The EUSR, Article 5(1)(e) and non-EU securitisation

Banks, insurance and reinsurance undertakings, pension funds, alternative investment funds and UCITS funds which are regulated within the EU are all "institutional investors" subject to Regulation (EC) 2017/2402, otherwise known as the EU Securitisation Regulation.

Article 5(1)(e) of the EU Securitisation Regulation says that "prior to holding a securitisation position, an institutional investor ... shall verify that ... the originator, sponsor or SSPE has, where applicable, made available the information required by Article 7 in accordance with the frequency and modalities provided for in that Article".  Article 7 sets out a range of disclosure and transparency requirements, including a requirement for loan-by-loan data to be provided in the form of officially approved data templates.  Importantly, article 7 imposes these requirements on EU originators, EU sponsors and EU SSPEs and such originators, sponsors and SSPEs are subject to censure if they do not comply.

Much consideration has been given to the meaning of the two words "where applicable" in Article 5(1)(e).  If an EU institutional investor is investing in a non-EU securitisation, is Article 7 applicable?

On the one hand there is an argument that Article 7, by its own terms, only applies obligations on EU originators, EU sponsors and EU SSPEs so, in the context of a non-EU securitisation it is simply not applicable.  But, on the other hand, the main regulatory driver for the imposition of disclosure and transparency requirements was the accusation by regulators that many EU investors were not undertaking proper due diligence when investing prior to the global financial crisis and suffered huge losses on many asset classes, such as US sub-prime; why would EU institutional investors not be subject to the same standard when investing in non-EU securitisations as they would be when investing in EU securitisations?

Most EU institutional investors have been cautious and have, to date, tended to invest in non-EU securitisations only where the Article 7 information has been made available to them and in the form prescribed within that Article or in level 2 regulation adopted or excepted to be adopted by the EBA and ESMA.  Further, Article 7 is new to the EU regulatory landscape and transitional implementation provisions have allowed investors a degree of liberty where certain Article 7 information is not presently available.

This is important, particularly in the context of non-EU securitisations because many data fields in the Article 7 data templates are simply not relevant to non-EU transactions or are not considered relevant to the credit assessment of an obligor in markets outside the EU.  On the latter point, it's important to note that the Article 7 data templates have been designed for use by EU banks lending to EU citizens and EU companies within the EU.  They have not been designed for use by, say, an Australian non-bank granting mortgage loans in Australia, an Indian non-bank providing micro-finance in rural India or a Hong Kong non-bank advancing personal loans in Hong Kong, all of which are bespoke local markets with their own credit profiling nuances.

In June 2020, the EU Commission's High Level Forum issued a series of recommendations in relation to the capital markets, among them seven related specifically to securitisation.  Of these, one recommendation related specifically to Article 5(1)(e) and will, if adopted, prove very helpful in the context of non-EU, or third country, securitisation transactions:

Clarification that Article 5.1(e) ... does not apply to third country originator/ sponsor or SSPE. Rather such third country originator, sponsor and SSPE must ensure that the EU-regulated investor has received sufficient information to meet the requirements for due diligence proportionate to the risk profile of the securitisation exposure.

A change in focus to a proportionality based disclosure requirement is refreshing and likely to prove helpful to EU institutional investors who look at investing in non-EU securitisations where the data templates can often be unintuitive and difficult to fully populate.  A proportionality requirement would also, however, ensure that investors do not dilute the extensiveness of their due diligence for non-EU securitisations simply because such transactions are outside the EU.

Non-EU originators, many of which are presently looking to broaden their sources of funding and seeking to attract investment from EU institutional investors, will be looking with interest as to whether and how swiftly this recommendation is adopted by the central EU law making institutions.  The High Level Forum suggests this recommendation be adopted through an amendment to the EU Securitisation Regulation.  This would require a proposal to amend the existing law to be put forward by the EU Commission and a subsequent approval from both the EU Parliament and Council of the EU.

Adopting this recommendation could be win-win for the wider securitisation community - allowing EU investors more flexibility when seeking higher-yielding investments, many of which may be outside the EU, and allowing non-EU investors who are seeking diversified funding more straightforward access to the EU capital markets.  Following the release of the recommendations, the market has seen a noticeably larger portion of the EU investor community making investments outside the EU which highlights that, while the recommendations are not yet law, they are seen as giving a stout steer on the meaning which the EU's Capital Markets Union project imparts on the innocuous two word phrase "where applicable".