The Covered Bond Report www.coveredbondreport.com August 2019

The Pfandbrief Roundtable 2019 IN ASSOCIATION WITH THE VDP

The Pfandbrief Roundtable 2019

The EU covered bond legislative package, sustainable finance developments, and a possible revival of APP were key topics in our annual Pfandbrief roundtable, produced in association with the vdp and hosted by pbb on 26 June, with leading players sharing their views ahead of the 250th anniversary of the Pfandbrief in August.

Neil Day, The Covered Bond Report: are discussions about tightening the regu- Matthias Melms, NordLB: Indepen- What is it about the Pfandbrief that latory framework, it is important to ensure dently of the issuers and the assets that has resulted in it being such a long- that the Pfandbrief remains competitive are behind the Pfandbrief, when we talk lasting and successful product? versus other products. about 250 years of a success story we have to talk about the Pfandbrief law. A Jens Tolckmitt, Association of German Felix Rieger, Deutsche Bundesbank: foreign investor once told me: I want to Pfandbrief Banks (vdp): The stability I am here representing the Bundesbank as invest in Germany, in the German Pfand- and the high quality of the legal frame- an investor today — not for its role regard- brief, but I don’t care about the issuer, I work have been decisive in making the ing monetary policy — and in this respect, don’t care about the assets, I just want Pfandbrief such a long-lasting product. investing money on behalf of Federal gov- to have the Pfandbrief with the highest What is especially important today, is that ernment entities, the Bundesbank is a spread. I asked them what the strategy it has over time consistently combined the very conservative investor. And it’s really behind that was, and they said: I think spirit of tradition with the spirit of innova- the combination of the Pfandbrief being a the German Pfandbrief law is the best tion to keep the product relevant. When very low risk product but at the same time law in the world and I’m convinced that trying to develop the Pfandbrief into new offering a little bit more yield pick-up than there will never be a default of a German areas, we — meaning the Pfandbrief issu- a traditional government investment that Pfandbrief. This best demonstrates how ers — are mindful of the well-established is behind its success. But I think that after we have a special success story here in principles that make the product safe, but 250 years its reputation doesn’t really need the German Pfandbrief law, which per- at the same time are not bound by tradi- to be explained anymore. haps has the reputation of being the best tion. Look at the jumbo Pfandbrief. Look Looking at it from a broader perspec- covered bond law in the world. Indeed, at green Pfandbriefe. Over time, they tive, the Pfandbrief is also very important we have seen several jurisdictions simply have given it a new flavour and made the for the economy as a whole in its function copy the German Pfandbrief law, or at Pfandbrief fit for purpose. And this is how of facilitating real estate finance, where- least elements that were introduced, like we should continue. by illiquid mortgages are transferred to 180-day liquidity line. So the German Most important for issuers is that in the liquid bonds — liquid not only in the Pfandbrief law in particular is a success face of all the regulatory developments the market, but also in central bank mon- story, not just the Pfandbrief, per se. industry is confronted with, the Pfandbrief etary policy operations. Therefore covered must remain a product that is economically bonds are for us an asset class that we view Thomas Ludwig, Commerzbank: The viable for issuers to use. So whenever there very positively. Pfandbrief has been alive for 250 years

