Welcome to the end-of-year edition of the STS Newsletter by PCS, keeping stakeholders up to date about market and regulatory developments in the world of STS.
As ever, we very much welcome any feedback on this newsletter.
In this section, we will focus on specific numbers in 2023 before going to a broader analysis of what transpired in 2023 in the STS securitisation markets.
Please note that, differently from most year-end commentaries, we have focused on number of deals rather than volume of issuance. The reason for this is not that numbers have a greater explanatory power than volume but rather that they have a different and complementary explanatory power.
Many research firms and other commentators provide the volume numbers and it seemed of limited value to just do the same. By focusing on numbers, PCS hopes to shed not a better light but a different light on the year.
(All numbers are as of 12th December 2023 and so comparisons with 2022 are not exactly on the same basis. The numbers are extracted from ESMA’s STS database and follow the definitions provided by originators in their STS notifications to ESMA. PCS expects a few additional STS deals by year end but not so many as to invalidate the broad conclusions.)
(Hover over the sections for legends)
Overall, 2023 was a solid year. Public securitisation issuance, STS and non-STS combined, in Europe (including the UK) rose from just under €88 billion to a likely €105 billion total by year-end.
In STS, the number of public transactions rose from 75 (FY) in 2022 to 87 (YTD) in 2023. The number of private STS transactions though fell from 113 to 92. This should reassure those who were concerned about the growth of private STS transactions although PCS has long argued that such concerns were misplaced.
The drop in overall STS transactions resulted from a substantial drop in the number of ABCP transactions from 52 to 24. This, in our opinion, continues the trend that has marked the ABCP STS market since 2019 – namely that existing transactions are converted to STS. Such conversions occur when the individual ABCP transaction comes up for renewal. But, as more and more of the stock is converted to STS, this will result in only the annual flow being notified of STS. This flow is substantially smaller than the stock.
Also driving the drop was the unexpected drop in synthetic/OBS STS trades.
On the other hand, term STS transactions increased to 129 in 2023 from 100 FY in 2022. With only 87 public transactions in 2023 (all labeled “term”) this indicates a substantial number of warehouse and bank facilities being closed as STS.
After a disappointing 2022 which saw RMBS pull closer to autos as the top asset class, auto transactions saw very solid growth as RMBS remained flat. This propelled autos further to the top spot of public STS transactions by number.
For RMBS, the overall flatness masks a more diverse development. The UK, as mentioned, saw very strong growth from 7 transactions to 12. The Netherlands, after an incredibly weak 2022 (only 4 STS public RMBS) saw improved issuance with 7 transactions. The flat year-on-year results from an overall slackening of an already weak issuance calendar in the other European jurisdictions (2 to 1 in France, 3 to 1 in Spain, 3 to none in Italy, etc…). This flatness is also reflected in volumes where the year is predicted to close at €34 billion vs €32 billion in 2022 (STS and non-STS combined).
The stand-out, if predictable and predicted, feature of the year was the strong return of UK issuance after a very weak 2022. The number of UK STS transactions went from 19 to 34 with an almost doubling of public STS transactions from 11 to 21.
The Netherlands also had a better year than the admittedly dreadful 2022, going from 5 public STS transactions to 10. Germany held steady with some growth, going from 12 public STS transactions to 17.
Everyone else was pretty flat to down.
With so far only 26 transactions notified STS this year against 36 over the full year in 2022, this is shaping up to be a disappointing year for this STS category. This is one area where we cannot exclude a flurry of last-minute transactions but nevertheless, we had certainly anticipated a growth in this number for the year.
The growth in both the number and volumes of public STS transactions reflects, in our view, the expected yet partial return of traditional bank issuers to the funding market. As central banks reversed quantitative easing and the ocean of free money dried up, banks had to turn back to more traditional funding channels. This was more pronounced in the United Kingdom because the Bank of England facilities falled to be repaid earlier than those of the ECB. This phenomenon should have occurred last year but was stopped by the reluctance of issuers to wade into the extremely choppy seas of fixed income buffeted by inflation and uncertainty in the timing and size of central bank rate hikes.
For those who have argued that the only reason for the quiescence of the European securitisation markets was central bank monetary policy though, the growth of 2023 is far from the vindication they might have expected.
First, growth to €105 billion from €90 billion is hardly the take-off that Europe needs. This remains light-years away from the €450-500 billion of the pre-GFC traditional market (ie excluding dangerous products such as CDOs).
Secondly, when it comes to selecting channels for funding, covered bond issuance dwarfs securitisation. For 2022, mortgage-covered bond issuance in Europe exceeded €600bn against €32bn for RMBS and €88bn for all securitisations. In another indication of the distance securitisation still has to make up, the number of issuers in RMBS is only a fifth of the number issuing mortgage-covered bonds.
