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EU May Allow Asset-Backed Securities in Bank Liquidity Measures

Banks may be allowed to include asset-backed securities in the liquid assets that regulators demand to defend against a credit squeeze, according to a version of the draft law published by the European Union.

“Asset-backed instruments of high liquid and credit quality” as deemed by the European Banking Authority may count as a buffer by regulators, the document prepared by Denmark, which holds the rotating presidency of the EU, shows. Securitizations are excluded as liquid assets under rules known as Basel III, making the debt less attractive for banks.

The so-called liquidity coverage ratio, a buffer of easy-to-sell assets to survive a 30-day credit squeeze, is one of several measures from the Basel Committee on Banking Supervision to prevent financial crises. The collapse of Lehman Brothers Holdings Inc. and Belgium’s Dexia SA were blamed in part on the lenders running out of short-term funding.

“It’s very good news for European ABS where demand has been dominated by a few clients mostly in the U.S.,” said Stefano Loreti, a senior portfolio manager at Cairn Capital that manages and advises on over $20 billion of assets, including European ABS. “This development could help bring back European banks to the investor base.”

Issuance of asset-backed securities have tumbled in Europe after bonds linked to U.S. subprime debt slumped, prompting investors to shun the hard-to-value securities. Sales of the debt fell to 74 billion euros ($96 billion) last year from as much as 510 billion euros in 2006, according to JPMorgan Chase & Co data.

Rule Benefit

Britain, Germany and the Netherlands are Europe’s most active issuers of asset-backed securities, which banks create by pooling home and consumer loans and selling them to investors as notes. The bonds allow lenders to raise capital more cheaply than by issuing unsecured debt.

“Initially the rule would benefit some transactions in the U.K., the Netherlands or Germany, but it may end up helping the broader securitization market in Europe,” said Conor Downey, a partner at law firm Paul Hastings Janofsky & Walker LLP in London who has advised firms such as JPMorgan and Deutsche Bank AG on securitization transactions.

The proposals follow the European Central Bank’s decision in December to lower the minimum credit rating on collateral it accepts for loans.

The Jan. 9 document has to be approved by national governments in the 27-nation EU and the European Parliament before they can become law.

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