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Roundtable participants (above, left to right): Matthias Melms, head of covered bond and SSA research, NordLB Neil Day, managing editor, The Covered Bond Report, and moderator Thomas Ludwig, director, bank origination, Commerzbank Felix Rieger, head of section management of euro portfolios, third-party portfolios, Götz Michl, head of funding and debt investor Deutsche Bundesbank relations, Deutsche Pfandbriefbank AG (pbb) Felix Zillmann, funding and investor relations, Jens Tolckmitt, chief executive, Association of Berlin Hyp German Pfandbrief Banks (vdp) now, but it has changed and has devel- changed. Other products are more familiar to other asset classes, you have an instru- oped. The way that issuers, lawyers and to retail investors — they invest in term de- ment that is relatively simple, clear and the market in general have combined to posits, maybe know about ETFs. Because transparent. Especially if you compare it keep the instrument up to date has been of the low interest rate environment, the with other kinds of securitisation, where key to keeping it in such a strong position. Pfandbrief meanwhile moved away from you sometimes have 500 pages of docu- Look at Helaba today issuing a suc- the broad investor base among retail inves- mentation. With the Pfandbrief you have cessful five year Pfandbrief with a nega- tors to now being more focused on banks, quite a small booklet, in fact, the Pfand- tive yield — only by having a very deep asset managers and professional investors. briefgesetz, and that’s basically all you investor base can you ensure such tight That development is typical of the long his- have to know. pricing, and the German Pfandbrief is still tory of the Pfandbrief, where we have seen the tightest product in the European cov- changing trends in the product. Day, The CBR: The European Com- ered bond world. That makes the issuer’s mission has finalised a new “book- life efficient, still having such a cheap in- Felix Zillmann, Berlin Hyp: We turned let” for European covered bonds in strument to refinance real estate as well 150 years old last year, and the Pfandbrief the form of the legislative package. as public sector lending. So yes, it’s a real has always been the most important refi- How satisfactory is the outcome? success story. nancing instrument for us ever since. A lot of things have changed over that time, Tolckmitt, vdp: There are two key takea- Götz Michl, Deutsche Pfandbrief- but the mortgage Pfandbrief and the busi- ways from the harmonisation package. bank (pbb): We grew up with the word ness case for it remain the same for Berlin Firstly, it is high quality, which is a very Pfandbrief. Thirty years ago, the Germans Hyp. This really proves the quality and the good development. This is a pre-requisite were familiar with Pfandbriefe and Kom- stability of the product. for safeguarding the preferential treat- munalobligationen (the old name for ment that all covered bonds enjoy and Öffentliche Pfandbriefe), even if they were Rieger, Bundesbank: What I have al- which is important for the success of the not working in banking. But times have ways found very nice is that compared product. Special preferential treatment is

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reduce a little the transparency and level of harmonisation that was achieved.

Melms, NordLB: The Pfandbrief was the seed of the covered bond market 250 years ago, but since then covered bonds have grown into a global product. At least with- in the EU — where most of the issuers and investors are based — it was therefore necessary to have harmonised regulation. And although we have a principles-based approach, there are some elements that will be aligned across all EU jurisdic- tions. And I have to say that investors — especially second and third tier Ger- man investors who invest in Pfandbriefe Matthias Melms, NordLB: ‘Unfortunately the European Commission missed and covered bonds more than anywhere an opportunity to write a regulation also for ESNs’ else — find it helpful to be able to rely on such minimum standards, if they don’t a key attraction to bank, insurance and And which assets will they be able to refi- have the capacity to analyse every covered fund investors, to name a few. nance? There are areas in which covered bond law and every cover pool. That is the Secondly, it is a principles-based direc- bond-like instruments or products using real value of the directive, to build trust in tive, so we maintain the ability to innovate covered bond techniques could be used, this product, at least in respect of the EU. and develop the Pfandbrief law further, but the extent to which it is permitted And I’m pretty convinced that jurisdic- which — as I said before — is one of the needs to be considered very carefully — in tions outside the EU will in future take the key elements in the success of the Pfand- Germany, but in other countries, too — so EU directive as a blueprint and try to be brief. Importantly, it also maintains the as not to hamper the quality perception of compliant with it, implementing some of competition, so to speak, between the dif- the overall product. the elements into their domestic covered ferent covered bond laws, so that people bond laws. can go in different directions, and every- Day, The CBR: Ensuring the privi- body can learn from the best. leged treatment by having mini- Michl, pbb: It is obvious that minimum You have to recall where we came mum standards was part of the standards will make it easier for a smaller from. We have discussed this issue for thinking behind the directive. investor in Germany to buy non-German more than five years, and in the beginning Another aspect the Commission covered bonds. From a European perspec- full harmonisation was floated, as well as talked about in respect of harmoni- tive, this is positive. Speaking as a German a so-called 29th regime. Compare that to sation was making things easier for issuer, we benefit from a deep investor where we have ended up, with a princi- investors. Are you satisfied with the base in Germany buying the Pfandbrief. ples-based directive that, I have to say, has outcome of the directive? Some of these investors may now be mo- our full support. tivated to buy other covered bonds, which Now that we are entering the imple- Rieger, Bundesbank: In general, it is a is not to our advantage. mentation phase, it is very important the very good outcome. There was definitely But even with some harmonisation, European Commission ensures that the the need for some kind of harmonisation there will still be different issuers, differ- leeway granted by this principles-based in Europe. The Pfandbrief is a very good ent cover pools, different underwriting directive can be exercised in each and product, but as an investor you want to standards. So the question really is wheth- every country as each and every country have a broader scope, and until now when er minimum standards are sufficient to wants to exercise it, and does not try to you moved across Europe you could be- attract further investors who understand harmonise things via any other European come a bit lost, so to speak, with all the the risk, or whether it just creates a feeling institution. Making sure this really hap- different jurisdictions. At the same time, of safety. pens will be the key issue for the industry nothing should be lost that is worth keep- for the coming years. ing, and this has been achieved — at the Melms, NordLB: It is not harmonisation Regarding the content, one of the most price, maybe, that a lot of differences will with the Pfandbrief — with every jurisdic- important issues is how to deal with the probably remain. tion having the same high standards as in new covered bonds allowed on the second I hope that in the end the range of dif- Germany, with not only the Pfandbrief level, the directive level. Will they exist in ferent kinds of covered bonds will not law but also the secondary legislation — all jurisdictions? What will they look like? become too large, as this will obviously but minimum standards that can be relied

