European Union: What's Happening In Europe?

Last Updated: 2 March 2017
Article by Nollaig Murphy and Stephen McLoughlin
Most Read Contributor in Cayman Islands, October 2017

2016 Market Review

The European CLO market had a very slow start to 2016 but rebounded strongly near the end of Q1 2016 and throughout Q2 2016. In June 2016, the Brexit vote initially appeared to put the brakes on the European CLO market as participants weighed up the consequences of the UK leaving the EU and the impact it would have on European CLO structures. However in July issuance levels recovered and remained strong through H2 2016, to such an extent that the full year volume amounted to €16.8 billion from 41 deals, surpassing the previous issuance record for CLO 2.0 transactions of €14.49 billion, which occurred in 2014.

One of the key contributing factors to this increased level of activity was the availability of AAA investors. The demand for AAA tranches of European CLOs was such that the downward pressure on AAA spreads was a consistent factor throughout 2016. These spreads began the year around 150bps but finished up in December 2016 as low as 95bps. This demand was driven by a diverse and expanded CLO investor base made up of banks, pension funds, insurance companies and family offices across a geographical spread from Europe to the Far East.


As to what Brexit will finally look like remains to be seen as does the precise timing of the UK's departure from the EU. However in her speech on 17 January 2017, the British Prime Minister, Theresa May, indicated that the UK exit from the EU would also involve it leaving the European single market. As the UK will therefore be a "third country" vis-a-vis the EU, UK managers will no longer be able to avail themselves of the MiFID passport regime (although in this respect, as noted in the August 2016 edition of the CLOser, this would not preclude them from providing investment services to Irish SPVs provided: (i) their head or registered office is in a non-EU country; (ii) they have not established a branch in Ireland; and (iii) they are not providing investment services to Irish individuals).

During 2015 and the beginning of 2016, the majority of European CLO transactions utilised the sponsor approach (with a UK-based sponsor) in relation to risk retention compliance. However, since the Brexit vote, a majority of transactions have utilised the originator approach in respect of risk retention compliance.

Try, Try, Trilogue Again — STS Regulation: The Saga Continues

As if Brexit was not enough of a challenge for the European CLO market, in June 2016 the Committee on Economic and Monetary Affairs ("ECON") of the European Parliament issued a draft report containing a number of proposals to amend the draft of the STS Regulation which included, amongst others:

  • increasing the economic interest in the securitisation to be retained by the risk retention holder from 5% to 20%;
  • requiring that the retention holder (originator, original lender or sponsor) be a regulated entity;
  • requiring that only institutional investors are permitted to invest in securitisations.

These proposals were the subject of substantial consideration and discussion within the European Parliament. In December 2016 ECON issued what it considered to be a compromise proposal. The new proposal has retained the requirements for the retention holder to be a regulated entity and restricting investments in securitisations to institutional investors. However, rather than a 20% minimum risk retention level, it instead suggested that the minimum risk retention level should be increased to 10% for each risk retention option, save for: (a) the first loss tranche (remains at 5%); and (b) the retention of a first loss exposure of every securitised exposure (increased to 7.5% of each securitised exposure). In addition, there is scope for the minimum risk retention level to be increased to 20% in the coming years.

Looking on the bright side, these latest proposals are not final and will be the subject of a trialogue between the European Commission, Parliament and Council, so the STS Regulation may still be subject to further amendment.

European CLOs – What's in store for 2017?

As regards the outlook for 2017, commentators are positive in their initial outlook, with expectations that 2017 will match, if not surpass, 2016 levels. Analysts are again predicting (as they did at the start of 2016) European issuance levels of €15-20 billion.

As a consequence of the lower AAA spreads a number of existing CLO transactions have refinanced or reset in recent months. It is anticipated that this trend will continue and refis are likely to account for much of the activity in the European CLO market in 2017.

However, notwithstanding the current buoyance in the market, the twin shadows of the STS Regulation and Brexit (whatever final forms they may eventually take) continue to loom large as does the uncertainty of their long term impact.


2. The EU's proposal for a regulation to lay down common rules on securitisation and create a European framework for "simple, transparent and standardised" Securitisation

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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Nollaig Murphy
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