On April 21, the European Banking Authority (EBA) opened a consultation on draft guidelines for simple, transparent and standardised (STS) criteria for on-balance-sheet securitisations. The EBA guidelines detail the interpretation and application of STS criteria.

Compliance with these requirements is a prerequisite for a preferential risk-weight treatment for originator institutions retaining exposures to senior tranches on STS on-balance-sheet securitisations. The guidelines are linked with the ESMA RTS/ITS which specify the format of notification of compliance with STS criterion.

A number of STS requirements in Level 1 for on-balance-sheet securitisations are the same as those for traditional (non-ABCP and ABCP) securitisation. Some amendments to applicable to both type of securitisations have been applied consistently across all three guidelines.

Below is a summary detailing the key parts of the new guidelines.

Criteria related to simplicity

Requirements on the originator:

The guidelines exclude the originator from performing arbitrage securitisations. This covers transactions where a protection buyer purchases exposures outside their core lending activity for the purpose of writing tranched credit protection and arbitraging yields on the transaction.

No double hedging:

The guidance disallows double hedging in addition to the exclusion of arbitrage securitisations. Practically, this prevents a buyer from obtaining credit protection in addition to credit protection already provided by the securitisation. This is to ensure the legal certainty of payment obligations of the protection seller.

Credit risk mitigation rules:

These rules require securitisation documentation to contain warranties provided by the buyer with relation to the characteristics of underlying exposures.

Eligibility criteria, active portfolio management:

In order to enable investors to assess the credit risk of the asset pool, the guidelines apply the following restrictions to selection of underlying exposures:

• Active portfolio management of the exposures in the securitisation is prohibited to prevent risk to investors when assessing the performance of the underlying exposures.
• Eligibility criteria no less strict than at the initial securitisation pool are applied to any exposure selected after the closing.
• To ensure consistency underlying exposures must not include transferable securities. Specialised lending exposures are subject to specific rules set out in the Commission Delegated Regulation 2019.

Resecuritisation:

Resecuritisation is prohibited from classification as an STS on-balance-sheet securitisation. This is to prevent resecuritisations from being structured into leveraged structures which enable low credit quality to be re-packaged and enhanced.

Underwriting:

The guidelines apply rules on the types of exposure an originator can select in order to ensure exposures remain within the type of business performed by the originator.

Included in these rules is a prohibition on the securitisation of self-certified mortgages for STS securitisations due to associated moral hazards.

No-exposures in default:

The guidelines prohibit STS securitisations from including underlying exposures to debtors or guarantors with adverse credit history.

One payment borrower requirement:

In order to address fraud and operational risk, each underlying borrower should make at least one ordinary payment at the time of selection of exposure. This rule applies to every exposure of a borrower. An exception to this requirement is revolving securitisations where distribution of exposures is subject to frequent changes.

Criteria related to standardisation

Compliance with risk retention requirements:

The guidelines reiterate the 5% risk retention requirement as seen in regular securitisations. This requires the originator, sponsor, or original lender to retain a material 5% interest in the securitisation.

Mitigation of interest and currency risks:

Guidelines permit both mitigating and derivatives hedging against either interest-rate or currency risk found in the underlying exposure.

Allocation of losses and amortisation of tranches:

The guidelines retain the Securitisation Regulation 2017 rules for performance-related triggers to the application of amortisation in the event of credit loss on STS securitisations.

Guidelines add a qualification to existing triggers of ‘outstanding losses’, which refer to two-thirds of the absolute amount of expected losses.

In addition to amortisation rules applying to all securitisations, STS provisions prohibit reverting back to non-sequential amortisation.

Servicers expertise and servicing requirements:

Guidelines require a servicer to have the required experience of either the business of the entity servicing exposures for at least five years, or at least two members of management have relevant experience of at least five years.

Requirements relating to transparency

Historical loss performance:

Guidelines include requirements to disclose historical loss data to enable effective due diligence. This involves factors which determine the expected performance of the underlying and indicators or models of the life of the transaction over a maximum of four years. An originator may use third party rating agencies when they cannot provide data in line with requirements.

Liability cash flow:

Guidelines enable investors to create a liability cash flow model provided the model is precise and includes provisions that ensure the originator remains responsible when the model is developed by third parties.

Environmental performance and sustainability disclosure:

Guidelines include requirements to disclose environmental performance data. These cover principal adverse impact relating to sustainability factors of asset financed by underlying exposures. These requirements do not exceed those applicable to regular non-ABCP securitisations.

Requirements specific for on-balance-sheet securitisation

Credit events covered under the credit protection agreement:

Credit events which trigger payments under the credit protection agreement should include events lists in Capital Requirements Regulation 2013. Forbearance measures consisting of concessions towards a debtor should not preclude the triggering of a credit event.

Credit protection payments:

The guidelines set out credit protection provisions to ensure protection covers losses incurred. Included in this provision, is matching the degree of credit protection to the outstanding nominal amount remaining of the underlying exposure.

Debt workout and credit protection premiums:

The guideline of this requirement seeks to provide legal certainty for investors by specifying the maximum extension period for the debt workout of no longer than two years.

Third-party verification agent:

The guideline prescribes the requirements of third-party agent verification as including capability and experience, and the exclusion of credit rating agencies, or an entity affiliated to the originator, sponsor, investor or SSPE.

Early termination events:

The guideline sets out the conditions under which early termination events are permitted by the originator as well as separate conditions for investors. For the originator these events are restricted to the following:

• The insolvency of the investor.
• The investor’s failure to pay amounts due under agreements.
• The investor’s breach of any material obligation.
• Relevant regulatory events.
• A pre-specified time call during the transaction.
• If the investor no longer qualifies as an eligible protection provider.

For investors an early termination can only occur when the originator fails to pay protection premiums or breaches contractual obligations.

Synthetic excess spread:

The guidelines set out requirements for synthetic excess spread that has been committed by the originator and is available as credit enhancement for the investors. The originator may commit synthetic excess spread when:

• The amount of excess spread is specified transaction documentation.
• Excess spread that is not used to cover losses is returned to the originator.
• The total amount per year should not be higher than the expected losses on underlying exposures.