Liq­uid­ity is­sues of lo­cal banks to be ad­dressed

Re­serve Bank to pro­vide liq­uid­ity fa­cil­ity to as­sist in meet­ing Basel III pro­vi­sions

Business Day - Business Law and Tax Review - - BUSINESS LAW & TAX REVIEW - DAVID TOW­ERS

BASEL III is be­ing in­tro­duced fol­low­ing the global fi­nan­cial cri­sis and a longer-term on­go­ing com­mit­ment from the reg­u­la­tory au­thor­i­ties to en­sure greater pru­den­tial man­age­ment and risk iden­ti­fi­ca­tion and con­trol within the fi­nan­cial sec­tor. While Basel III has been im­ple­mented with ef­fect from this year, cer­tain com­po­nents of it will be phased in over the next few years.

An as­pect of Basel III that has at­tracted at­ten­tion in the South African mar­kets is its liq­uid­ity frame­work. This re­quires banks to ad­here to cer­tain min­i­mum liq­uid­ity re­quire­ments to en­sure that they are able to with­stand pe­ri­ods of up to a month of se­vere liq­uid­ity de­mands, such as panic with­drawals or loss of in­ter­bank lend­ing.

Ac­cord­ingly, the Basel III liq­uid­ity frame­work in­cludes the con­cept of a liq­uid­ity cov­er­age ra­tio which stip­u­lates liq­uid­ity re­quire­ments with which banks need to com­ply.

South African banks have his­tor­i­cally held low lev­els of liq­uid­ity com­pared to many of their in­ter­na­tional coun­ter­parts. The low lev­els of liq­uid as­sets held by some banks have been the re­sult of an over-re­liance on short­term fund­ing.

The liq­uid­ity cov­er­age ra­tio re­quires banks to hold suf­fi­cient high­qual­ity liq­uid as­sets which can eas­ily be con­verted into cash to cover pe­ri­ods of out­flow dur­ing a fi­nan­cial cri­sis. The liq­uid as­sets that can be treated as high­qual­ity for th­ese pur­poses must be un­en­cum­bered and are split into two dif­fer­ent cat­e­gories: Level 1 as­sets, which must ac­count for at least 60% of the to­tal, and Level 2 as­sets which ac­count for the bal­ance, at no more than 40%.

Level 1 as­sets in­clude cash, qual­i­fy­ing mar­ketable se­cu­ri­ties and cen­tral bank re­serves, cen­tral bank or sov­er­eign debt in lo­cal cur­rency. Level 2 as­sets in­clude cor­po­rate bonds with a min­i­mum credit rat­ing from an ap­proved rat­ing agency.

In or­der to as­sist lo­cal banks meet the new Basel III liq­uid­ity re­quire­ments, the South African Re­serve Bank has made some ini­tial pro­pos­als of­fer­ing a com­mit­ted liq­uid­ity fa­cil­ity to banks which will as­sist them in meet­ing Level 2 liq­uid­ity re­quire­ments.

In terms of the cur­rent pro­pos­als, the Re­serve Bank has in­di­cated that the fol­low­ing types of col­lat­eral will be ac­cept­able: a) Mar­ketable se­cu­ri­ties; b) JSE listed eq­ui­ties in­cluded in the Top 40 in­dex; and

This com­mit­ted liq­uid­ity fa­cil­ity will be made avail­able from the Re­serve Bank dur­ing the course of this year

c) Self-se­cu­ri­tised pools of high-qual­ity loans.

In terms of c) above, the notes is­sued from ve­hi­cles con­sist­ing of self­se­cu­ri­tised as­sets will be used as col­lat­eral for the com­mit­ted liq­uid­ity fa­cil­ity pro­vided by the Re­serve Bank. This op­tion en­tails the se­cu­ri­ti­sa­tion of as­sets by the bank and pur­chase by the bank it­self of the notes that are is­sued. The notes is­sued by the se­cu­ri­ti­sa­tion ve­hi­cle will be backed by the high-qual­ity loans, and the notes must have a min­i­mum rat­ing of A- pro­vided by an ex­ter­nal credit rat­ing agency us­ing the domestic rat­ing cri­te­ria.

As some banks may cur­rently ex­pe­ri­ence dif­fi­culty com­ply­ing with the Basel III liq­uid­ity re­quire­ments, the com­mit­ted liq­uid­ity fa­cil­ity may prove pop­u­lar. In par­tic­u­lar, the self-se­cu­ri­tised col­lat­eral op­tion is a way for banks to con­vert ex­ist­ing non-liq­uid as­sets into as­sets that could, af­ter hav­ing been sold into the se­cu­ri­ti­sa­tion ve­hi­cle, ef­fec­tively be used to gen­er­ate Level 2 liq­uid­ity cov­er­age ra­tio as­sets and re­sult in com­pli­ance with this as­pect of Basel III re­quire­ments.

The rea­son th­ese as­sets can be used to se­cure such a fa­cil­ity is that the as­sets are of a suf­fi­ciently high qual­ity, given the min­i­mum credit rat­ing re­quired for the rated notes sup­ported by th­ese as­sets, and are ring-fenced from the books of the bank in terms of se­cu­ri­ti­sa­tion reg­u­la­tions.

In ac­cor­dance with the se­cu­ri­ti­sa­tion reg­u­la­tions, the col­lat­eral must also be un­en­cum­bered (ie not ceded to any other party or sub­ject to any se­cu­rity ar­range­ment or sup­port) and fur­ther­more should have a ma­tu­rity in ex­cess of a year. Although in terms of this ar­range­ment the notes are held by the bank, th­ese self-se­cu­ri­tised as­sets must be ad­min­is­tered in the same man­ner as a nor­mal se­cu­ri­ti­sa­tion.

In terms of the cur­rent pro­posal, this com­mit­ted liq­uid­ity fa­cil­ity will be made avail­able from the Re­serve Bank dur­ing the course of this year.

The spe­cific de­tails on the frame­work of this fa­cil­ity and its op­er­a­tion and pro­cesses are still be­ing con­sid­ered by the Bank.

Pic­ture: THINKSTOCK

BANK LIQ­UID­ITY RE­QUIRE­MENTS The liq­uid­ity cov­er­age ra­tio re­quires banks to hold suf­fi­cient high­qual­ity liq­uid as­sets which can eas­ily be con­verted into cash to cover pe­ri­ods of out­flow dur­ing a fi­nan­cial cri­sis

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