SCI catches up with Mike Strevens, head of structured guarantees at the British Business Bank, to discuss their expanding SRT plans and activity.

Central to the British Business Bank’s debt financing activities is the ENABLE Guarantee programme, which aims to increase SME lending capacity among specialist UK banks. The guarantee is structured as an unfunded SRT with the most senior part of the SME reference portfolio protected and the first loss/junior portions and a vertical slice of the remaining portfolio retained by the originator. This protects originators from 75% of losses in excess of a pre-agreed first loss. It also has the ENABLE build programme which covers SME housebuilders.

The British Business Bank mostly focuses on lenders, including specialist banks outside the UKs big five. These banks tend to calculate RWAs on a standardised approach rather than an internal ratings-based (IRB) model. This makes it more difficult for these banks to access traditional SRT markets, with Strevens pointing out it takes tranche thicknesses of around 20-25% to complete transactions, compared to around 10% for IRB banks.

Strevens explains: “The capital usage on small business lending is quite inefficient, so we started guaranteeing SME portfolios around November 2014. We aim to halve RWAs on SME loan portfolio by guaranteeing a portion of the portfolio on a second loss basis, allowing the beneficiary bank to deduct the first loss from capital or risk weight it at 1,250%, meaning the economics for the issuer’s small business lending work better and giving them more leverage and thus enabling more lending to smaller businesses.”

It charges issuers a fee for protection, with the guarantees directly supplied by the Secretary of State for the Department for Business and Trade or the Ministry of Housing, Communities and Local Government, essentially meaning losses beyond those agreed by the counterparties would be funded from government coffers. Portfolios have long replenishment periods where eligible loans can be added before they start to amortise down.

The first transaction was completed in 2017, but British Business Bank needed to rebuild momentum post-Covid when the government loan schemes had “basically created a subsidised first loss version of what we do” and rendered the Structured Guarantee temporarily moot.  

The British Business Bank already supports lenders with significant risk transfers by guaranteeing mezzanine and senior portions of banks’ SME loan portfolios. But it doesn’t guarantee the junior tranches, which is why the government-owned firm is looking to expand to more traditional SRT investors.

Strevens tells SCI: “We guarantee the senior for simplicity and because we can. If you do a traditional guarantee, the riskiest portion is protected and [in the case of funded UK SRT] collateralised by the cash of an investor who wants a juicy yield. But there’s only so much yield a portfolio can produce so you usually guarantee the riskiest piece.”

This creates regulatory hurdles: “It’s really difficult to prove, as a standardised bank that you’ve actually transferred the risk, whereas because our guarantees are direct from government we can provide an uncollateralised guarantee, taking a large exposure for a commercially acceptable lower yield. The CRR theoretically reads that lenders wouldn’t really need to go to the PRA regarding the trades, although we obviously always recommend they do.”

He adds that, with the UK market well-established, proving SRT was achieved is more difficult for issuers than the structuring of transactions.

The British Business Bank also emphasises diversity and additionality of finance, another reason smaller issuers are the focal point. As an independently run government institution it is a purely domestic-focused player, which differentiates its programme from the guarantees offered by multi-lateral development banks which have a more international focus and a tendency to work with larger banks.

The programme is evolving with the regulatory wind. Currently, the SME supporting factor and retail factor automatically reduce the RWA for loans to companies of a certain size. Strevens explains this is around 76% for corporates benefitting from the SME supporting factor, and 56% for retail exposures. However, Basel 3.1 regulation looks set to increase RWAs for this type of loan.

He explains how the British Business Bank is preparing for this: “If that happened, we’d expect there to be more demand, so we’re proposing an SRT investor takes the previously issuer-retained first loss so you free up the whole stack of capital. Given there are more investors coming in and spreads are tightening, we think investors will be interested in these portfolios – and perhaps riskier portfolios to get the yields they’re accustomed to.”

This may develop further over time: “The next stage we expect after this is the banks become more sophisticated and they prove the SRT, we take a strip above the SRT investor and we can guarantee bigger portfolios with less exposure. We’d like to get banks to the point where they first go through the ENABLE Guarantee, then bring in the private investor which brings more rigour, and then finally traditional SRT structures which bring additional PRA and potentially rating agency considerations.”

As a more conservative investor, portfolio size is carefully considered: “We’ve also got some larger transactions where we cap out on the exposure we can take to them, so if we have a transaction with a bank and it gets to a certain size and it’s enough but we still want to help the bank, we can take a smaller portion and the issuer can still sell the junior tranches.”

In the British Business Bank’s recent annual report it announced it had supported over £4bn worth of SME lending since its inception through its ENABLE Guarantee and Build programmes.

Strevens gave an example of a recent deal: “One interesting one was Oxbury Bank in March. We increased the guarantee from £100m to £200m, and they also have a good sustainability ethos there and support the farming sector which we think is important, so we made sure if they do ESG lending they get a discount on their guarantee fee. We thought that was quite novel.”

Joe Quiruga