Proposed securitization rules under the Dodd-Frank Act and questions about the viability of the credit derivatives market could put an end to the kind of synthetic-risk transfer methods used by financial institutions to manage credit risk in their loan books.
Financial institutions' ability to transfer risk using securitizations and credit default swaps (CDS) has already been limited greatly since the advent of the financial crisis. The global collateralised loan obligation (CLO) market, which banks widely used to transfer risk and free up capital, has been effectively closed since September 2008.
Dodd Frank's proposed rule 127b, which seeks to address perceived conflicts of interest in securitizations, could put a lid on the CLO market permanently—at least in the United States. The rule, as written, will prohibit banks from transferring or hedging balance sheet risk on non-retail assets using synthetic securitisations. The proposed rule would also make it difficult for banks to
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