It should also be noted that the growth in public STS transactions is not matched by overall growth in STS numbers. Public transactions may have gone from 75 in 2022 to 87 in 2023, but total numbers were 179 YTD against 188 FY in 2022. This phenomenon be seen for example with autos. When one counts both public and private STS auto transactions, the growth is noticeably more muted – overall growth was only from 51 transactions in 2022 to 56 in 2023 against the 30% (33 to 43) seen in the public space. This suggests that we are seeing more of a return to the public markets away from private trades than a return to securitisations.
OBS - the market that failed to bark
Nevertheless, 2023 was a solid year for STS true sale securitisation. This cannot be said of synthetic/OBS STS transactions. With the approach of the Basel III final implementation in January 2025 and the imposition of the “output floor”, expectations were firmly for a growth in the synthetic SRT market. With the benefits provided by STS in terms of capital reduction, it was also expected that much of this growth would be STS. The synthetic market being entirely private, it is difficult to gauge its actual growth. Estimates suggest that the protected notional rose to €250bn in 2023.
So where are the STS trades? Again, the private nature of the market makes it difficult to assess. (Also, a late surge is not impossible, although at this stage improbable). One reason suggested anecdotally for the relative lack of synthetic STS is, once again, the inadequacy of the regulatory framework for European securitisation. Under Solvency II, which sets out the capital requirements for insurance undertakings, the capital an insurer must set aside if it enters into a synthetic securitisation on the asset side of its balance sheet is massively greater than the capital it needs to set aside for the identical contract if called an “insurance policy” and lodged on the liability side of its balance sheet. So, PCS understands that insurance companies are prepared to write these synthetic securitisations much more cheaply if they are insurance contracts than traditional synthetic securitisations. But insurance contracts not being cash collateralised, cannot be STS. Yet, so cheap are these synthetics in insurance format that the additional capital the originator needs to hold because of the absence of STS is more than compensated by the lower cost charged by the insurance company.
It is also possible that fewer deals were done in STS format but the average protected notional per deal increased so that the 26 STS transactions so far this year generated RWA reductions equivalent to those achieved last year with more deals.
What about the investors?
In the EU, the number and identity of the tiny investor base in the senior tranches of true sale securitisations (where the bulk of the cash investment resides) remain unchanged at barely forty players. (The investor base in mezzanine pieces, especially in synthetic format, is considerably larger – at around 200 to 250).
One development was the willingness of some investors to react to spreads by shifting the segment of the market in which they chose to invest. Broadly speaking, in the EU secondary spreads for the senior notes tightened throughout the first half of the year, bottoming out around mid-May to widen gently but firmly in the second half, to end pretty much where they started. By way of example, the Dutch AAA RMBS spread that set off at 38bp in January tightened to 29bp by late May to end the year at 42bp. Similarly, AAA autos that started 2023 at 38bp, tightened to 27bp late May to go back to 39bp at the end of the year.
What transpired is a very substantial volume and number of STS issuance in September and October driving spreads up. Although some expressed concerns about the market’s capacity to absorb this issuance – especially in the seniors where, as we saw, the bulk of the volume resides – the market took all this in its stride but only because some existing mezzanine investors who had stopped purchasing senior tranches due to the narrowness of the spreads were willing to go back into the senior space at the new higher spreads.
The lesson here is though that growth in volume has not resulted in growth in the EU investor base.
Another sign of the fragility of the market is that the other reason the market was able to absorb the autumn spike in volume is that traditional public bond issuance has almost disappeared in STS securitisations. It has been replaced by longer lead times, public deals that are really privately placed with very few investors, and transactions where the issuance amount is uncertain and will be low-balled for fear of a failure only to be upsized at the last moment.
PCS believes that extending the minuscule senior tranche securitisation investor base is the essential step to a healthier and deeper market.
Interestingly, the UK in 2023 showed how this might be done. As we saw, UK growth was more than solid this year and, unsurprisingly, RMBS spreads followed by widening throughout the year. And by all accounts, that growth did see new investors move it. These new investors were bank treasuries. Why? In our view the heavy mandatory work required by new investors means that only bank treasuries have both the investable volumes and the sophistication to be able to move rapidly into the securitisation market in volume. This is key to understanding why getting the CRR capital calibration correct for bank investors is so important even if the ultimate aim is to move securitised assets outside the banking system: banks are the only credible first-mover investors able to generate liquidity fast and prime the pump for other types of investors to move in over the longer term.
The last few years have been such that one might conclude the black swan event of 2024 would be the absence of a black swan event.
Assuming that 2024 does not throw any shattering surprises (which bearing in mind that there are elections in the USA and the EU and possibly/probably the UK is already a big ask), PCS expects 2024 to be like 2023 except more so.
Assuming no new QE, the return of institutions to true sale securitisation for part of their funding is not a one-off event. Their funding needs will continue into 2024 and beyond. We also anticipate that more continental European banks will follow suit as final TLTRO payments are made. Due to the dominance of covered bonds, securitisation funding will be only an adjunct but will nevertheless increase true sale issuance. Since plain vanilla transactions in plain vanilla asset classes are likely to generate the cheapest cost of funds, we also anticipate that this funding will be mainly in STS format.
