Dream of an EU securitization platform refuses to die

It is October 9, 2024. For Europe's securitization market, anything and everything seems possible.

At last, the European Commission has opened its ears to listen to a decade and a half of gripes about the punitive way securitization has been regulated since the financial crisis.

Among nearly 200 questions the Commission asks that day in its consultation about the “securitisation framework” of regulations is a whole section on launching a “securitisation platform”, which it says has been “mentioned in the public debate”.

A "platform" would be some kind of centralised, likely state-sponsored entity issuing approved securitizations of assets, originated by a variety of actors, probably including private sector ones.

“One of the proposals, inspired by the US model, envisages the use of public guarantees, both at national and EU level, to scale up the market and create a new common ‘safe asset’ across the EU,” the Commission muses, inspired by a report in April 2024 by Christian Noyer, former governor of the Banque de France.

Perhaps the EC hopes this platform could be the grand centrepiece of a sweeping set of market-revitalising reforms.

Fast forward to February this year. The responses to the Commission’s consultation seemed to put talk of such a platform on ice.

There was some gentle encouragement — 41 respondents were keen on the platform, compared with 18 against and 72 who didn’t take a side.

But as the Commission’s summary of feedback noted: “nearly all the respondents agree that creation of a securitisation platform is not the main issue in the market, and it should be addressed at a later stage, following comprehensive feasibility studies and consultations. Quite a few suggested to focus on improving existing schemes, such as European Investment Bank/European Investment Fund securitisation programmes.”

There was worse still for believers in the platform.

In its response, the Danish government said it was “fundamentally against the use of public guarantees to support a securitisation platform, as we firmly believe that the transfer of credit risk should be conducted on market terms.”

Denmark went on to “question the actual added value of such a platform”, conceding only that if “after a thorough assessment, it is concluded that there exist certain technical hindrances to a market-led platform solution, Denmark would be open to discuss the removal of such elements.”

Yet now, as the Commission has laid out its proposals for reforming the securitization framework, and negotiating lines take shape for the trilogue on it between the Commission, European Council and Parliament, there are still signs that the platform idea is still alive.

In its proposal on the Securitization Regulation, the Commission somewhat mysteriously proposed to exempt investors from their due diligence and risk retention requirements if certain government-sponsored entities guaranteed or held the first loss piece of a deal.

The changes were “expected to crowd in private investment in derisked structures with a public guarantee”.

Such issues are a very small part of the market as it stands, but it could be a nice rule to have, if a securitization platform ever arrives.

In addition, the Commission proposed that investors in any government-guaranteed tranches should benefit from more favourable treatment, including a risk weighting of 0%.

In its response to the Commission's proposals, the European Council — whose presidency is held from July to December this year by Denmark — shows some signs that there have been negotiations among nation states.

If the Council had its way, risk retention requirements would be lifted for government-backed securitizations, but investors would still have to do due diligence.

The Council has also expanded the list of eligible guarantors to include “central governments or central banks, regional governments, local authorities and public sector entities”.

These changes seem to move away from a centralised platform and instead towards a more fragmented set of guarantors.

The changes would still likely be helpful for issuers of synthetic securitizations in which the investors are development banks, by removing the grit in the wheels that comes from a 5% risk retention.

Lots of banks place their first loss tranches on SRT deals with the European Investment Fund, for example. Not having to comply with risk retention would make the risk transfer more efficient.

However, the Council’s proposal to remove the exemption from due diligence would be a blow to anyone hoping to realise Noyer’s ambition of “a new common ‘safe asset’ across the EU”.

So far, the European Parliament seems less eager to get involved in this part of the debate.

The draft text of the securitization reforms from the Parliament’s Econ Committee leaves the original exemptions intact and appends a clarification for non-performing exposures.

In his sweeping 2024 report on how to make Europe more competitive, Mario Draghi, former Italian prime minister and European Central Bank governor, appears to see securitization almost as a quick fix for Europe’s failure to build a capital markets union.

“[Securitization] could also act as a substitute for lack of capital market integration by allowing banks to package loans originating in different member states into standardised and tradeable assets that can be purchased also by non-bank investors,” Draghi wrote.

The current regulatory fragmentation between countries on issues like insolvency and tax makes multi-jurisdictional securitizations a pipe dream for the most part. So perhaps this is a reference to the benefits of a securitization platform.

After a few paragraphs enthusing about the common safe asset, Draghi says: “setting up a dedicated securitisation platform, as other economies have done, would help to deepen the securitisation market, especially if backed by targeted public support”.

It is no secret that Draghi’s work has been influential in informing the thinking of the Commission, which explicitly cite him along with Noyer.

The idea seems to be that a more vigorous securitization market could constitute a step closer towards capital markets union without the thorny problem of needing to shift sovereignty from the nation states to the supranational level.

In practice, however, using a securitization platform as a way to get round disagreements within the European Union only brings that fragmentation to the fore.

The consultation response, for example, suggests that the Danes disagree fundamentally with the purpose of a platform, and oppose public guarantees outright.

If Europe cannot agree on what it hopes to achieve by building a securitization platform, it makes designing the platform impossible.

An example that many would find appealing is a platform to boost lending to small and medium-sized enterprises by providing a government guarantee.

The trouble is that each of the different nations operates under different conditions and the data needed to compensate for such factors is patchy or not available to the public.

Consider, for example, if everyone chips in to cover a guarantee, but one country’s SMEs default at a rate of 30% with recoveries of 0% and another’s default at 10% with recoveries of 50%. Taxpayers of the latter country would be subsidising companies in the former.

Even if the aim is just to create a common safe asset, someone will need to take on the differing prepayment risk from loans in different countries.

Whichever way you look at it, the securitization platform cannot be a quick fix to get more European integration.