The financing arms of big manufacturers recently received confirmation from the Commodity Futures Trading Commission (CFTC) that they can choose uncleared swaps when hedging rate mismatches stemming from securitizations, avoiding the burdensome new cleared swap market framework.
The CFTC issued an interpretive letter to Ford Motor Company May 4, clarifying existing regulation that a securitization special purpose vehicle (SPV) which is wholly-owned by a corporate’s finance arm qualifies as a captive finance company. As a result, the SPV can elect the Dodd-Frank Act’s end-user exemption, enabling it to avoid clearing its swaps and the related administrative and technological requirements.
Luke Zubrod, director of risk and regulatory advisory at Chatham Financial, said the interpretative letter impacts companies setting up SPVs to purchase the loans and leases their financing arms originate. Those assets are typically fixed-rate, but the loans used by the SPVs to fund those assets tend to be floating-rate.
“So there’s a duration mismatch between the fixed-rate cash flows coming into the SPVs and the floating-rate outflows, and the SPV itself has to enter into a swap to cure that mismatch,” Mr. Zubrod said.
The CFTC states in the interpretive letter that it is a response to letters sent to the CFTC by 10 finance subsidiaries of mostly automobile manufacturers, including Ford Motor as well as American Honda Finance Corp., and General Motors Financial Co. The finance arm of CNH Industrial, a supplier of agricultural and construction equipment and vehicles, also sent a letter.
More than 360 auto-loan or auto-lease securitizations were done in each of the last three full calendar years, and 83 were completed in the first quarter—most of them issued from SPVs set up by auto company captives, according to Dealogic. And auto-captive SPVs issued five of the top 10 securitization deals marketed in the US since the start of 2014.
The interpretive letter could apply to other types of companies as well, assuming their finance companies wholly own the SPVs used to securitize the loans or leases, the SPVs are consolidated in the finance company’s financial statements, and their sole activity is facilitating the financing undertaken by the finance company.
In the broader picture, Mr. Zubrod said, Dodd-Frank aimed to split financial entities from nonfinancial swap “end users,” giving the exemption to the latter. However, many nonfinancial companies have captive financial affiliates, and while the regulator also exempted those affiliates because they facilitate the sale of their parents’ manufactured goods, it was unclear whether the SPVs they established could also avail themselves of the exemption.
Mr. Zubrod said that even without the certainty the interpretive letter provides, it’s doubtful the SPVs have chosen to clear their swaps. They may, for example, have determined that the legal terms associated with a securitization swap rendered it incapable of being cleared, Mr. Zubrod said, or they may have chosen a type of derivative they knew couldn’t be cleared.
“So the interpretation may now allow them to use products that meet a broader range of their hedging objectives,” Mr. Zubrod said.