The EU securitization market finally has its chance to make the case for regulatory reform in the shape of European Commission’s 167 question consultation, which began on October 9 and will close December 4 — an eight-week sprint that could define the market for a generation.
The Commission calls it a “targeted consultation on the functioning of the EU securitization framework”.
Targeted in the sense that it seeks detailed, quantitative input from “market participants, including data repositories and rating agencies, industry associations, supervisors and research institutions”.
Collecting data is the right approach, but the commission will need to remember that data alone cannot tell them everything they need to know.
Consider question 9.2, under “prudential and liquidity risk treatment of securitisation for banks”: “Please explain how possible changes in the prudential treatment would change the volume of the securitisation that you issue, or invest in (for the latter, split the rationale and volumes for different tranches).”
It is one of many questions that reasons along the lines of a chess player — 'if we do this, they’ll do that'.
Most answering 9.2 would probably say that they don’t know. Securitization spent the 2010s and the early 2020s stuck in a rut of low supply and low demand.
A package of reforms that breaks out of that trap would significantly boost the market, by harnessing a virtuous cycle.
If more banks invest in securitization — perhaps because of more favourable prudential treatment — the market becomes deeper and more liquid. That gives confidence to other investors like insurers that they will be able liquify a securitization position if they need to pay claims. Thus, they also feel able to invest, further deepening the market.
That probably isn’t something banks, let alone insurers, can quantify in answer to 9.2.
This is the trap the Commission must avoid, if it wants the consultion to be worthwhile. A package of reforms that is insufficient to break out of the rut the market is in would be of minimal benefit to anyone.
The prime example is the ‘simple, transparent and standardised’ or ‘STS’ regime, which came into force in 2019. It failed to revive the cash market, necessitating another look at the topic in this consultation.
What the Commission needs to hear is how it can do enough to get the benefits of a deep securitization market, while containing the systemic risks that it could pose.
No doubt it will receive a multitude of deep and rich responses from the market, including to some of its more open-ended questions, like 2.2 (“How can securitisation support access to finance for SMEs?”) or 9.10 (“How do banks use the capital and funding released through securitisation?”).
When it tries to pull them all together into a proposal, it must go beyond the chessboard and realise that some games may be more complicated but victory in them is far more rewarding.