New options for trading securitised debt products are available in Luxembourg after its parliament approved long-awaited amendments to its securitisation law. In a podcast interview with Investment Officer, Harneys’ counsel and securitisation lawyer Massimiliano della Zonca sees it as a game changer for the Grand Duchy.
At the Harneys office in Luxembourg, combining an offering of offshore and onshore services, Della Zonca has been fielding dozens of calls from clients worldwide who would like to know how to leverage the new opportunities that are emerging now that the parliament approved changes to the 2004 securities law.
Filling major gap
The overhaul fills-up a major gap that kept securitised debt portfolios from being actively managed in the market. The major innovation of the new law is that active management, considered as a critical factor for portfolios composed of securitised debt products, will now be possible with securitised debt portfolios, as long as the financial instruments financing such portfolios are not issued to the public.
“Active management of debt portfolios securitised by way of private offering is really a game changer for the already most attractive Luxembourg securitisation market,” Della Zonca told Investment Officer.
‘Adapt the laws to what the market needs’
Della Zonca is a member of the Harneys’ Banking & Finance Corporate & Commercial team in Luxembourg, focusing his activity on M&A, private equity, corporate finance and refinancing deals. The lawyer swapped Rome for Luxembourg more than a decade ago.
“I enjoy the international spirit of the city. I enjoy the business-driven approach of the government and the various opportunities here in Luxembourg,” he said. “There is always the intention to identify business opportunities to adapt the laws to what the market and the business needs, and in the direction where the business develops.”
Old law prevent repackaging
The modernisation of Luxembourg’s securitisation law underscores that point. The Grand Duchy now seeks to develop a leadership position in the global market for collateralised loan obligations and collateralised debt obligations, known respectively as CLOs and CDOs. Those who manage such products need the flexibility to adjust their portfolios, and that was not possible with the old regime.
“The old securitisation law was silent on the possibility for securitisation vehicles to actively manage their assets,” Della Zonca explained. “In the old system, based on the guidance of the CSSF in the form of FAQ, there was no chance to replace any asset until the full reimbursement. This has been seen as preventing the implementation of repackaged deals in Luxembourg.”
Maximising performance
“CLOs and CDOs transactions typically require an active management of the assets in view of maximising their performance”, he said. “The debt securities, financial debt instruments or receivables constituting the pool of assets of the securitisation vehicle can now be replaced following the securitisation transaction date and during the lifetime of the securitisation vehicle in the view of decreasing credit risks, increasing the performance or creating profit, to the extent that issued financial instruments are not offered to the public.”
Della Zonca said active management of the assets can be performed by the securitisation vehicle itself, but it can also be delegated to a third party.
SCSp partnerships promising
What’s more, the new law permits larger structuring options by introducing a wider choice of legal forms for securitisation vehicles. Among the new legal forms, the special limited partnership, known as SCSp, is expected to become popular.
“The private equity firms and family offices in Luxembourg are very much familiar already with the SCSp, which is a tax transparent and highly flexible corporate form. I see that the special limited partnership will be extensively used for future securitisation transactions.”
Tax neutrality and “bankruptcy remoteness” of securitisation vehicles are recognised by the market as factors that make Luxembourg attractive, he said.
Bankruptcy remoteness
Bankruptcy remoteness, explained Della Zonca, “means that investment of the investors is fully protected even when the securitisation vehicle is placed into judicial liquidation. This is achieved, first of all, through the compartmentalisation within the securitisation vehicle so that the estate of a securitisation vehicle can be segregated into different compartments, each representing a distinct part of the assets and liabilities of the securitisation vehicle. The assets and liabilities of the securitisation vehicle are then ring-fenced by law on a compartment-by-compartment basis, including in the case of its insolvency.”
Furthermore, Luxembourg has no requirement for expensive IFRS reporting, representing an existing significant cost advantage for Luxembourg structures, said the lawyer.
Mostly for professionals
Although the law makes it possible to create securitised debt products for retail investors, under very strict conditions, most uptake will be in the market for professionals.
“These are sophisticated structured finance products that are meant to be offered to professional investors that understand the nature, and the end in the potential of these products. I believe that the future is going more in that direction,” said Della Zonca.
For financial institutions, securitised debt products also offer an opportunity to offload debts from their balance sheets. The EU’s securitisation framework has encouraged this. Banks are particularly keen to offload debts from their balance sheets and transfer risk to investors.
No new bubble expected
Securitised debt products with home mortgages or auto loans, as in the US, could provide banks with an opportunity to transfer these risks to investors. At present it is difficult for them to do so, although not impossible. Since the 2008 Great Financial Crisis, the uptake for such products has been limited after incorrectly priced home mortgages in CMO markets eventually were held responsible for triggering the global downturn.
Della Zonca said he does not believe the new securitisation regime will result in a new bubble.
“It is true that CDOs and CMOs bring our memories back to the financial crisis. The experience of that crisis, combined with the features of the securitisation law that boost the protection of investors” inspire confidence that “new changes for the active management of securitised assets would not result in a bubble like happened in 2008.”
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