Basel III

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Jens Weidmann, president of Deutsche Bundesbank, recently wrote a terrific piece in the Financial Times, making the point that the Faustian bargain between European sovereigns, their national banks, the ECB and EU policymakers to encourage European banks to gorge on sovereign debt may be politically attractive in the short run while being fundamentally a horrible idea. With a wink and nod, President Draghi of the ECB essentially told the world that the ECB would keep the European banks afloat. With that assurance in their pocket, and the gnomes of Basel III declaring sovereign debt riskless, requiring essentially no capital, the banks continue to buy their sovereign debt – and buy big. By doing so, the banks become enablers of bad fiscal policy, artificially lowering the risk premia on all risk assets (resulting in mispricing), and clogging their balance sheets with government IOUs. The result: The banks are less able to support the real economy.Continue Reading European Sovereign Debt and the Clogging of the Banking System

There’s a lot of talk these days about the growth of a shadow banking market. Shadow is right! The growth of the commercial lending market outside of the universe of insured depository institutions and life insurance companies is real and its growth is accelerating, yet it is not easy to discern its size, shape and taxonomy. The shadow banking market, which simply means the community of lenders outside of the bank and lifeco cadres, is a logical response to a worldwide tsunami of regulatory activity designed to constrain innumerable facets of financial institutions’ operations which often seems more about retribution than the safety, soundness or integrity of the financial markets life.Continue Reading The Shadow Banking Market: The Shadow Knows

Last week, I spoke in London at a conference, “Investing in Bank Assets” sponsored by the Association of Financial Markets in Europe (AFME). The Conference had a titillating, if a tad alarming, subtitle “The European Purge Begins”.

The question is, of course, is it true?  The purge, I mean.   Is there a European purge afoot, and are there massive opportunities to invest in European bank assets? I, for one, certainly hope so. 

Let’s test the case. Those who read this blog regularly will be aware we’ve been chirping about these opportunities for quite some time. Having participated on one side or another in most of the recent European banks’ initiatives to dispose of dollar denominated US assets, we’ve become quite fond of this nascent trend. And, not to bury the lead, we think there is a very large opportunity in the disintermediation from European banks, and a particularly large opportunity with respect to US commercial mortgage loan assets held by our European friends over the next 12 to 24 months. By the way, kudos to AFME, Gilbey Strub, Managing Director for Resolutions and Crisis Management at AFME and her colleagues for putting on a terrific show. It was co-sponsored by Dechert and by Alvarez & Marsal.Continue Reading MORE ON OPPORTUNITIES IN EU BANKLAND

While Europe is sorting through Dexia’s assets, it is worth exploring Dexia’s fall in light of Basel III. As mentioned here previously, Dexia had been reporting Tier I capital of roughly 10%. Well done! That would clearly meet the proposed capital requirements to be phased in over the next year. So what went wrong?

Dexia had pursued a strategy of aiming to be the largest player in municipal financing. It owned gobs of sovereign debt. Down-grades and write-downs of that sovereign debt have now left Dexia well short of its Tier I capital requirements (to the tune of 1.7 billion Euros).

This is hardly a man bites dog story. The Gnomes of Basel, and pretty much everyone else, misjudged the perceived credit risks of sovereign debt. Basel I (and, to be honest, II and III) encouraged the holding of sovereign debt by assigning the lowest risk-weight to such assets, meaning a reduced capital requirement. So, the banks bulked up and then: Off the cliff we all go! Is there still a warm glow of knowing one had met international norms?Continue Reading Dexia / Soros – Basel III and the Importance of Faith

With Thanksgiving approaching and the holiday season in full swing, we here at Crunched Credit would like to present our annual “Golden Turkeys”.

The Golden Turkey for the Most Confounding Regulation: The Premium Capture Reserve Account

Back in March, the credit risk retention NPR was released. Perhaps the most unexpected (and unwelcomed) part of the rule was the Premium Capture Cash Reserve Account (PCCRA).  The PCCRA provisions actually say that issuers may not profit from securitizations or recoup costs up front. The NPR says that a securitizer who monetizes either an IO or earns a premium on the sale of P&I bonds has to put that money aside to serve as a first loss reserve for any losses on the mortgage loans for the life of the deal–on top of the 5% risk retention requirement. Neither a PCCRA nor a reasonable facsimile thereof was contemplated in the Dodd-Frank Act. Needless to say, PCCRA has generally not gone over very well: Confound it!!

