On September 19, 2011, the SEC proposed a new rule to prohibit certain material conflicts of interests between those who package and sell asset-backed securities (“ABS”) and those who invest in them. The proposal implements Section 621 of the Dodd-Frank Act and prohibits participants in the securitization of an ABS from engaging in transactions that result in a material conflict of interest.
After the 2008 financial crisis, many learned that ABS are created by buying and bundling assets, such as loans or credit card receivables and creating securities backed by those assets that are sold to investors. The proposed rule would prohibit securitization participants – the underwriters, placement agents, initial purchasers, sponsors or any of their affiliates – of an ABS for a period of one year after the date of the first closing of the sale of the ABS from engaging in certain transaction that would result in a material conflict of interest with respect to any investor in the transaction.
The proposed rule contains a specific test to determine whether a certain transaction involves a material conflict of interest. A material conflict of interest between the securitization participant and investor exists if either:
(i) a securitization participant would benefit directly or indirectly from the actual, anticipated or potential (1) adverse performance of the asset pool supporting or referenced by the relevant ABS, (2) loss of principal, monetary default or early amortization event on the ABS, or (3) decline in the market value of the relevant ABS; or
(ii) a securitization participant, who directly or indirectly controls the structure of the relevant ABS or the selection of assets underlying the ABS, would benefit directly or indirectly from fees or other forms of remuneration, or the promise of future business, fees, or other forms of remuneration, as a result of allowing a third party, directly or indirectly, to structure the relevant ABS or select assets underlying the ABS in a way that facilitates or creates an opportunity for that third party to benefit from a short transaction as described above; and
there is a “substantial likelihood” that a “reasonable” investor would consider the conflict important to his or her investment decision (including a decision to retain the security or not).
The comment period ends on December 19, 2011 and the SEC is seeking comments on every aspect of the proposed rule. For more information on the proposed rule, a copy of the proposed rule may be reviewed at http://www.sec.gov/rules/proposed/2011/34-65355.pdf