Introduction to NPLs

Francesco Dissera

25 years: Securitisation

In his previous videos, Francesco Dissera explained the securitisation process in general and covered some of the assets that are typically securitised. In this video, Francesco explains the non-performing loans (NPLs) securitisation process.

Capital Markets

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Introduction to NPLs

8 mins 12 secs

Key learning objectives:

Understand what is securitisation
Understand what is an ABS backed by NPL
Understand the key characteristics of an NPL

Overview:

NPL securitisation is used to deleverage NPL exposures with the issuance of securities. NPLs have emerged in recent years due to the current macroeconomic environment. Most prominently, these public NPL transactions have emerged after the launch of APS schemes in Italy (GACS) and Greece (HAPS).

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Summary

What is securitisation and what are the mechanics behind NPL Securitisations?

Securitisation relates to the financing of assets that carry credit risk (as opposed to market or other risks). It involves the structuring of tranched debt with at least two classes of seniority with a senior and a junior note (in some cases, a mezzanine note can be included). The effective exposure is only to the assets financed during the life of the deal. An NPL is securitised at a discount to its nominal or outstanding value and reflects the market’s and the special servicers’ assessment generating sufficient cash flows and asset recoveries. The risk for investors is therefore that the effective collection and workout of the assets do not generate sufficient cash flows to cover the net value at which the NPL has been purchased by the special purpose vehicle, or SPV. Typically, investors are therefore not exposed to the book value of the portfolio but to the discounted value -- net of the price discount at which the underlying assets are transferred.

What are the key features of NPLs?

Exposures that have experienced a failure to pay
Exposures that are deemed Unlikely To Pay (UTP)
Exposures that have undergone a distressed restructuring
Exposures that are in insolvency, bankruptcy, or under bankruptcy protection
Exposures at least 90 days days past due (DPD)
Exposures that are categorised as Stage 3 for IFRS 9 purposes (credit-impaired)

What are the consequences of a loan being declared an NPL?

The loan is typically accelerated and foreclosure procedures or bankruptcy will start soon after. Bank has to further increase its provisioning, impacting its profitability. Banks will have to dedicate more resources to recovery and less to the origination of new loans. Ultimately, as banks cannot generate interest, they will have less money available to create new loans and to pay operating costs. The regulator has set a threshold of 5%, particularly for Significant Institutions. Institutions with an NPL ratio greater than 5% will need to change this by either managing the NPL stock or reducing the NPL stock.

What are the ways in which an institution can reduce their NPL stock?

Securitisation of NPLs has been used In countries where the banking sectors have experienced high levels of NPLs, such as Italy and Greece (GACS and HAPS) to remove impaired assets from the banks’ balance sheets and transfer them to external investors (securitisation)
Another way to reduce NPL stock is through bad banks. In Spain, Sareb was established in 2012 on the back of the subprime and credit crisis. Sareb acquired NPL loans originated by a number of failed Spanish financial institutions. Sareb initially acquired property development loans from a number of failed banks in return for government bonds.
The use of other ad-hoc special funds such as the Stabilisation Fund created by SNB in Switzerland. It acquired toxic ABS and non-ABS exposures worth $38.7from UBS. of these assets at market value to the funds. The fund was unwound in 2013 by UBS, achieving a small profit for the Swiss Tax payers.

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Francesco Dissera

Francesco is a London-based experienced professional who spent the majority of his career in developing the EMEA ABS market: he has been involved in some of the most innovative transactions, focusing on both traditional and synthetic transactions. He has more than 24 years of investment banking and capital markets experience. Francesco started working at JP Morgan, then spent 14 years at UBS, building the securitisation and covered bond business across EMEA, before going on to lead the EMEA securitisation team at StormHarbour, Santander Continental Europe and Alantra. Francesco has originated and executed more than 80 ABS transactions across EMEA with a focus on FIG, Speciality Finance, Corporate and Government related assets.

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