In the 15 years since the practice of bundling loans was stigmatised for stoking the financial crisis, Europe’s securitisation markets have had more false dawns than its banks have had bailouts.
Industry veterans are hoping for the first step towards a different outcome this week, as the EU parliament votes on a measure that banks say could materially boost the market for bundling assets into investment vehicles and selling tranches of them as securities.
On Tuesday, EU politicians will be asked to back a banking regulation change that reduces by half the increase in capital on securitisations that would have occurred under new capital rules. The provision, recently appended to the monster banking capital regulation package winding its way through the EU’s legislature, is a blunt measure that addresses one of the chief complaints of Europe’s banks about how securitisations work.
Securitisations can be used to sell an economic interest in everything from infrastructure projects to short term loans. For banks, securitisations are a liquidity tool since they can make new loans from the money they’re paid by securitisation investors. They’re also a way to reduce risk. Potential defaults are shared between the bank, who must retain at least 5 per cent of the economic interest of a securitised portfolio, and investors.
In theory, if banks have less exposure to losses, then they should have to set aside less capital to meet them. But European banks say that in some cases, their regulations demand as much capital to back the tranches they retain as they would have had to set aside to back the entire portfolio. Depending on how the deal is sliced, and how it’s assessed by European regulators, securitising a portfolio can increase capital requirements for those loans, according to a lobbyist at a large EU bank.
Even officials at the European Stability Mechanism have acknowledged that after the financial crisis “the EU may also have adopted more demanding accounting and prudential rules than the US”. Little wonder then that Europe’s banks have been shy about coming to market compared to peers in the US, where costs and complexity are also lower than across Europe’s fragmented markets. Europe’s securitisation market was just 8 per cent the size of the US in 2022, versus 85 per cent in 2008.
The proposal before parliament on Tuesday — advanced by French MEP Gilles Boyer as a temporary measure — addresses Europe’s securitisation challenges in a meaningful way but is just one part of a broader push that is leaping up the agenda of European policymakers.
Earlier this month, the French and German treasuries wrote to the European Commission urging officials to back a range of measures supporting the securitisation market, including “recalibrating” the capital treatment for banks, changes to rules that would make it easier for insurers to hold stakes in securitisation vehicles and overhauling burdensome disclosure rules that make transactions more costly.
“Securitisation is an essential and currently underused tool for financing the real economy and managing banking risks,” the paper argued, deeming the issue “critical” for the EU’s capital markets union.
The commission’s backing, which Brussels watchers say is likely, is important. Any reprieve sanctioned by parliament on Tuesday must then be agreed with the commission and the EU’s council of member states. Other future reforms, including the “comprehensive review of the securitisation regulatory framework” that Germany and France are calling for in the longer term, would require similar agreements.
Hopes for change were also boosted by a December report from EU financial watchdogs that acknowledged shortcomings with the securitisation framework, including bank capital treatments, even if they did recommend waiting for global guidance for remedies.
Proponents of European reform argue that the EU needs action faster than the US because American banks offload most of their mortgages to state-backed agencies that don’t exist in Europe. Tightening monetary policy also could make securitisation a more attractive and needed bank funding source.
Another factor that augurs for change is the passing of time from the 2007/8 financial crisis, when securitisations were vilified. Those memories were still fresh when Europe mounted its first effort to revive markets, back in 2014. “Over time that has eased a bit,” one veteran lobbyist says of the mood in Brussels. Banks certainly hope so.