After years of waiting and multiple drafts, the final version of the EU Regulatory Technical Standards on risk retention was published in the Official Journal of the European Union on 18 October 2023. In addition, we have recently seen the following regulatory developments that will impact the EU and UK securitisation markets:

1. Publication of the UK Securitisation Regulation Statutory Instrument and the related draft FCA rules and draft PRA rules.
2. The announcement that the Cayman Islands have been removed from the FATF “grey list” and, consequently, is expected to be removed from the EU AML blacklist.
3. The release by ESMA of revised Q&As on the EU Securitisation Regulation.

Set out below is an overview of these regulatory developments.

Final Risk Retention RTS

The long-awaited Regulatory Technical Standards on risk retention were published in the Official Journal of the European Union on 18 October 2023 (the “Final RTS”). The Final RTS entered into force on 7 November 2023 and can be found here.¹ The Final RTS is in substantially the same form as the final draft Regulatory Technical Standards on risk retention that were published on 7 July 2023 (the “Final Draft RTS”).

As a reminder, the Final Draft RTS incorporated limited changes to the draft Regulatory Technical Standards on risk retention published in April 2022 (the “2022 Draft RTS”). The key revisions were:

1. Sole Purpose Test: the EU Securitisation Regulation provides that an entity may not be an originator if it has been established or operates for the sole purpose of securitising exposures. The 2022 Draft RTS provided guidance for satisfying the sole purpose test, including that the entity’s ‘responsible decision makers’ must have the necessary experience to enable the entity to pursue the established business strategy. In the Final Draft RTS, this language has been revised so it instead refers to the ‘members of the management body’ of the entity
2. Retention of Randomly Held Exposures: the EU Securitisation Regulation provides that the risk retention requirement may be satisfied by retention of randomly held exposures equivalent to not less than 5% of the nominal value of the securitised exposures. The Final Draft RTS clarifies the factors that should be taken into account (such as vintage, industry, geography and maturity date) when selecting exposures to be retained
3.  Own-issued Debt Instruments: the Final Draft RTS provides that the retention requirements of the EU Securitisation Regulation will be considered satisfied where (i) an entity securitises its own-issued debt instruments (including covered bonds), and (ii) the underlying exposures comprise exclusively those instruments.

UK Securitisation Regulation

Following in the wake of the announcement of the Edinburgh Reforms last year (a broad regulatory initiative introduced to reform financial services regulation in the UK), a series of new proposals was presented by the UK Chancellor on 10 July 2023, dubbed the ‘Mansion House Reforms’. The Mansion House Reforms included an updated, near final draft of the Statutory Instrument for the UK Securitisation Regulation (the “Draft UK Securitisation Regulation”). The Draft UK Securitisation Regulation can be found here.²

The Draft UK Securitisation Regulation empowers the Financial Conduct Authority and the Prudential Regulation Authority to develop rules covering a wide range of the current UK Securitisation Regulation requirements. On 27 July 2023, the PRA published a consultation paper that included a draft securitisation rules instrument (the “Draft PRA Rules”). On 7 August 2023, the FCA published a consultation paper CP23/17 (the “FCA Consultation Paper”) containing the FCA’s proposed draft UK securitisation rules (the “Draft FCA Rules” and together with the Draft PRA Rules, the “Draft Rules”). Once enacted, the Draft UK Securitisation Regulation, the Draft PRA Rules and the Draft FCA Rules (together, the “Draft UK Securitisation Regulation Rules”) will replace the retained EU Securitisation Regulation onshored into UK law following the end of the Brexit transition period. The Draft PRA Rules can be found here³ and the Draft FCA Rules can be found here.⁴

In terms of which set of rules apply, generally speaking:

1. in relation to the due diligence requirements:
   1. the PRA Rules apply to institutional investors who are PRA-authorised persons; 
   2. the FCA Rules apply to institutional investors who are FCA-authorised persons and who are not PRA-authorised persons; and
2. in relation to the risk retention requirements, transparency obligations, resecuritisation restrictions and credit granting standards:
   1. the PRA Rules apply to originators, sponsors, original lenders and SSPEs who are PRA-authorised persons; 
   2. the FCA Rules apply to originators, sponsors, original lenders and SSPEs who are not PRA-authorised persons, regardless of whether such entities are FCA-authorised persons.

