In a , Delano discussed the challenges of transposing the EU directive on credit servicers and credit purchasers ( of 24 November 2021) into Luxembourg law. Your correspondent was left under the impression that very few loans would come out of the highly capitalised Luxembourg universal banks. Indeed, a NPL market generally emerges in order to reduce bank leveraging, as lightly capitalised financial institutions prevent them from lending to the economy.
What’s the rush then, you may ask? Well, a proactive and a relatively quick transposition of the directive in Luxembourg may give the local players in the asset servicing business an edge and a first mover advantage for the nascent European secondary market for non-performing loans (NPL).
Opportunity for Luxembourg entities acting as credit servicer
Jonathan Hug, senior legal advisor at the Luxembourg Bankers’ Association (ABBL), explained that, initially, the directive aimed at reaching an agreement on some bankruptcy proceedings, an eternally elusive task for European countries. “It was then decided to carry on in defining a credit servicers and credit purchasers regulatory framework,” said Hug.
The flexible Luxembourg law enables a bank to sell its NPLs to a credit purchaser (either a fund manager or a securitisation structure carrying the risk resulting into a capital relief for the selling bank) which may decide to handle the credit servicing itself, leave it at the originating bank or hand it over to a third-party asset servicer. The last part is key and Hug stressed that these activities having nothing to do with the business of the depositary bank.
Luxembourg banks may provide portfolio analysis--as an additional service--for the credit purchasers, but the real opportunity of the new law, according to the ABBL, lies with asset servicers, based in Luxembourg, to serve credit purchasers (buyers of NPLs) at the European level thanks to a head start over its competitors.
These [bond servicing companies] could leverage their software to account for loans just as for their bond portfolios with few tweaks
Indeed, Luxembourg asset servicers will be ready to offer their services once the transposition of the directive is completed, country after country. He thinks that large NPL credit managers picking up assets all over the EU could centralise them all in Luxembourg.
Not starting from scratch
Hug noted that asset servicing companies are already active in similar business models, such as in the value chain surrounding Volkswagen Finance. Indeed, VW may want to securitise its auto loans, removing them from its balance sheet while ensuring and outsourcing the credit servicing.
On NPLs, Hug envisions that asset or security servicing companies could quickly take advantage of the new regulation given the similarities of the cash flow management. He suggested that “these firms could leverage their software to account for loans just as for their bond portfolios with few tweaks.” He added: “as a bank, you would be from the onset in line with the requirements.”
Not a homogeneous market
“There are some options left open to countries to choose from,” Hug noted during an interview on 18 July 2024. “The French were first to transpose the EU directive, but [that] law fails to be as flexible as for Luxembourg law.” Elsewhere, Spain elected to protect the consumer, an option not retained by Luxembourg, whereby the borrower could buy back its debt at the price offered by the credit purchaser. The Spanish law goes into a hazardous direction as it may incentivise borrowers not to pay. Hug was unsure about the status of the Spanish law but warned that a such a transposition may impact the pricing and harm the development of a European NPL market.
Guarantee of transparency
When transferring a loan, Hug noted that the selling bank must inform its clients about operation given the required communication of personal data about the retail borrower to a third party.
Risk takers and their vehicles
Despite a potential high discount for the NPLs, Hug does not think as very likely that banks will buy NPLs from its competitors. It appears therefore more likely that distressed buyers such as Ares Management, a global alternative asset manager will take them over given its experience in , for instance.
Besides, Hug thinks that the Luxembourg regulation on securitisation accommodates for NPLs but he is unclear at this point on the vehicle of choice by the market (fund or securitisation).