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on. However, that is at least much more than we had in the past and a step in the right direction. And I’m pretty convinced that we have a better outcome than might have been expected — especially thanks to the various banking organisations, includ- ing the vdp, who influenced the debate around the directive.

Zillmann, Berlin Hyp: A potential ben- efit on a medium term perspective is that you achieve a global brand, which could lead other investors into the European market. From a Pfandbrief perspective, [vdp president] Mr Hagen once said that the Pfandbrief is now part of a big orchestra, Jens Tolckmitt, vdp: ‘I’m not convinced that simply by creating any kind of and this is really important when you look covered product you get access to the market’ at the regulatory privileges the Pfandbrief has on a global level, namely LCR or RWA ty backstop for second tier covered bonds, in the market long enough to know that requirements. The directive makes sure with the rest being ESNs. This would have things could change, and it would have this is still being granted and hence se- set a minimum standard for the second been much better to put in place regula- cures demand for the Pfandbrief. tier covered bonds, because you need tion for a product that could offer market some kind of quality floor for them to be access when the senior market is closed, Ludwig, Commerzbank: Overall, this successful. But based on my reading of the and ESNs would have fit perfectly. If kind of minimum standard indeed makes directive, I’m not really convinced there is there were then the need for issuers to the investor’s life easier. And if in terms room for ESNs now given the broad defi- use assets other than mortgages and pub- of credit quality and pricing you are one nition of the second tier covered bonds lic sector assets to raise liquidity when of the strongest parts of the asset class, — and I think among regulators it is also the senior market is either closed or too maybe you will lose a little differentiation widely understood that we have a broad wide, for example, they would be better from the weaker ones. But in general all definition in Article 6. prepared. participants can benefit from a broader in- vestor base. If you look at the order books ‘In general, Tolckmitt, vdp: I’m not convinced that for German Pfandbriefe over the past sev- simply by creating any kind of covered eral years, for example, we have learned it is a very good product you get access to the market. It’s that the investor base is not static, it very outcome’ the inherent quality that makes a product much depends on relative value. Hav- marketable even in difficult times. And ing a broader investor base with differ- Melms, NordLB: Unfortunately the Eu- the question, even for the second tier ent regions and types of accounts means ropean Commission missed an opportu- covered bonds, is how far down you can that even when market circumstances nity to write a regulation also for ESNs. go while still convincing investors that change, you will always be able to generate Around six years ago the senior un- it is worth buying these products under demand. secured market was effectively closed at difficult market conditions. Simply hav- times, and there were discussions within ing three categories of covered bonds Day, The CBR: Returning to the issue the covered bond issuer community and — ESNs, directive-based covered bonds of second tier covered bonds, how especially the Pfandbrief issuer commu- and traditional covered bonds — doesn’t does this tie in with European Se- nity regarding what other types of assets ensure that you can use them all when cured Notes (ESNs), which were set could be used to achieve market access. markets are difficult, as you could use the aside in the legislative package? Not necessarily under Pfandbrief regu- Pfandbrief and some other covered bonds lation — as one bank did with aircraft during the deep financial crisis. This is the Tolckmitt, vdp: We were in favour of a Pfandbriefe — or with ship Pfandbriefe, debate that we have to get on with. three tier approach, where we would have but on another level, using covered bond the traditional covered bonds (Pfand- techniques and bringing assets like SMEs Ludwig, Commerzbank: I totally agree briefe and so on), the directive-based cov- to the market. Then, as market condi- with Matthias. Currently there is not too ered bonds, and ESNs. That would have tions improved, this whole discussion much pressure — as even senior unse- made sure that we had some kind of quali- disappeared. That said, we have all been cured funding via senior preferred or

