What is the proposed retention rule?
Services Agency (FSA) has proposed more stringent capital
requirements for Japanese banks that buy securitisation
products such as collateralised loan obligations (CLOs) and
asset-backed securities (ABS).
The proposal applies increased regulatory capital risk
weighting unless the originator holds an exposure of less than
five percent of the total underlying assets. Naoya Ariyoshi,
partner at Nishimura & Asahi, said that in most deals with
a Japanese originator, it will typically hold more than five
For products like CLOs, which tend to be established in the
US or elsewhere and sold to Japanese banks, the originators
often hold less – and sometimes none.
What’s the anticipated
As well as Japanese banks, the rule will affect originators
and arrangers elsewhere in the world, especially in the US,
which is a major securitisation issuer.
Under the proposed rule, it is practically impossible for an
originator to hold less than five percent of an underlying
"Although it’s not typical for an originator to
hold less than five percent in today’s market, we
have actually seen some mortgage-backed securities without any
risk retention at all," said Toshifumi Ueda, partner at Mori
Hamada & Matsumoto.
The new rule would make these transactions practically
A senior official of a Japanese bank said that the
FSA’s plans to carve out securitised products that
originate in jurisdictions where risk retention is already
required, such as CLOs, residential mortgage backed securities
(RMBS) and other ABS that originate in the US, EU and
"We are opposing the FSA’s idea," he said.
"This is clearly discrimination against Japanese domestic
He added: "Unlike the EU, where bank capital requirements
need to be passed by law, the FSA’s commissioner
has the power to issue notices without any legislative
procedures. This is complete nonsense."
How does the proposal compare to other
Risk retention rules for securitised products are in place
in the US and EU. However, in February, the
US court ruled that open CLOs are not subject to risk
The US’ Loan Syndications and Trading
Association brought the case against the Securities and
Exchange Commission and Federal Reserve.
How are banks preparing for the proposed
Japanese banks that invest in
securitisation will need systems capable of capturing extensive
"In a case where a bank invests in securitisation products
that do not satisfy certain risk retention requirements, the
heavier risk weight under the capital requirements regulation
would be adopted for these products," said Ariyoshi.
"That is, unless the bank determines that the securitised
assets were not inappropriately formed on the basis of the
relevant circumstances, such as the originator’s
involvement in the securitised assets and the nature of them,"
What areas still lack clarity?
There are still plenty of areas of
ambiguity. For example, it is not clear under what
circumstances a bank can determine that the securitised assets
were formed appropriately. In addition, the treatment of
securitisation products established in foreign countries
Under the FSA’s current proposal, even if a
bank does not directly satisfy the risk retention requirement,
it can avoid the stringent risk weights if it determines that
the selection of underlying assets is appropriate.
"In this regard, the bank may consider such circumstances as
the originator’s involvement in, and quality of,
the underlying assets," said Ueda. "If the bank is duly
satisfied, it is not required to apply the risk weight to its
exposure. However, it is not clear under what situation the
bank may actually rely on this exception."
Elliot Ganz, general counsel at the Loan Syndications and
Trading Associaion (LSTA) in the US, said that the association
has been engaged with the FSA, and is optimistic that the
regulator will consider CLOs in the US appropriately
"The primary focus for the FSA is to ensure the investor is
comfortable with the deal and that the underwriting process is
robust," said Ganz.
He added that the existing documentation is likely
sufficient to give investors comfort that underlying assets
were written in an appropriate way. However, further
clarification will be needed from the regulator.
What are the next steps?
In their consultation response, the Japanese Banking
Association and Securitisation Forum of Japan said that the
current proposal should be withdrawn. The FSA has yet to
present a response to these and other comments.
Comprehensive FAQs are expected by March 2019, and typically
the rule would be implemented soon after.
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