SEC Headquarters

The Security and Exchange Commission, Washington, DC

In April 2010, in an effort to bring trust and greater activity back to the greatly diminished asset-backed securities market, the Security and Exchange Commission (SEC) proposed significant changes to Regulation AB. This regulation dictates what information issuers of asset-back securities must provide to investors in prospectuses. The SEC intends to tighten the rules and the comment period on those changes has now passed.

The 667 page proposal was full of complex conceptual recommendations, many of which could clearly be seen to cause problems, as pointed out by many critics of the proposal, including this Institute. The Commission’s proposal admits that problems with release of private information into the Edgar website will potentially violate the Privacy Act.

Issuers of asset-backed securities will no long be able to file a “shelf registration” that they can use again and again to issue bundled securities with no clear disclosure of what is inside. Second, sellers must give investors time to assess the value of these complex securities before they can offer them for sale. And third, independent parties will be required to monitor these asset-backed securities to ensure they are performing as anticipated.

By requiring so much new information, the SEC is hoping to reduce the role of ratings agencies and urging investors to do more of their own analysis. While this conceptually has positive merits, the ability of private individual investors, or even institutional investors to analyze over 130 data points and come up with a qualified risk assessment from raw data is limited, at best.

The proposal will force securitization issuers to release data to prospective investors, but it fails to determine how the issuers will obtain that data. Bank regulators may be compelled by law and regulations to prohibit lenders from releasing all the data required by the SEC. Even with complete data, it may be very difficult for investors to read, review and analyze the information and come up with a qualified risk assessment before investing.

The big question for investors is what happens when they make a risk assessment based on the information provided (if it is) and the borrower defaults anyway? To whom do they turn for giving them bad advice? What benchmarks do investors use to review and analyze the data?

We ask, if the investors, already nervously remaining out of the market experience considerable losses again, will confidence in that market, now only $110 Billion (down from $750 Billion in 2007), be so eroded that the market will totally collapse? If it does collapse, what happens to the banking sector, so dependent upon securitizations to provide a flow of funds for further lending?

Our great concern is that with Dodd-Frank prohibiting bail-outs in future, and a government already overburdened with extreme levels of debt, a complete collapse of this market could result… indeed would result in an economic crash avoided in September 2008 with TARP, and an ensuing long-term depression.

Stay tuned.