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you steadfastly defend hard bullets, or should you not at least offer market par- ticipants the possibility to invest in soft bullet structures out of Germany? I re- ally don’t know the answer to that. I don’t have a final view on it. I have heard views, especially from foreign investors, that if they were to invest in the Pfandbrief — which they’re not doing now, because it’s too tight — they would prefer hard bul- let, because that’s something they like. Others have said: hard bullet, soft bullet, I don’t care, because I get my money back in time.

Ludwig, Commerzbank: Currently the Thomas Ludwig, Commerzbank: ‘What we still see is that not every soft bullet difference between hard and soft bullet has the same wording — the terms and conditions are not 100% clear’ structures in terms of pricing is pretty thin. But what we still see is that not every soft senior non-preferred is extremely cheap Day, The CBR: Are extendible ma- bullet has the same wording — the terms — but when we came out of the financial turities something that is still being and conditions are not 100% clear and crisis and the Eurozone crisis in 2012 and considered for the Pfandbrief? are by far not harmonised in all jurisdic- 2013, funding spreads for banks were far tions yet. Something that has always been wider than they are today. Therefore there Tolckmitt, vdp. Yes. We will see how this very clear and transparent in the German was far more space between covered bond is viewed by the German government and Pfandbrief law is under which conditions funding and the senior level. Götz said the German regulator, but it is our aim to something will occur. that perhaps the harmonisation of covered introduce an extendible maturity into the bond laws removes a little of the funding Pfandbrief Act. The implementation law Tolckmitt, vdp: And it applies to the advantage of German Pfandbrief banks — in respect of the EU directive will offer an whole asset class, so it’s for all Pfandbriefe. particularly in normal times without QE That’s why it’s important that it is in the programmes, there is still a lot of room ‘It is our aim law and that there is no leeway in decid- for differentiation between covered bond ing if and how to exercise it. This is one laws, and maybe this window will open to introduce an of the strengths of the German Pfandbrief again, making room for SMEs. extendible maturity’ Act, that it is kept simple and applies to all Pfandbriefe. Rieger, Bundesbank: I personally think opportunity for this issue to be addressed. that postponing the SME issue from the Clearly it will comply with the directive, Rieger, Bundesbank: What is welcome directive was probably a good idea, be- which we were waiting for. Should it be in the directive is that it now at least says cause otherwise the process would prob- implemented, our aim is that it would ap- that these extensions have to be defined ably have been too time-consuming to ply to all Pfandbriefe outstanding. in national laws. That is perhaps not as finish in this legislative period. But also good as defining them in the directive, in the long run, I am also not fully con- Day, The CBR: Is such a develop- but at least it’s a step in the right direc- vinced that there is a business case for ment welcome? tion. And as has been said, the most im- ESNs, simply because there are already portant thing is that the triggers and the other asset classes catering for other assets Melms, NordLB: Whether or not you process are defined clearly somewhere — we must not forget that we also have prefer hard bullets, soft bullets, or some and ideally in the law, and you don’t structured covered bonds, which have a other structure, what everyone can rec- have to dig through long explanations certain place also in the spectrum of se- ognise is that hard bullet is not the mar- and documentation to find out how it curitised assets, and for two years now we ket standard anymore. The only remain- would work. And so if it’s done in a good have STS (simple, transparent and stand- ing pure hard bullet jurisdictions are way, yes, you could think about having ardised) regulation in the ABS segment. Germany, Luxembourg and Spain — we extendible maturities in the Pfandbrief I’m not sure that adding an ever increas- have even seen the first soft bullet cov- law, too. ing number of asset classes helps, because ered bonds in Austria. In light of this — at some stage liquidity is split up between and independent of what the EU direc- Day, The CBR: Do you buy condition- too many different instruments. tive might allow — the question is: can al pass-throughs and soft bullets?

