The UK has taken steps toward reshaping how it regulates securitization, with the Financial Conduct Authority (FCA) and Prudential Regulation Authority (PRA) launching consultations last week that market participants say mark a clear shift away from the overly prescriptive post-crisis framework.
One of the most consequential proposals for CLOs would allow UK investors to buy US CLOs that have not voluntarily opted into EU and UK risk-retention rules — so long as there is “sufficient and appropriate material alignment” between the CLO manager and investors.
Market participants say this could be satisfied through existing mechanisms such as incentive fees, which they argue already align managers’ interests with those of investors.
Competitive disadvantage
The proposal addresses concerns from UK accounts that they were at a competitive disadvantage to US investors. The FCA acknowledges in its Feb. 17 consultation paper that “our proposals on risk retention are more likely to increase risk to investors when investing in foreign assets,” but says that the benefits “outweigh any additional risks that arise.”
Going one step further, the FCA is also soliciting the market’s view, and seeking suggestions, on repealing risk retention for UK-based CLO managers, questioning whether alignment of interest can be achieved through other means.
“The risk retention rules are designed to align the interests of manufacturers and investors in securitisation. However, we do not have a clear appreciation for the effectiveness of this mechanism when it comes to CLOs… and are soliciting the market’s views on whether we should consider targeted exemptions for UK-managed CLOs,” the FCA writes (paragraph 164).
Market participants welcome the direction of travel, though caution that the proposals would have limited practical impact without alignment across regimes.
Statement of intent
Allowing UK investors to buy non-retention compliant US CLOs would provide only incremental benefits, they say, as US arrangers marketing outside the US would be unlikely to target the UK alone, given the scale of the EU investor base.
And even if UK managers were released from retention obligations domestically, adherence to risk retention would still be required because a significant portion of the investor base is in the EU.
“It’s a statement of intent that there is clearly a willingness to diverge from the European approach, whereas thus far we have largely mirrored it, and we haven’t really taken the opportunity to make our regime more fit for purpose,” said John Goldfinch, partner in Proskauer’s structured credit practice.
“It’s paving the groundwork for there being a rule change in Europe,” said Goldfinch. “There is no risk retention for US BSL CLOs and the UK is now saying they could go second, so there is a path towards the EU being the last regulator standing”.
Material simplification
Both UK papers propose “a material simplification” of current rules and acknowledge that aspects of the current regime create “significant costs without clear benefits,” and that removing ineffective and burdensome requirements will “not materially increase systemic risk”, the FCA notes.
The deadline for feedback for both consultations is May 18.
“It is extremely welcome that the FCA is saying that one of the main reasons for proposing this far simplified securitization regime — with a more principles-based approach — is because of the feedback it’s received from the market over a period of years,” said Chris McGarry, partner at Mayer Brown.
Any material benefit from the UK proposals will ultimately require broader cross-border coordination. “For it to work for UK and European investors, there needs to be substantial alignment, including on a revised approach to investor due diligence,” explains McGarry, stressing the inherently global nature of the CLO market.
A large part of the US CLO market is placed into the UK, Europe and Asia, while the entire European CLO market is issued in 144A/Reg S format and, often, also adheres to Japanese risk-retention requirements. “Ultimately, the UK, European, US and Japanese regulators need to have a conversation around some sort of alignment,” he added.
Constructive momentum
The UK proposals emerge at a time when the EU is making its own progress on reforming regulation.
Sources note that recent draft amendments from the Committee on Economic and Monetary Affairs (ECON) lean toward a more accommodative approach to CLOs, aimed at reducing the uncertainty created by last year’s European Supervisory Authorities’ interpretations on risk retention.
Meanwhile, the EU’s long‑awaited Solvency II changes have now entered the statute book, becoming law in January 2027, potentially unlocking substantial insurance demand for senior CLO tranches.
With the UK consultations closing in May and EU reforms progressing in parallel, market participants say the regulatory outlook for CLOs is more constructive than at any point in recent years.
Featured image by zodebala/Getty Images
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