March 5, 2009
Federal Reserve and Treasury Launch TALF, Minus Executive Compensation Restrictions
– Broc Romanek, CompensationStandards.com
Below is a new memo from Wachtell Lipton that provides an interesting observation regarding the latest reiteration of TALF earlier this week and its lack of executive compensation restrictions:
The Federal Reserve and the Department of Treasury on Tuesday inaugurated the previously announced Term Asset-Backed Securities Loan Facility (TALF). The TALF is likely to prove a major step forward in jump starting consumer lending funded through issuances of consumer asset-backed securities (ABS). According to the Federal Reserve, over the past several years, approximately one quarter of all non-mortgage consumer credit – including auto, credit card and student loans – has been funded via securitizations. Since October 2008, consumer ABS issuances have remained near zero, which has adversely impacted the availability of consumer credit.
Under the TALF, the Federal Reserve Bank of New York will lend up to $200 billion in the aggregate to finance the purchase of top-rated domestic ABS backed by newly and recently originated auto, credit card, student and SBA-guaranteed loans. The loans are secured by the purchased ABS and are without recourse to the borrower. Eligible borrowers include U.S. companies (including investment firms such as private equity and hedge funds), U.S. subsidiaries of foreign companies that conduct significant activities in the U.S. and U.S. branches and agencies of foreign banks. Eligible ABS must have received the highest rating from two of the major rating agencies and no major rating agency can have rated the security below the highest rating or placed it on watch for downgrade. (Subsequent downgrades or watches, however, do not adversely affect the TALF loan.) Each ABS issuer is required to hire an external PCAOB-registered auditor to certify that information conveyed to the rating agencies is correct and that the ABS meets the TALF eligibility requirements.
The Federal Reserve will determine loan amounts by applying haircuts that depend on the ABS type. Loans will have a three-year term. If there is a payment default, the Federal Reserve will sell the collateral to a special purpose vehicle established to manage these assets. The SPV will be capitalized in part by a $20 billion equity investment by Treasury under TARP that will absorb first losses on the ABS collateral.
In a reversal, the Federal Reserve and Treasury stated that no executive compensation restrictions will apply to sponsors, underwriters or borrowers under the TALF. Previously, in order for an ABS to be eligible for TALF, the sponsor of the securitization that issues the ABS would have been required to comply with the EESA executive compensation restrictions. Eliminating the compensation restrictions, along with recent statements by banks receiving TARP funds that they intend to repay them soon, should be an indication that such restrictions may be counterproductive and merit reconsideration by policy makers.
As announced last month, the Federal Reserve and the Treasury are working to expand the TALF’s scope to up to $1 trillion in loans. As part of this effort, the government is considering accepting commercial mortgage-backed securities and other types of AAA-rated newly issued ABS for acceptance under TALF. Currently, the TALF is scheduled to cease making new loans on December 31, 2009, unless the Federal Reserve extends the termination date.