On the headwind side of the ledger, the market and most economists still foresee a slowdown and possibly a recession in Europe for 2024. This is unlikely to be so severe as to call into question the credit solidity of existing or even future securitisations. It may though slow down new asset generation as retail customers shun new borrowings. Banks have sufficient un-securitised stock for their securitisation calendar to be unaffected by slowing asset generation. However, this could affect the volumes securitised by non-bank financial institutions.
On balance, even if the recession materialises, we believe the growth from bank funding needs will outweigh a reduction in non-bank financial institution issuance to produce a moderate growth in true sale securitisation in 2024.
For synthetic/OBS STS securitisations, the private nature of the market renders it too opaque to make any sensible predictions. The synthetic SRT market will likely continue to grow substantially. How much will be in STS format though remains mysterious.
The year 2024 will see elections to the European Parliament in June followed by a new European Commission in September or maybe October, with the last plenary vote for this European Parliament in April. This is, therefore, a good time to reflect on what has been achieved in the four and a half years of the current Parliament and what 2024 and beyond may bring to the world of European securitisation regulation. (Of course, the UK is no longer part of the union and carving its own path. For those interested in what that path may be, we suggest our Special UK Edition newsletter.)
The almost-empty glass view
When the last EU elections took place in May 2019, the Securitisation Regulation had just become law. The market set off on a long march to improve the framework and complete some of the reforms that were felt not to have been brought to their logical conclusions. The list of desiderata included:
Of that long list, synthetic STS was the only item that was successfully achieved (and even then, many believe at too high a cost in complexity). Limited success was achieved around the SRT process and an extremely narrow amendment of very limited application to the p factor was introduced.
So, looking back a glass almost empty
The glass-half-full view: a new mood music
Despite this paucity of achievements, it would be wrong to conclude that securitisation has made no progress during these last few years. Those interacting frequently with policymakers in Brussels and across European capitals have been aware of a very clear shift in what one can call the “mood music”. Five years ago, some policymakers were convinced that securitisation was not definitionally a tool of mass destruction but few risked saying so in public for fear of a political backlash. Even those few rarely saw well-executed securitisation as more than a “nice to have” aspect of the European capital markets: a useful financing channel with some potential capital management benefits but hardly one that had real potential to transform the architecture of European finance. And, amongst policymakers, some of the most sceptical were to be found in the Parliament.
Today, the landscape feels very changed. During the debates on the reviews of CRR, Solvency II and the introduction of an EU Green Bond Standard, support for securitisation (especially STS) was notable from a wide spectrum of the key parliamentary political families.
At the member state level (the Council), the heavyweight Franco/German couple – in the form of their respective ministers of finance – openly called for the return of a safe and strong securitisation market as a key to achieving the capital market union. Finally, and most recently, as eminent a personage as Christine Lagarde placed securitisation front and centre of her plea to build a real European capital market.
The result of all these developments was to raise securitisation to the status of a strategic initiative. This is a dramatic contrast to what it was in 2019: at best merely one item in a long laundry list of possible “nice-to-haves” of a future capital market (see, for example, the High-Level Forum Report of 2020).
How this transformation came about is complex. It involves, in our view, a host of interlocking events from, at the highest level, the invasion of Ukraine to the US Inflation Reduction Act to, more prosaically, the continuing high-level credit performance of securitisations as well as the politics of the Banking Union. It is certainly a topic too weighty and extensive to be dealt with in an end-of-year newsletter.
However, the revival of securitisation is now a key strategic challenge for the European Union to be played out at the highest political levels. And that is good news for those who hope to see positive changes being introduced in the next European parliamentary term.
Too early for poultry counting
As we have seen, the battle for the hearts and minds of policymakers has shown great progress in the last few years. But real change still needs to be put in place and can only come from legislative change voted by the next Parliament, with support for the Council and the next Commission.
And despite the progress, strong redoubts of scepticism remain to be conquered.
First, all member states have not rallied to the new Franco-German support for a revived securitisation market. Political changes in Germany could also modify the contours of that alliance when it comes to securitisation.
The European Supervisory Authorities have shown little enthusiasm for the completion of the reforms already started beyond some positive but small tweaks. EIOPA, looking after insurance regulation, seems especially uninterested.
Finally, much will turn on the final electoral results of the June elections and what kind of parliamentary majority will emerge: a grand coalition willing to push forward the European project or a populist majority at best uninterested in “more Europe”.
So the securitisation community is most definitely in a better place when it comes to the European policy-making “mood music” than it was in 2019 but the practical battles remain to be fought and the landscape in which they will be fought could itself change quite dramatically.
We would like to take this opportunity to thank our readers and other stakeholders for their support throughout 2023, as well as convey our season's greetings and best wishes for the new year.
So, from London, Paris, Milan, Munich, Poznan, Amsterdam, and New York, the Outreach Team and the Analytical Team from PCS send you this season’s greetings and wish you a happy, prosperous, and healthy 2024.