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Rieger, Bundesbank: We only buy soft bullets, not conditional pass-throughs, be- cause there is a difference between a soft bullet and conditional pass-through in terms of the extension risk you ultimately run. If a soft bullet is properly defined, and in particular if it’s not at the discretion of the issuer, then it is something we would be comfortable with.

Day, The CBR: With the directive completed, what other regulatory initiatives are there that might be important for the Pfandbrief, for the covered bond market? Basel may be something issuers are focused on, but perhaps this is not Pfandbrief- Felix Rieger, Bundesbank: ‘There is a difference between a soft bullet and centric, so to speak. conditional pass-through in terms of the extension risk you ultimately run’

Tolckmitt, vdp: From our perspective, time soon, and what that means for the Melms, NordLB: Overall euro denomi- there are three regulatory initiatives that difference between the market value and nated benchmark covered bond issuance are important. the MLV, without hampering the quality stands at a little more than EUR90bn, One is Basel. It’s not a Pfandbrief-cen- of the product. which is pretty convincing. I believe al- tric issue, because Pfandbriefe, or covered most every analyst, myself included, bonds, are treated very well there, in terms Michl, pbb: In a very well performing forecast positive net supply for this year, of the risk weight. But it obviously affects real estate market with falling yields, the but I was the most pessimistic, forecast- the underlying business, too, and quite difference between our conservative and ing a little more than EUR120bn for the significantly so. This directly affects the stable MLV and the market value obvi- full year. That said, when you analyse the question of what can be refinanced via the ously increases. As a consequence, the reason for the high volume, it’s all down Pfandbrief, and that’s what makes it indi- portion we can fund through the Pfand- to the EUR38bn of issuance in January, rectly important for the Pfandbrief. brief decreases, so we need a higher por- which translated into positive net supply The second is the sustainable finance tion of senior unsecured funding. In our of EUR25bn. Since then we’ve only seen framework as such, which affects all as- cover pool we currently have a loan to val- small positive net supply in May, while we pects of banking and therefore also the ue ratio based on market values of about saw negative net supply in June and Feb- Pfandbrief and Green Pfandbrief or sus- 35.2%, a huge difference to the LTV based ruary, and March and April were more or tainable Pfandbriefe. Whatever way you on the MLV, which is around 55%. less balanced. look at it, this will have a very far-reaching The conservative valuation is key to We have meanwhile seen spread tight- impact over the next few years. the quality of the Pfandbrief. However, in ening of around 10bp, with secondary five And then on a Pfandbrief-specific a low or even negative interest rate envi- year generic Pfandbrief spreads that were matter, you have the mortgage lending ronment, the question of the appropriate around 5bp in mid-January now at levels value (MLV), where there are initiatives at minimum property yield for valuation of around minus 4bp-5bp. There are at European and national level. On a Euro- purposes should be discussed. least two reasons for that. The first is that pean level, they are, for the second time, the period of positive net supply that put trying to define a European MLV, which Day, The CBR: We’ll return to the pressure on spreads from early 2018 to is a good development because it has not sustainable finance issue later mid-January 2019 is over. existed in the international sphere before, on, but following your comments The second reason is relative value: the but you have to make sure that they make about interest rates, let’s turn to spread between Pfandbriefe and Bunds is it right. And at a German level, it’s a ques- the market situation. I remember at the moment around 45bp in five years, tion of how to further develop the MLV, reading analysts’ forecasts for this and much more attractive in 10 years. In which is the basis for the part of a loan year, regarding issuance but also March 2018 it was completely unattrac- that can be refinanced via Pfandbriefe. It yields and spreads, and things have tive, around 25bp, one of the lowest lev- is a very static value compared to the mar- turned out quite differently to what els since the financial crisis. From March ket value and the question is how you can was anticipated. Matthias, how do 2018 to January all covered bonds un- take into account the interest rate envi- developments compare to what you derperformed versus sovereigns and also ronment which is unlikely to change any expected? SSAs, so that by January the situation

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matically. The market has become more attractive from an investor’s point of view again — and this reflects very well on the product, because even if there are certain investors who stood on the sidelines be- cause it was too expensive from a relative value perspective, they returned because they believe in the product.

