Banks attempting to extend the principles of securitisation to trade finance are facing two key hurdles: The UK Financial Services Authority’s (FSA) treatment of synthetics and the transfer of trade finance assets.
News emerged this week that some of the world’s largest banks were researching the feasibility of slicing and dicing exposures to export credit agencies and packaging them as CDO-like instruments.
This is a reaction to Basel III proposals, ordering banks to hold more capital against lending.
But according to Franz Ranero, partner at Allen & Overy in London, there are two very different types of deal under examination within this context.
“The aim can either be to obtaining funding from these portfolios, which may lead to a more traditional cash securitisation structure, or improving their risk weighting for the purposes of their regulatory capital treatment, which may lead to a structure more akin to a synthetic CLO," he said.
The two techniques create different legal obstacles. Banks in Europe are wrestling with them both.
Carrying out a deal for regulatory capital purposes means the instrument takes on the form of a synthetic collateralised debt obligation (CDO).
These create challenges similar to those faced in other straight synthetic deals.
The primary concern in the UK is the FSA’s treatment of synthetics – not a concern specific to trade finance. Since last year, the regulator has required issuers to obtain external ratings on the retained tranches in order to achieve beneficial regulatory capital treatment.
"This may be a challenge for trade finance portfolios, which themselves are unlikely to be rated," said Ranero. "It creates a cost-benefit issue in terms of whether these deals make sense."
This has been achieved successfully once before: the Standard Chartered $3 billion Sealane II securitisation in August 2011. This succeeded after the FSA had altered its treatment of synthetics, however, proving the structure can work.
Funding deals create their own set of challenges. Because the instruments are cash securitisations, the challenges centre on how to transfer the trade finance assets in order to obtain funding. That creates a raft of legal complexity, according to Ranero.
“Trade finance can take many different forms, whether some form of credit facility or debt,” he said.
There are also cross border issues. For instance, trade finance backed by commodities on ships that are sailing between jurisdictions and the question of which governing law to take the security when the assets involve multiple jurisdictions and laws.
These are the same problems that securitisation lawyers think about every day. “But trade finance is a little further along the scale in terms of complexity, particularly given the cross-border issues in terms of transferring the assets and granting the security over the assets,” said Ranero.