The “Risk Retention Rule” has been in effect for a little over two years for asset-backed securities (“ABS”) collateralized by residential mortgages, and for over one year for all other classes of ABS. While a general market consensus with certain aspects of the Risk Retention Rule has developed during this period in various asset classes, ABS securitizers and issuers continue to experience uncertainty in compliance for other areas and asset classes. King & Spalding has been at the forefront of the legal market in considering the Risk Retention Rule, and particularly in certain esoteric areas of the market. In this update we explore below some important contrasts and distinctions among the traditional ABS asset classes that must comply with the Risk Retention Rule, certain clarifications under recent court cases and issues arising with certain esoteric asset classes gaining traction in the ABS market. We also discuss recent developments in the market satisfying the Risk Retention Rule for more traditional ABS asset classes and some trends we are seeing in the esoteric space.

CLASSES OF SECURITIZED ASSETS SUBJECT TO THE RISK RETENTION RULE -

The Risk Retention Rule requires that securitizers, or “sponsors” of securitizations, “retain an economic interest in a portion of the credit risk for any asset that the securitizer, through the issuance of an asset-backed security, transfers, sells, or conveys to a third party”. The critical characteristic in determining whether an ABS security is subject to the Risk Retention Rule is whether it is “collateralized by any type of self-liquidating financial asset (including a loan, a lease, a mortgage, or a secured or unsecured receivable)” for which payments "depend primarily on cash flow from the asset”. A self-liquidating asset is generally viewed as one that is capable, pursuant to its terms, of generating sufficient income by way of distributions and payment at maturity to return the ABS investment.