Rieger, Bundesbank: It has been a very challenging situation, because there was such a huge level of intervention in the market, and it is natural that when the central bank withdraws there is a lot of volatility. I would therefore not read too much into the way spreads went up and Felix Zillmann, Berlin Hyp: ‘If I were buying covered bonds, I would go for then back down shortly afterwards — I the product which offers the highest quality and lowest volatility’ would interpret this as simply a reflec- tion of the uncertainty in the market. had changed completely and Pfandbriefe II. It appears that issuers don’t consider Now the situation is perhaps even more were a screaming buy, especially at the the TLTRO III conditions to be attractive complicated, because there are already long end of the curve — in 10 years the enough to just roll that part of TLTRO II expectations that the central bank might spread versus a generic bucket of SSAs that refinanced mortgages into TLTRO III, return, but nobody knows when or how. was around 14bp-15bp, the widest level with two years being a little short, without It’s therefore very difficult to make any since early 2013. the possibility of rolling it in March 2021. predictions, because it also depends very Now the situation has changed again. much on fluctuating expectations regard- Until today, when Helaba issued at a nega- Ludwig, Commerzbank: Some very ing the business cycle — is a recession tive yield of minus 22.7bp, I would have significant external drivers led to the issu- coming or not? However, I personally said that it is impossible to issue in the pri- ance pattern we have seen this year. First- would not be surprised if spreads remain mary market in the short end of the curve ly, QE — from September 2018 onwards very tight for a long period, with a high and medium maturities. Pfandbriefe are the market was well aware that net invest- degree of volatility along the way — af- no longer attractive versus Bunds or SSAs. ments under CBPP3 would soon decrease ter all, in this environment of high un- We are talking about deeply negative to zero, and from October spreads wid- certainty you have a flight to quality, and numbers versus swaps, levels where you ened and there was less issuance activity. as we said, Pfandbrief and covered bonds normally lose — at least in the long run — are a very high quality product. demand from bank treasuries. ‘We are talking But now we have the situation where Day, The CBR: How have issuers Mr Draghi in Sintra has prepared the about deeply found the market? ground for possibly another APP and low- negative numbers’ er deposit rates. If we get APP, we know Zillmann, Berlin Hyp: We are in line from past experience that it is possible Then in January, everyone was well aware with our issuance plans — we also did that spreads will stay in deeply negative of the Brexit date [31 March] but no one some prefunding last year. territory for a long period if the central was really sure how the market would re- The market is challenging, with such bank is buying enough in the primary act if it came to a hard Brexit, and many tight spreads and negative yields. It was market — even if we don’t know how big issuers therefore worked on a frontloaded good to see Helaba issuing today in five the Eurosystem order might be. basis. And during the fourth quarter of years because that had also been a ques- That said, we don’t know about TLTRO 2018 and the beginning of 2019, we saw tion for us — everybody was issuing in II repayments, which influence covered that at the higher spread levels investors the long part of the curve, but at the end bond issuance. I tried to collect numbers were back and willing to absorb the net of the day you have to balance your as- from issuers to get an idea of the volumes supply. If I remember correctly, bench- sets and liabilities and with commercial they took from TLTRO II to refinance marks were on average about 50% over- real estate we have an average maturity their mortgage portfolio, and based on my subscribed in 2018 and this year they have of around seven years, so we can’t go to calculation, I forecast around EUR40bn been much more than 100% oversub- the long end of the curve the whole time. up to EUR60bn of covered bond issu- scribed, so the quality of books and the I assume the order book was driven by ance next year just to pay back TLTRO number of participants has increased dra- banks, but the question is, how will the

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situation be dealt with by real money in- vestors. I’m glad to hear Felix, for one, still finds the Pfandbrief attractive. Given that the spread differentials between dif- ferent covered bond jurisdictions have narrowed, the spread give-up investors face when buying Pfandbriefe versus oth- er covered bonds has gotten quite small over the past few months, and if I were buying covered bonds, I would go for the product which offers the highest quality and lowest volatility.

