Regulatory uncertainty hampering ABCP market

Changes in FASB accounting rules, combined with regulatory uncertainty continue to hamper the growth of the ABCP market. However, the need to secure long-term funding has seen some banks adopt alternative approaches to the sector.

Jerry Marlatt, senior of counsel at Morrison & Foerster, confirms that overall US ABCP financing activity is down and securities arbitrage activity has disappeared. The conduits that remain are focused predominantly on receivables.

"Consolidation of conduits onto bank balance sheets under the new FASB rules has reduced the capital relief benefits associated with such financing," he explains. "Burdensome disclosure of assets under Dodd-Frank and SEC Reg AB loan-level rules is also causing uncertainty. At the same time, banks and corporates are sitting on lots of cash, so their financing needs are lower - although over time this could change."

A split has emerged in terms of issues and approach between the US and European ABCP markets, according to Elana Hahn, partner at Morrison & Foerster. "The changes in the US accounting regime had a cliff effect in that sponsors suddenly had to come to terms with conduits being on-balance sheet, while many European sponsors [had] already consolidated them. Nonetheless, there remain significant - but different - issues on both sides of the Atlantic as to regulatory capital charges associated with banks maintaining ABCP conduit programmes," she notes.

She adds that the divergence between the two markets can be challenging for international banks that operate conduits in both. "There is some concern that if Euro CP ends up in the US, there could be an extraterritorial impact under US regulations. Also, many of the European sponsors run both ECP and USCP programmes in parallel. But ultimately the impact of Dodd-Frank depends both on the sponsor and how it runs its business and how the regulations pan out."

Loan-level disclosure, as well as the onus on investor due diligence under CRD2 144a are also worrisome for sponsors marketing to investors that are European banks. But Hahn points out that the market and regulators seem to be reaching a consensus that distinct approaches need to be applied to take into account the particular nature of ABCP conduits.

Marlatt suggests that there is at present a 'wait and see' mentality among most conduit sponsors. Some large banks have rolled their conduits onto their balance sheets and are keeping them alive to potentially reactivate them in the future.

But John Spedding, md at BNY Mellon, notes that multi-seller conduits appear to be holding their ground. "The lack of supply in the ABCP market continues, so funding levels are stable for those conduits that remain after the consolidation seen last year," he explains. "We're left with a core group of sponsors that have spent time on investor relations and have removed certain assets from their portfolios or tweaked documentation in response to investor feedback."

While conditions remain difficult for new players to enter the market, Spedding suggests that other quasi-government sponsored wind-down conduits could emerge in the wake of Hypo Real Estate's US$25bn wind-down programme. "Many banks still face challenges in terms of winding down legacy portfolios and financing them efficiently, especially in Europe. Hypo's programme benefits from an indirect guarantee from the SoFFin stability fund, but the concept is also applicable in other areas to finance legacy assets, such as student loans and other asset classes."

In the meantime, collateralised lending between insurance companies and banks is gaining traction. This typically involves banks swapping retained or legacy securitisation exposures for government securities for a three- to five-year term, thereby providing them with collateral to meet liquidity requirements. Alternatively, banks are entering into term loans with securitised collateral pledged against them to access funding.

"We saw collateralised CP emerge at the end of 2010," adds Spedding. "Conceptually, this is like ABCP. But instead of being issued via an SPV, it is issued off bank balance sheets. As Basel 3 implementation nears, we could see new products like this gain popularity."

He notes that the ABS market remains in a phase of contraction. "The focus is on bank balance sheets and refinancing risks. Hence, banks are taking innovative approaches to collateral in order to get longer-term funding done."

However, challenges remain in terms of perfecting the redirection of cashflows post-enforcement. For example, work is being undertaken to broaden the remit of covered bond collateral, as well as ring-fencing collateral on-balance sheet to use in collateralised note programmes. This - along with the need for banks to establish 'living wills' - is driving the development of secured custody arrangements, whereby collateral can be moved cleanly to other parties in the event of default.

CS