Publication
The robots are coming … is insurance ready for AI?
The insurance industry is founded on predicting, as accurately as possible, whether or not a risk will materialise in a fast-moving competitive environment.
Global | Publication | November 27 2015
APRA’s discussion paper and proposed new APS 120 provide some welcome clarification and concessions for Australian market participants. Released on Thursday 26 November 2015, the proposals will be open for comment until 1 March 2016. The proposed effective date for these rules in 1 January 2018.
Amongst the more important proposals are:
De-facto master trust approval
A range of proposed changes seem to point the way for de-facto approval of master trusts. These changes could provide a further boost for funding profiles of banks and other authorised deposit-taking institutions (ADIs) and a likely increase in the potential size of the term securitisation market because of lower funding costs for banks and a broadening of the potential investor base. Master trust structures involve different tranches of notes being issued through a single trust, all of which are collateralised by a shared pool of receivables. The new proposals do not expressly reference master trusts but APRA’s implicit support for these structures seems reasonably clear because of the change from APRA’s previous positions on the following proposed rules. Each of these points had previously been identified by both market participants and ratings agencies as barriers to the creation of an Australian master trust market:
Removing “skin-in-the-game” requirements
As APRA notes, credit risk retention (otherwise known as “skin-in the-game”) requirements are intended to address potential misalignment of incentives, namely between an originating bank’s interests and investor’s interests. This could result in lenders lacking motivation to originate higher quality loans, since they would not have credit exposure to those loans once they are securitised. In other words, these requirements are based on the premise that if banks have 'skin in the game' they will be less likely to originate dubious receivables and seek to transfer the risk of those receivables to a securitisation vehicle. This was a key issue that arose in some offshore securitisations during the financial crisis and caused offshore regulators to require originators to have “skin in the game”.
APRA has now dropped its “skin-in-the-game” requirement; something of a reprieve for the Australian market. This requirement, if implemented, would have required an originating bank to retain a minimum of 20% of the subordinated (ie, junior) notes in a securitisation.
In doing so, APRA is seeking to ensure that it continues to follow its objective of creating a simplified framework that enhances competition and competitive neutrality, particularly from the perspective of Australian ADIs seeking to issue internationally. Equally, it has been noted that the 20% requirement would have put ADIs at a competitive disadvantage when compared with non-ADI originators in the local market. APRA has also emphasised both the current Australian ADI preference against ‘originate-to-distribute’ business models (whereby lenders write the vast majority of their loans with the intention of selling them to investors, as opposed to holding the loans to maturity) as well as the linkages that Australian ADIs have to their securitisation programmes (including servicing roles and residual income benefits). Each of these arguably reinforces incentives amongst the banks to maintain the quality of lending standards.
As a leading provider of securitisation advice services, our team will be working with clients and industry bodies to provide feedback on the proposals.
Publication
The insurance industry is founded on predicting, as accurately as possible, whether or not a risk will materialise in a fast-moving competitive environment.
Subscribe and stay up to date with the latest legal news, information and events . . .
© Norton Rose Fulbright LLP 2023