European Commission report on securitisation regulation says EU investors may not invest in securitisations if the sell-side entities are not in compliance with EU reporting standards
On 10 October 2022, the European Commission (the “Commission”) published a long-awaited report on the Securitisation Regulation1 (the “Commission Report”)2. Among other things, the Commission Report responded to a request by the European supervisory authorities (the “ESAs”) to provide interpretive guidance on the application of the reporting obligations under Article 7 to issuers, sponsors and originators (“sell-side parties”) of securitisations who are located outside of the European Union.
The Commission’s views on this point will be relevant to sell-side entities located outside the European Union and to investors in, or lenders to, these securitisations, such as funds, banks and insurance companies who are subject to the requirements to conduct due diligence under Article 5 of the Securitisation Regulation.
Article 6 of the Securitisation Regulation requires the originator, sponsor or original lender of a securitisation to retain, on an ongoing basis, a net economic interest in the securitisation of not less than 5%.
Article 7 of the Securitisation Regulation requires the originator, the sponsor or the SSPE to provide certain information to investors, competent authorities and, on request, potential investors. Some of this information is required to be in the form of templates developed by the European Securities and Market Authority (“ESMA”), which require a very high level of detail, not only on an aggregate basis, but also on a “loan-by-loan” basis, with multiple information fields required for each individual loan/receivable in the securitised pool.
Article 9 requires originators, sponsors and original lenders to apply to securitised exposures the same sound and well-defined credit granting criteria that as they apply to non-securitised exposures.
A report by the ESAs3 raised a concern that, to the extent these provisions apply to non-EU sell-side parties, the EU supervisors have no ability to hold parties located in third countries accountable for breaches.
Article 5 of the Securitisation Regulation requires EU institutional investors to verify compliance with Articles 6, 7 and 9 prior to investing in an EU securitisation.
To-date, non-EU securitisations have not always carried out full Article 7 reporting, especially where the bulk of their investor/lender base is located outside of the EU. For those EU institutional investors seeking to gain exposure to such non-EU securitisations, there has been considerable uncertainty as to whether such EU institutional investors had to ensure that such non-EU securitisation fully complied with Article 7 reporting, or whether “substantive” compliance with the regime (e.g. sufficient information to allow the investor to carry out its due diligence and credit processes) was sufficient.
Commission’s view on Article 7
The Commission’s view is that: “while it is certainly most desirable to have these requirements enforced directly by EU supervisors, it should be recalled that this aim is also met effectively through the institutional investor’s due diligence obligations imposed by Article 5 of the Securitisation Regulation. According to these obligations, institutional investors must verify that the sell-side parties of the transaction, irrespective of their location, comply with the respective obligations under this regulation before investing in this securitisation. EU institutional investors may not invest in securitisations if the sell-side entities are found to be not in compliance with these obligations.”
In relation specifically to the issue of an EU institutional investor ensuring compliance with the Article 7 reporting obligations before taking on an exposure to a non-EU securitisation, the Commission went on to say that:
“…differentiating the scope of information to be provided, depending on whether the securitisation is issued by EU entities or by entities based in third-countries, is not in line with the legislative intent, since it does not matter for the proper performance of the EU-based institutional investors’ due diligence whether a securitisation originated inside or outside the EU. Therefore, without an amendment of the legal provision, it is not appropriate to interpret Article 5(1)(e) in a way that would leave it to the discretion of the institutional investors to decide whether or not they have received materially comparable information.”
In other words, the Commission's view is that EU institutional investors need to ensure that full Article 7 reporting is being provided by a non-EU securitisation before any investment.
Non-EU sell-side parties and EU institutional investors in non-EU securitisations need to carefully consider the implications of the Commission Report in relation to the provision of reporting on such non-EU securitisations.
The Commission did concede that “potentially significant shortcomings” have become apparent in the ESMA developed reporting templates, noting that the reporting of information that is not used by investors should be avoided. As a way forward, they have invited ESMA to review the reporting templates to address difficulties in completing certain fields, remove unnecessary fields and align them more closely with the needs of investors. While this work is undertaken, there was no explicit suggestion from the Commission that anything less than full compliance with the existing reporting templates would be acceptable.
It will also be relevant to non-EU sell-side parties and EU institutional investors in non-EU securitisations that the Commission has asked ESMA to produce a dedicated reporting template for private securitisations which it expects to simplify considerably the transparency requirements for private securitisations (see further the section on “private securitisations” below).
