanley of Americans for Financial Reform concurred, noting that the proposed alterations to the risk retention requirements would take away the positive results brought about by regulatory change over the last few years. The risk retention rules encourage better underwriting and design of these securities while incorporating appropriate exemptions, he stated, and H.R. 4166 and the discussion draft would virtually eliminate risk retention requirements for loan securitizations that do not meet strict standards, even though securitization activities played a substantial role in the financial crisis. “These bills act to weaken and undermine Dodd-Frank regulatory changes designed to improve oversight of securitization,” Stanley concluded.