The Draft UK Securitisation Regulation Rules broadly align with the existing UK Securitisation Regulation requirements, except for a few changes that are intended to clarify some aspects of the existing UK Securitisation Regulation and to improve the efficiency of the securitisation market. We highlight some of these key changes below.

Draft UK Securitisation Regulation

The key changes contained in the Draft UK Securitisation Regulation are:

1. Due diligence requirements: the definition of “institutional investors” has been narrowed to clarify that the UK due diligence requirements do not apply to UK-authorised alternative investment fund managers who only market and manage alternative investment funds outside the UK.
2. Establishment of SSPEs: the Draft UK Securitisation Regulation places the onus on originators and sponsors of securitisations to ensure that a securitisation special purpose entity (a “SSPE”) is not established in a jurisdiction outside of the UK that is considered to be high risk by the Financial Action Task Force (the “FATF”). In addition, the Draft UK Securitisation Regulation prohibits institutional investors from investing in a securitisation where the SSPE is established in a high-risk jurisdiction.
3. FCA and PRA powers: the FCA and the PRA will have broad enforcement powers under the Draft UK Securitisation Regulation, including the ability to suspend individuals from holding a position involving responsibility for taking decisions about the management of an originator, sponsor or SSPE (each a “Sell-Side Entity”), issuing a notice of public censure against an individual or an originator, sponsor or SSPE and levying financial penalties.

Draft PRA Rules and FCA Rules

The following is a summary of the main changes proposed by the Draft Rules:

1. Jurisdictional Scope: it is currently unclear whether the UK Securitisation Regulation applies to entities established outside the United Kingdom. The Draft Rules propose to limit the application of the rules to entities established in the United Kingdom, where “established in the United Kingdom” means an entity that is constituted under United Kingdom law with a head office, or, if it has a registered office, that office is in the United Kingdom.

2. Reporting Due Diligence: the current UK Securitisation Regulation provides that UK institutional investors must, before investing in a securitisation, verify that:

1. if the Sell-Side Entities are established in the UK, the information required by Article 7 is made available, or;  
2. if the Sell-Side Entities are established outside of the UK, information which is substantially the same as the information required by Article 7 is made available.

It is unclear to investors what information needs to be provided to satisfy the “substantially the same” requirement. The Draft Rules propose a more principles-based approach to clarify this uncertainty and to eliminate unnecessary restrictions for UK investors. The Draft Rules replace the requirements in limbs (a) and (b) above with a single approach which requires UK institutional investors to ensure:

1. the information a Sell-Side Entity has made available is sufficient to enable it to independently assess the risk of holding the securitisation position;
2. a Sell-Side Entity has made available certain specific information, including the offering documents, information regarding the legal documentation and monthly reporting (in the case of assets-backed commercial paper transactions) or quarterly reporting (in the case of any other transactions); and
3. there is a commitment from a Sell-Side Entity to report any change or event materially affecting the transaction as soon as reasonably practicable following such event.

The due diligence requirements under the Draft Rules focus more on the substance of the information, rather than the format of the information. Sell-Side Entities will, however, still be required to provide information in the form prescribed by the reporting templates.

3. Sole Purpose Test: the current UK Securitisation Regulation provides that an entity may not be an originator if it has been established or operates for the sole purpose of securitising exposures. The RTS then provides a safe harbour whereby an entity will not be considered to have been established or to operate for the sole purpose of securitising exposures if:

1. the entity has a strategy and the capacity to meet payment obligations consistent with a broader business model that involves material support from capital, assets, fees or other sources of income, by virtue of which the entity does not rely on the exposures to be securitised, on any interests retained or proposed to be retained, or on any corresponding income from such exposures and interests, as its sole or predominant source of revenue; and
2. the members of the management body have the necessary experience to enable the entity to pursue the established business strategy, as well as adequate corporate governance arrangements.

