STS: the long and winding road
Meant to bring about a new era for European securitization a decade after the financial crisis, the ‘simple, transparent and standardised’ framework actually stifled issuance in the first quarter of 2019. But a year on, STS is on its way to delivering what it had promised. Tom Brown reports
The ‘simple, transparent and standardised’ framework for securitization was first proposed as a means of regulating a market which came close to being killed completely by regulators for the role it played in the 2007-2009 US subprime crisis. The label, which puts forth a set of standardisation and disclosure criteria for issuers to comply with, allows for lower capital charges on bonds that carry the label.
First proposed by European regulators in 2014, STS was launched on January 1, 2019. But when the first issuer, Crédit Immobilier de France, set out in October 2018 to tick the boxes to issue the first STS-compliant deal, it encountered three problems.
One was that it did not have a third party verifier licensed by the Autorité des marchés financiers, the French regulator, meaning that investors would have to take a leap of faith in order to allow CIF to issue in the first place.
The second, which became apparent upon the launch of STS, was that almost none of the level two legislation released alongside STS was ready.
The third was that the ABS market saw next to no issuance throughout the entire first quarter of 2019, leading to the issuer deciding to issue the deal on the private side.
“We planned to issue the first RMBS at the beginning of the year,” says Clotilde Bouchet, who was at the time of the deal deputy CEO of CIF Euromortgage and group CFO of Crédit Immobilier de France. “It was a bet, for sure, but investors agreed to do it.”
After a tricky beginning the pace picked up and by September the majority of ABS issued in Europe carried the STS framework. Indeed, only six months after CIF placed the first STS deal, another 87 were listed alongside it.
“It has been a long and bumpy road, because of losing the first quarter of the year,” says Miles Hunt, head of securitized products and alternatives syndicate at NatWest in London. “But towards the end of the year we are seeing that it has achieved what it set out to achieve.”
Traders say that STS paper in the secondary market is in great demand. Syndicate bankers are starting to note a difference in pricing between STS and non-STS deals, while issuers are retrofitting legacy deals with the STS framework before the liquidity coverage ratio (LCR) benefit for non-STS deals ends in April 2020.
Other jurisdictions are already looking at STS as a template, with Japan adopting the Basel-equivalent regime ‘simple, transparent and comparable’ (STC) for Japanese securitizations in May 2020. Australia is also gathering market feedback with the aim of implementing its own STC framework.
So far, so good. But while the new market has taken over a decade to emerge there is still work to be done to make sure STS is fully accepted. As 2019 draws to a close, templates on risk retention and data disclosure are still outstanding, with regulators set to leave key market issues unclarified until at least February 2020. “The lack of certainty has been difficult for market participants and it would be good if there are no surprises and they are finalised soon,” says Merryn Craske, partner at Mayer Brown in London.
Brexit also looms large over the framework. Under current rules, sterling STS can only be recognised as STS in the European Union if the UK is part of the block — but the reverse is not true, meaning that UK banks would be the ones to benefit should a speedy exit leave securitization regulation unchanged.
While some claim the regulation has done its job, others say it has failed to reform the securitization market the way regulators intended. “I was quite surprised, and I am not the only one surprised, that people have said STS has not quite delivered what we expected it to do, and we need to fix it fast,” says Ian Bell, head of the Prime Collateralised Securities Secretariat in London.
Regulators for their part have said they are looking at ways to improve the framework ahead of the STS review scheduled in 2022. One of the battles the market is preparing to fight is over synthetic STS, or STS for risk transfer securitizations. Banks under Basel IV will be required to raise up to 25% more capital, the majority of which are struggling to make profits as it is. An STS designation for synthetic securitization could give the market the boost it needs to meet its regulatory aims.
Bell says that “those of us with a bit of ambition” are looking for STS regulation to be “aligned with covered bonds”. The market as a whole is looking for better LCR treatment for STS deals, as well as better capital treatment under CRR and Solvency 2 rules.
“I wouldn’t call STS a failure, I wouldn’t call it a roaring success,” concludes Bell. “I would call it a qualified success — with still great potential yet to be realised.” GC