As a conference, ABS East has a much broader constituency than just residential mortgage-backed securities issuers.
It encompasses a variety of issuers from auto finance and credit cards to equipment and solar-panel lenders — many of whom have been much more active in terms of new issuance than RMBS.
This morning, I participated on a panel on the challenges of implementing Reg AB II, which touched on a new rule that will affect all issuers of publicly traded securities, including RMBS issuers, when that market returns.
That rule is the new Asset Representations Reviewer provision. After November 23rd, all issuers of publicly traded securities must include and name an ARR in their shelf offering documents.
The Securities and Exchange Commission requires the inclusion of an ARR to give investors and trustees more insight into the performance of loans in these securities, particularly with respect to adherence with the representations and warranties made about them.
The role of the ARR is, to some extent, rather broadly prescribed with some aspects which can be shaped by the issuer.
At the most basic level, the ARR is charged with reviewing the representations and warranties of all loans that are 60+ days delinquent, as of a triggered cut-off date. The ARR will specifically focus on the representations and warranties that, if breached, could result in a repurchase demand, and report on observed non-compliance.
The ARR is meant to be an objective fact finder for the trustee and the investors, not an advocate. For this reason, the regulations explicitly restrict the ARR from determining whether there has been a breach of representations and warranties and from recommending a repurchase.
What the investors will receive from the ARR, upon the occurrence of a triggered review event, is a high-level report describing the number of loans that were reviewed, what “tests” were run, the number of loans that failed and which tests were failed. The report will not go into the reasons why the loan failed or what action should be taken — that continues to be the role of the trustee.
In proposing the concept of ARR, the SEC recognized that one size does not fit all when it comes to asset reviews. Instead, the commission acknowledged that there will be differences in performance expectations from asset class to asset class and in deal structures (think: credit card master trust vs. RMBS or auto floor plan deal). To account for these differences, the SEC gave issuers a fair amount of flexibility in determining the two “triggers” that will prompt review.
The first is the delinquency trigger. Set by the issuer, the trigger is calibrated to the expected performance of the assets: so a super prime jumbo deal will have a different trigger than, say, a scratch-and-dent student loan transaction. Delinquency triggers may vary in design and threshold; however, issuers must describe and support the trigger used in each transaction. For example, some issuers may establish the delinquency trigger as a percentage or multiple amounts above a long-term trend of historical performance for similar collateral.
Even if delinquencies reach a trigger point, a second trigger — an investor vote — is required to approve the review. Here again, the SEC has allowed the issuers the leeway to determine, within reason, what is the appropriate percentage of votes needed to trigger a review.
As an expert of asset reviews, our company is helping issuers get ready for the new ARR requirements and to align deal documents and agreed-upon testing procedures with the performance characteristics and risks of their specific asset classes. Our role in helping issuers is why I was on today’s panel.
Our involvement in the ARR process came about when one of the early “pilot” firms asked us to consult on how to define and build out the role of an ARR. Since then, we have been engaged by a number of leading issuers across a variety of asset classes, including automotive, credit cards and student loans.
Specifically, we have been working with issuers to help them with these 5 points:
- Describe the role and process of the ARR in their offering documents.
- Understand market views on which representations and warranties will be tested.
- Define what constitutes a reasonable and applicable test for each in-scope representation and warranty, in consideration of available review information and materials.
- Develop agreed upon ARR workflow processes and report templates.
- Design a transaction agreement that spells out the responsibilities of all the parties to the ARR process, including the trustee, investors and servicer
Timelines to complete the implementation process vary among issuers and is driven largely by the number of ABS platforms (e.g., loan, lease and floor plan may be required for certain automotive asset issuers), the availability of client staff to assist with the sourcing of review information and vetting/approval of proposed test procedures, timing required by clients for legal document review, and SEC submission review cycle timing. Typically, we recommend that issuers allot upwards of 45-60 days to work through the entire process.