Michl, pbb: To emphasise Felix’s point on the asset-liability mismatch: the low, negative swap rates have driven investors into longer maturities. At pbb, Götz Michl, pbb: ‘The low, negative swap rates have driven investors into we postponed the issuance of a second longer maturities’ euro-denominated Pfandbrief planned for the end of the first quarter because of the end for everyone. Additionally, we may see It is a goal we all share, but my feeling negative carry for our cash position. From some more measures from the ECB in Sep- is that actually everybody is doing some- a pure opportunity cost perspective, it was tember. Most market participants believe thing about sustainable finance — central the right decision. We saw new issuances that if we see a reopening of the purchase banks and regulators, among others, at a pushed further out along the curve, but programmes in whatever format, that will national level, an EU level, and a global the Helaba trade with a five year maturity lead to further spread tightening, and so level — but they are not all speaking to was a positive signal for issuers who need after being frontloaded in Q1, issuers can each other. There is therefore a risk that shorter maturities. now look at the market on a relatively we will end up with different frameworks On the asset side, our duration is less relaxed basis, especially if you bear in mind for the same issues, which then affects the than five years, which is typical for the that an overhang of liquidity generates neg- whole financial industry. It is very impor- commercial real estate business. The li- ative carry. tant that policymakers and regulators co- abilities we issued this year in euros have ordinate among themselves. We at the vdp an average maturity of eight years. With Day, The CBR: Returning to the topic are therefore monitoring and engaging the falling interest rates, this might even of sustainability, how do you see the with all these initiatives that affect the is- increase. We have therefore focused on market developing, how are regu- suers’ business, both on the asset side and foreign currencies. In US dollars and lations and initiatives influencing on the funding side. Swedish kronor we were able to issue in activity, and what initiatives are you On a smaller scale, the vdp is taking the three year bucket. We will continue to undertaking? over the brand “Green Pfandbrief” from focus on non-euro Pfandbriefe as long as Berlin Hyp and will be the central licenc- we have assets in that currency. Another Tolckmitt, vdp: Clearly it’s a topic that ing point, so to speak, for Green Pfand- option, which Matthias already men- extends far beyond the Pfandbrief, and briefe in the future. We are building on tioned, is the TLTRO III, which is a bit it’s one of the few trends that is here to a lot of work already done by Berlin Hyp short. It might anyway be an alternative to stay. In my career in the financial markets on standards for Green Pfandbriefe and cover the shorter maturities. there have been many fashionable trends are developing them further in a work- and many of them have disappeared quite ing group, which will also be in charge of Ludwig, Commerzbank: If you bear in quickly; sustainability will not, but will granting the licence. We are also consider- mind that the TLTRO is not a one-off, but encompass the whole financial industry. ing social Pfandbriefe as a second pillar of a series of seven opportunities, and you al- There is a strong political will to use the sustainable Pfandbriefe and are discussing ready know that you will be fully allocated, financial industry to green the real econo- relevant standards. This is closely inter- you can already plan for that. And if you my, because politicians have seen that they linked with all that is going on at a broader are currently engaged in the TLTRO IIs, are not able to reach everyone directly, regulatory level in terms of the EU taxon- you can roll it when it comes to maturity. which is why they do it indirectly by this omy issue and so on. Of course, from a regulatory perspective, type of regulation. This will be one of the two years is not so helpful, but from a pure key policy initiatives for the new Com- Rieger, Bundesbank: The Bundesbank liquidity and cost efficiency perspective mission and many other regulators and is quite active on the policy side regard- it at least offers an alternative at the short policymakers are already working on it. ing sustainability. The Bundesbank was