The Draft Rules introduce two significant changes to this language from the RTS:

1. The Draft Rules provide that, for the purpose of determining the sole purpose test, “relevant considerations include” limbs (a) and (b) above. This indicates that the factors in limbs (a) and (b) are not determinative and other factors may be considered.
2. The Draft Rules exclude the restriction on an originator relying on income from securitised exposures as its “sole or predominant source of revenue”. The Draft Rules focus on an originator having the capacity to meet payment obligations from income other than income from securitised exposures.

4. Reporting Templates: each of the FCA Rules and the PRA Rules set out reporting templates. In their current form, the FCA and PRA reporting templates are identical and are largely consistent with the current UK reporting templates.

There are some differences between the rules proposed by the FCA, PRA and Treasury and one of the key comments made so far by industry groups is that harmonisation between the three sets of rules would make future compliance with UK Securitisation Regulation simpler.

FCA Consultation Paper

In the FCA Consultation Paper, the FCA noted that it and the PRA are currently reviewing the reporting requirements under the UK Securitisation Regulation. The FCA is aware that the definition of securitisation is broad and currently captures bespoke, asset-backed transactions with a small number of investors. The FCA is considering whether the reporting templates for these “private” securitisations could be made more proportionate. In addition, the FCA is considering whether to make changes to the reporting templates generally in order to ensure that the correct balance is achieved between making information readily available to investors and the usefulness of that information.  

Cayman Islands

In February 2021, the Cayman Islands were added to the FATF ‘grey list’ of jurisdictions under increased monitoring that are actively working with FATF to address strategic deficiencies in their regimes to counter money laundering, terrorist financing and proliferation financing. Following such addition, the Cayman Islands were added to the EU AML blacklist. Consequently, EU investors have been prohibited from investing in securitisations where the SPV issuer is established in the Cayman Islands.

The Cayman Islands has been working with FATF to correct the deficiencies, and in June 2023, FATF made an initial determination that the Cayman Islands had substantially completed its action plan for correcting these deficiencies. FATF has since completed an onsite assessment to verify that the implementation of the AML/CFT reforms had begun and was being sustained, and that the necessary political commitment remained in place to sustain implementation in the future. On 27 October 2023, FATF released a statement providing that the Cayman Islands had made significant progress in improving its AML/CFT regime and that the Cayman Islands is therefore removed from the FATF “grey list”. Following such removal, it is expected that the Cayman Islands will also be removed from the EU AML blacklist. If the Cayman Islands is removed from the EU AML blacklist, EU investors will once again be able to investing in securitisations where the SPV issuer is established in the Cayman Islands.

ESMA Q&A

Lastly, ESMA released revised Q&As on the EU Securitisation Regulation that included several updated responses and answers to new questions. The Q&A can be found here.⁵ One response worth highlighting is a response to a question regarding whether, following an amendment of a transaction document, the superseded document should continue to be made available to investors pursuant to the EU Securitisation Regulation. ESMA clarified that the superseded document should remain available as removing such document would pose a risk to the completeness and consistency of the available documentation.

Footnotes

1) https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=OJ:L_202302175

2) https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/1168703/Securitisation_Regulations_2023_-_Draft_SI.pdf

3) https://www.bankofengland.co.uk/-/media/boe/files/prudential-regulation/consultation-paper/2023/july/cp1523app1.pdf#page=3.ashx

4) https://www.fca.org.uk/publication/consultation/cp23-17.pdf

5) https://www.esma.europa.eu/sites/default/files/library/esma33-128-563_questions_and_answers_on_securitisation.pdf