This report does not constitute a rating action.
Rising interest in nonstandard-asset securitization may boost an otherwise stagnant structured-finance market in China. We are seeing increased market interest in this type of investment.
What's Happening
Nonstandard-asset securitization is emerging in China as originators seek funding alternatives. They are willing to accept higher funding costs on these transactions for a shortened issuance time. Some liquidity-insensitive investors, such as insurance companies and banks' wealth management arms have also shown interest, partly because the assets may be tailored to their preferences.
Why It Matters
Loan facilitators are not the financiers and this may have implications for asset quality. The loans backing nonstandard-asset securitizations are mostly originated through a loan facilitator's platform based on pre-agreed asset-eligibility criteria. Such origination, although subject to review by the loan facilitator and the lender/originator, may have more varied asset characteristics than standard deals. This is a function of the more varied asset-selection criteria and mechanisms in loan facilitation.
In our view, the originate-to-sell model may also spark concern among some investors about the possibility of moral hazard. Loan facilitators may relax applicants' referral standards to bolster their pipeline, although some transactions have risk-sharing arrangements to mitigate that risk.
Legal due diligence review varies by investor need. Legal counsels' opinions on nonstandard-asset securitization mostly rely on China's regulatory guidelines on collective-fund trusts. The opinions expressed under this framework focus on whether the qualifications of the three main parties in the transaction--the principal, the trustee, and the beneficiary--are legal and compliant. The opinions issued by law firms also reference this framework. Once these requirements are met, the opinions at the entity level are mostly concluded.
Additional coverage of legal due diligence will only be done if an investor asks for it. For example, asset sampling for eligibility check is not usually conducted, which is different from what we typically see in standard-asset securitization.
What Comes Next
The market is expressing more interest in nonstandard-asset securitization. We believe we can apply our typical analytical framework to these transactions. Our analysis looks at five aspects: the credit quality of the securitized assets, legal and regulatory risk, operational and administrative risks, counterparty risk, and the payment and cash flow mechanics.
In our view, additional considerations are warranted. Our operational review meetings should include both loan facilitators and lending trustees. While asset-related legal opinions on asset transfer effectiveness and asset eligibility may be optional for past unrated nonstandard securitization, it may be critical from a rating perspective.
Lastly, nonstandard securitization backed by retail assets tends to follow an originate-to-sell model, which we deem a risk from a ratings perspective. We look at which arrangement is in place to manage the risk of reckless or loose underwriting.
Background In Brief
Nonstandard-asset securitization is backed by debt receivables that are not traded in the interbank market or on securities exchanges. These assets include, but are not limited to, credit assets and trust loans.
Nonstandard-asset securitization is constructed as an asset management trust based upon relevant regulatory measures. It falls outside China's regulatory regime of securitization. Accordingly, the originator does not need approval to issue from China Banking and Insurance Regulatory Commission, China Securities Regulatory Commission, or the National Association of Financial Market Institutional Investors. Therefore, originators don't have to apply for shelf issuance quota or report each issuance within the quota as originators of standard-asset securitization must do. This cuts execution time and may attract more diverse parties than seen on standard transactions.
| Primary Contact: | Andrea Lin, Hong Kong 852-2532-8072; andrea.lin@spglobal.com |
| Secondary Contact: | Jerry Fang, Hong Kong 852-2533-3518; jerry.fang@spglobal.com |
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