The Golden Turkey for the Best Self-Inflicted Wound: The “Bad Boys”

And by “bad boys”, we mean those who have violated the “bad boy” recourse carve-outs in their loan documents. Although most commercial real estate loans are non-recourse (i.e. the lender can only look to the value of the property securing the loan to settle the borrower’s obligations if there is a default under the loan), most contain certain “bad boy” carve-outs (for example, the borrower filing for bankruptcy or misappropriating funds) from the non-recourse nature of the loan, permitting the lender, in certain circumstances, to look to the borrower (as well as the guarantor) to satisfy the borrower’s obligations. Some borrowers, victims of the great recession, have opted to file for bankruptcy in an attempt to stop the bleeding and dam the "bad boys". Oops. Lenders confronted by misbehaving borrowers have enforced the “bad boy” provisions, and, shockingly, the lenders have been successful! The New York Supreme Court has, on 2 separate occasions in March and July, upheld the “bad boy” provisions. While putting the borrower into bankruptcy may seem like a good solution, if doing so will violate the “bad boy” recourse provisions, it will make a bad situation worse.Continue Reading COMMERCIAL REAL ESTATE 2011 RECAP: AND THE (ANNUAL) GOLDEN TURKEY AWARD GOES TO….

 With Thanksgiving upon us and the holiday season in full swing, we here at CrunchedCredit.com would like to present our “Golden Turkeys”, noting certain special contributions to the ongoing resurrection of the Commercial Real Estate Finance industry.

The Golden Turkey for the Best Self-Inflicted Wound: FASB

Hands down, this goes to the Financial Accounting Standards Board. We don’t know whether to give top honors to FAS 166 and 167 dealing with the transfer of financial assets or the new Fair Value Accounting Rules. But in any event, in a series of changes which certainly must have made more sense to academic accounting communities and to the financial markets and investors for which these little regulatory gems were designed, for reasons which remain curious even now, they’ve imported enormous financial volatility and burdened the balance sheets of financial institutions with assets they don’t own and liabilities for which they have no contractual liability in the middle of the greatest financial correction in modern memory. At least we changed the rules of the game, we drop a giant pro-cyclical engine into the balance sheet, stir in a little FinReg, and, Viola! — chaos. We could have hoped someone with regulatory gravitas could have stood up and said, "What are you thinkin’?" And now for a second heaping of goodness, FASB is considering expanding Fair Value to all financial assets, which will produce even more volatility onto the balance sheets of financial institutions. Oh, and have we mentioned Lease Accounting? If FASB has their way, all leases will be treated as capital leases. we can’t even begin to tell you how bad that is. FASB, the winner in this category, hands down.

The Golden Turkey Award for Best Regulatory Knifefight: FDIC

This award goes to the FDIC. This late, lamented Congress began spinning the tale that the absence of skin in the game caused the capital meltdown over the past three years, and, in large measure, through sheer undisputed resolution, it has become received wisdom. (There must be a Golden Turkey for that itself, isn’t there?) So the SEC begins a regulatory initiative to impose skin in the game requirements for use of a shelf in a publicly registered transaction. Good enough, and then the Congressional locomotive comes through and skin in the game becomes a part of Dodd-Frank. Under Dodd-Frank, all the relevant banking regulatory agencies and the SEC are directed to engage in joint rulemaking on skin in the game. In the middle of all this, the FDIC publishes its new securitization Safe Harbor, which contains a completely freestanding and independent skin in the game provision. Oh, sure, the Reg which is in final form is applicable as of January 1, 2011, has an auto-conform provision that the Dodd-Frank skin in the game provisions won’t be law for two years, so we have, irrespective of the FDIC imposing its own set of conflicts rules on a certain sector of the securitization market, face a specific direction to engage in joint rulemaking. What the banking regulatory community thinks about this one can make the other members of the bank regulatory community and the Federal Reserve think about this one can only imagine. We suspect the SEC might be a bit pouty too.Continue Reading Commercial Real Estate 2010 Recap: And the Golden Turkey Award Goes To…

If there’s a worry bead left to worry, hold it in reserve for Basel III. Basel III (its informal name – it’s actually a patch job on the never really fully implemented Basel II) is the most recent effort by the Basel Committee on Banking Supervision to fix the worldwide financial system. I am far from a master of the nuances of this enormous regulatory undertaking, but I know enough to be worried. As a friend and colleague said, “if the only right answer on Jeopardy to ‘What is Basel?’ were ‘a delightful walled medieval city,’ we might be better off.”

Basel II was never fully implemented, certainly not in the United States. While Basel II generally resulted in a significant relaxation of capital requirements for most lending activities, (that worked well, right), it stipulated that many types of commercial real estate loans warranted uniquely higher capital changes.  These loans, called High Volatility Commercial Real Estate or HVCRE, include acquisition and development loans, construction loans and loans to sectors deemed by the applicable regulators to have higher risks of default and greater loss expectancy.  As Basel II was never implemented here, these CRE rules never really bit.
 Continue Reading Basel III: Big Deal or Not