What else does the Commission Report say?
The Commission also responded to a request in the Jurisdictional Opinion to provide legal clarifications on two particular questions relating to alternative investment fund managers (“AIFMs”) acting as institutional investors in securitisations. The first is whether a non-EU AIFM that manages or markets alternative investment funds (“AIFs”) in the EU would be covered by the scope of the Securitisation Regulation’s definition of institutional investor, even if such marketing in the EU only took place on a private placement basis. The second was whether the definition of institutional investor also encompasses ‘sub-threshold’ AIFMs (that is, small AIFMs benefitting from a de minimis exemption that does not benefit from the marketing passport) such that the extensive due diligence requirements of the Securitisation Regulation would apply.
Unsurprisingly, given the guidance set out above, in both cases the Commission concluded in the affirmative. In respect of the first question, the Commission’s guidance is that third country AIFMs which market and manage AIFs in the EU have to comply with the due diligence requirements of the Securitisation Regulation for all of their securitisation investments, again pointing to the legislative intent of the due diligence requirements to support its view. It did, however, state that it would consider amending the legislation to clarify that third country AIFMs need only comply in respect of AIFs which that AIFM manages or markets in the EU. On the second question, it noted that paragraph (d) of the definition of institutional investor refers specifically to the provision in the AIFM directive4 which defines an AIFM without differentiating between entities that may be ‘sub-threshold’ or otherwise.
In relation to private securitisations (that is, securitisations where no prospectus has to be drawn up in accordance with Directive 2003/71/EC), the Commission Report noted that it is too early to conclude whether or not private securitisations are being used to circumvent the more onerous transparency requirements for public securitisations.
Following responses to the Consultation, the Commission has acknowledged that investors in private securitisations need more tailor-made information than the ESMA templates currently provide. Similarly, it has concluded that the ESMA templates are not fully appropriate to allow regulatory supervisors to easily gain an accurate overview of the private securitisation market. As a result, the Commission has invited ESMA to draw up a dedicated template for private securitisation transactions that is tailored particularly to the supervisors’ need to gain an overview of the market and of the main features of the private transactions, which the Commission hopes will also simplify considerably the transparency requirements for private securitisations.
The Commission also flagged that it may recommend the registration of information pertaining to private securitisations via securitisation repositories (as currently is the case in the legislation for public securitisations) once it decides to make a proposal to amend the Securitisation Regulation in the future.
Sustainable securitisation and the EU Green Bond Standard
The Commission reported on the creation of a specific sustainable securitisation framework, on the basis of the European Banking Authority’s (“EBA”) report on sustainable securitisation published on 2 March 2022.5
The Commission agreed with the EBA’s conclusion that, in the short to medium term, there is no need to create a dedicated sustainability label for securitisations, given the low amount of green assets available to be securitised. As such, the Commission invites the European Parliament and the European Council to consider the EBA’s recommendation that the EU Green Bond Standard (“EuGBS”) proposal6 be adjusted to make it more appropriate for securitisations, at least as a transitionary measure.
The EuGBS proposal establishes a voluntary standard for financing sustainable investment and allows the issuer of a bond to use the green label as long as the full proceeds from the bond issuance are used for purposes that are fully aligned with the taxonomy. According to the EBA report, the most efficient and pragmatic approach to including securitisation within the EuGBS proposal is to apply the requirements to originators of securitisations (rather than SSPEs), with additional transparency measures to inform investors to what extent the securitised asset pool is taxonomy-aligned, together with safeguards to prevent greenwashing.
The Commission used the Consultation to enquire as to whether a system of limited-licenced-banks to perform the functions of SSPEs would add value to the securitisation framework. Based on the responses, the Commission considers that the current framework is working adequately and no such system is required.
STS equivalence, third party verification of STS criteria
The Commission reviewed the possibility of introducing an equivalence regime for ‘simple, transparent and standardised’ (“STS”) transactions, but concluded that, as the STS regime is still evolving, such a move would be premature at this time.
In respect of the third-party verification regime established to assist issuers and investors in assessing the compliance of a transaction with the STS criteria, the Commission found that the regime is functioning as intended and sees no reasons to make revisions.
United Kingdom securitisation regime
It should be noted that, due to the departure of the United Kingdom from the European Union, the Commission Report is not relevant to the securitisation regime as implemented in the United Kingdom.
- Regulation (EU) 2017/2402 (as amended)
- Directive 2011/61/EU