Basel 2: Mixed Bag for Securitization

It will help issuers, but it has its costs, too If the goal of the Committee on Banking Supervision is to make it easier for institutions to manage risk, then nowhere is it more germane than in its focus on the burgeoning securitization market. The document known as the New Accord--Basel 2, for short--is certain to make it easier for major institutions to package more big deals and to make much more money, especially overseas. The new capital rules will have a greater impact in Europe than they will in the U.S. because the market for asset-backed securities is underdeveloped outside the U.S. and Canada. The Committee's asset securitization proposals are also getting more support from big than from smaller that might not be able to meet 2's intricate and costly capital requirements. For it's never been more clear that institutions need to spend money in order to make money. Basel 2 requires that a capital charge be assessed against a liquidity facility to support an asset sale, which had not been required before, says Stephen Grossnickle, managing director of securitization at The Royal Bank of Canada. Now will have to put up capital to provide that facility, he says, adding that banks that aren't as capital rich may be forced out of the securitization business. To blur the picture further, 2 has yet to be fleshed out, and, as all bankers know, the devil is in the details. Nevertheless, Basil 2 already is a document to be reckoned with, and it appears to be moving in the right direction, although not all by any means are happy with all its provisions. On the plus side, the proposed new rules should make it easier for asset-backed securities (ASBs) to compete with mortgage-backed securities (MBSs) in the marketplace. Also, the rules will give institutions a greater role in assessing credit risk, making it cheaper to bundle loans for securitization. It's the most far-reaching capital regulatory change to have occurred within recent memory, says Roger Coffin, partner with PricewaterhouseCoopers, who works closely with banking institutions in developing their 2 strategies. This is a sea change, not just a tweaking of the regulations. 2 will affect the whole market for securitizations, from credit cards to automobiles, trade receivables, capital leases, and anything that has a cash flow attached to it, although the impact will be felt less in mortgage loan securitizations because of Fannie Mae's and Freddie Mac's dominance in that arena. Also, Fannie and Freddie already have capital requirements in place that closely resemble the requirements outlined in 2. Since 1988, the Accord has been the risk-based capital standard for around the globe. The Committee's set of minimum ratios has become the primary tool of capital regulation and it has strengthened the safety and soundness of international banking and contributed to the achievement of competitive equality. The financial world, however, has changed dramatically, eroding the 1988 accord's efficiency. Credit risk exists in far more complicated forms today. 2 seeks to address this change by better aligning regulatory capital requirements with the real underlying risks. Importantly, 2 would put asset-backed securities on a more level playing field with other fixed-income products. It would accelerate a broader trend in which ABSs are gaining ground against mortgage-backeds. What new risk? The committee s proposals are directed toward that are acting as originators of assets to be transferred, as servicing agents to the securitized assets, or as sponsors or managers to securitization programs that securitize third-party assets. Under the proposal, investing in ABSs could see reduced risk weightings for highly-rated ABS positions, but issuing ABSs may face some new capital charges. …

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