Out of the dimensionless emptiness of the information vacuum surrounding Dodd-Frank risk retention that enveloped us early this year, the word is now spreading, through what you might charitably describe as informal communications (leaks), that the joint regulatory committee responsible for the risk retention rules is about to re-propose something, perhaps as early as September.

Why, might one ask have we been waiting these many years for something Congress promised within 270 days of the date Dodd-Frank was birthed in 2010. (Not that I'm complaining.)

It is because the politically important legions that rely on the residential mortgage marketplace for their daily bread did not want risk retention.

This is very simple - nothing should stand in the way of the ease and profitability of delivering financings to the residential marketplace. Risk retention is sand in the machinery of capital formation so, no risk retention please. Just saying no would have been a loser for the resi constituencies and if that was all they had, we'd have had rules long ago. But Dodd-Frank provided an escape hatch, the Qualified Residential Mortgage (QRM). A QRM is supposed to be a safe and transparent financial asset. If one securitizes nothing but QRMs, so the theory goes, the resultant securitization will be so safe that there will be no need for that pesky alignment of interest between the originators and investors known as risk retention.

This gave the resi gang a life raft and it's the battle over the shape and size of that little dingy which has consumed three years and millions of dollars of lawyer, consultant and lobbyist time.

And so the battle was joined over QRM. Those charged with protecting the principals of banking safety and soundness wanted the standards for QRM to be very high. The residential posse wanted the standards to be quite low. Urged on by various wise and thoughtful voices within the cadres of our elected representatives in Congress (that's satire if I wasn't clear), the regulators, fans and foes of an easy QRM have stared implacably at each other across a regulatory no man's land, which would seem familiar to any survivor of Verdun. If one believes risk retention will slow capital formation in the residential market unless a QRM is a lot like the type of home mortgages that we've been making for many years and to tighten QRM is to gaze into the abyss of a new residential mortgage downturn with its attendant political price, a rigorous QRM is anathema. If you think crappy residential loans played a large role in getting us into the credit crisis in the first place, loosening standards is equally anathema. Trench warfare ensued.

To get a bit more into the weeds, the problem is what Congress did, or didn't do. If you remember (and if you’re actually following all this that closely you really need more to do), the 5% risk retention structure of Dodd-Frank included several carveouts, safe harbors or exceptions. One of these is the QRM exception. In brief, the statute said that if all of the loans you are securitizing are really good residential mortgages, then the pool is deemed sufficiently safe that risk retention is not required. Fortunately, or unfortunately, the legislation didn’t say what a QRM was and booted that potential hot potato to the regulators. They were delighted, I’m sure.

So the debate raged on; some constituencies have argued that a QRM should be an iron-clad mortgage loan, certain to be repaid with a 10 or 20 or even 30% down payment and a 30 year self-amortizing liquidation schedule. By God, that’s manly! Others have pointed out that there are maybe three dozen people left in America who could qualify for that mortgage and actually want it; therefore, embracing such a draconian conception would result in the private label securitization business remaining, like Generalissimo Franco, still dead. And as GSE reform clanks along, it creates the possibility that we would have a credit crunch in the residential mortgage space. That is, essentially, not possible for political Washington to contemplate.

So something’s coming, and we don’t know what it is. The betting is that QRM will be set at some moderately middle of the road place (and if they were going to be Solomonic couldn't they have gotten that done years ago?). If this is the compromise many, if not most, traditional conventional mortgage loans would qualify. Presumably (and I admit that I'm being a tad facetious here), no "no doc" loans will qualify.

In any event, that is the back story for the clarion call for the commercial interests to man the barricades and prepare to engage and fight the good fight for risk retention because as soon as the QRM debate is resolved, the regulatory dam will break and the rest of the risk retention regime will be released upon us.

In the commercial space, the statute contemplated a number of exceptions to risk retention, including a corresponding qualified mortgage exception, but the betting is that on the commercial side, none of the exceptions will be embraced in the regulations in a way to make them workable because the regulatory community is dead fixed on 5% risk retention across the board.

Perhaps the good news is that almost, and I emphasize that, almost everyone thinks Premium Recapture is finally dead and off the table. (And that seems right as the consequence of including premium recapture would be to entirely end conventional securitization. There are enough members of the regulatory community who understand that that would be bad). In large measure, commercial risk retention will be just that, an obligation of the sponsor, issuer or the originators or B piece buyer to retain significant skin in the game. Again, the betting is that there will be no qualified mortgage even in the absurd situation where a mortgage is fully investment grade and there is no business purpose to create a B piece, horizontal and vertical risk retention will be the name of the game. The bad news is that the talk is that risk retention will be 5% by value which would require the holders of the B piece to retain up into investment grade in most cases. The good news (and I'm kind of stretching here) is that if a B piece buyer satisfies the risk retention, it will have a hold period of only 5 years.

And everything I just said might be wrong. It is gleaned from multiple conversations with folks that are generally in the know and a consistent story has been told, but we will see. I have seen regulatory initiatives take hard right turns late in the game before, and it could happen again.

So, again to my theme - back to the barricades. We are going to see a Proposed Rule, we are going to have a very short period of time to react to it, and there will be things that will need to be fixed. Talk from the chattering classes is that there will be a very low tolerance for fixing things, even things which are obviously broke, but we have to do our best. We should also keep in mind as we try to fix the US domestic risk retention regime, we will be stuck, come hell or high water, with 122A in Europe, and the risk retention regime embedded in the AIFMD which will mandate risk retention for virtually any vehicle in Europe that might conceivably buy a bond. I'm not sure if that makes it worse or better. In any event, these issues will confront us in the fall and everyone should pay attention. Maybe, just maybe if we're quick, thoughtful and coherent, some of the things that will undoubtedly be wrong with the new regulations can be fixed.