August 2019 The Covered Bond Report 9 IN ASSOCIATION WITH THE VDP

a founding member of the Network for we are doing with their money, they really teresting proposition? And are you Greening the Financial System (NGFS) of want to do impact investing, and that’s moving in that direction? central banks and regulators, where more why the trend won’t disappear. the macro perspective is discussed: How We are pleased that the EU and the Michl, pbb: Clearly it’s an important should financial stability be influenced? Technical Expert Group are putting so topic. But taking a step back from green What can central banks do to really make much work into the topic. The updated bonds and the capital market, first of all the financial system greener? And how version of the taxonomy from 18 June re- it’s important to get the bank into a sus- should this influence regulation on the ally contains a lot of positive new points. tainability framework with an overall micro level? We are very pleased to see that the smaller environmental footprint. This But this is also a very big issue when it vdp acknowledges the importance of the means looking at energy consumption for comes to managing the pension portfolios product. By transferring the trademark our offices, IT, travel policy, etc, but also for the public investors, the German states to the association, we have the chance waste management. Then there’s the sec- and the German central government. Un- together to increase the potential and ond question, what kind of business do we til now it has been more focused on the impact of the brand as more issuers from underwrite? In our case, being a special- equity side — where it might be more Germany will use it. In the end we should ized lender for commercial real estate, it is relevant — but increasingly there is the end up with a minimum standard, to rather straightforward as building stand- desire to have a sustainability approach in make things easy for investors as well, ards are always improving. fixed income. so that they know that when there is a With such loans we have the option In my view, there is a huge potential Green Pfandbrief on the screen, they can of issuing green capital markets products for green covered bonds, for instance. I’m expect at least a certain level. This is also — senior unsecured, Pfandbriefe, AT1 — sure there will be great demand, but it’s what the EU is trying to do, of course, whatever makes sense. And as Jens and still a niche market and it’s very difficult but I think we will be a bit faster, and can Felix have said, demand from investors to invest large amounts of money in green maybe set a good example. exists and is actually growing. covered bonds simply because there are I’ve two general comments on the not so many. Why is that? Maybe it’s be- ‘This will put a price green bond product. It is not the funding cause in the end the cost and the effort for advantage that makes green bonds attrac- issuers is quite high — there are of course tag on the green tive, as the spread differential is minimal institutions that have made the effort, but feature’ and the additional effort for asset selec- apparently others are a bit more reluctant, tion, monitoring and reporting is high. otherwise we would already see more in Melms, NordLB: So far the Green But green bonds will allow the diversifica- the market. Pfandbrief has given issuers the possibil- tion of the investor base and — more im- With respect to Pfandbriefe and cov- ity of enlarging, diversifying and broad- portantly — supports the environmental ered bonds, the question is also, what is ening their investor base. In particular, cause. Having said that, I think we must the focus of the sustainability approach? you have much more demand from for- not allocate green bonds exclusively to Is it the product, or is it the institution? eign investors who do not buy the tra- new “green investors”, but continue to I have heard different views and I’ve not ditional, tight Pfandbrief product — it serve our established investor base as well. made up my mind entirely. One of the is really good to see that investors from I think there is a very interesting idea basic features of a covered bond is the abroad are buying the green Pfandbrief in the market that is worth mention- cover pool, but in many cases the ap- in size. So this green product has not ing. The Deutsche Finanzagentur and proach is to look more at the issuer. If only the beauty of hopefully saving our the Danish government are considering in the end the standard is more to look future, but also, for the German issuers, separating the “cash bond” and the green at issuer, then maybe in the long run the the beauty of offering access to investors feature. If I understand the concept cor- potential for green covered bonds will be they normally do not reach. rectly, there will be a “promise to behave somewhat limited. However, I can’t identify a greenium green” for a certain amount with an ISIN for the product at the moment, not only that can be bought independently from Zillmann, Berlin Hyp: The market is in Germany, but also issuance from other the government bond. This will put a quite new, so it has to develop, and we jurisdictions or in other currencies, such price tag on the green feature and we will need to be careful that it goes in the right as Swedish kronor. see which investors are really willing to direction. I agree with Mr Tolckmitt that give up return for the environment. On it’s a trend that won’t disappear, because Day, The CBR: Götz, you mentioned the bond side, the allocation process this is not only a financial topic, this is you were a bit concerned about the remains untouched, with only one out- a social topic, a political topic, and both competition for investors with the standing benchmark curve driven by the these factors also influence investor de- directive coming in. Would a Green credit quality of the issuer. mand. When we talk to investors, it’s in- Pfandbrief potentially offering you Overall, the sustainability trend is very creasingly important for them to see what more foreign investors be an in- positive, but it’s at an early stage and needs

10 The Covered Bond Report August 2019 IN ASSOCIATION WITH THE VDP

to be developed and improved. This is, for more and more important to everybody, bonds we are typically talking about the instance, the case with the impact report- so you don’t just have the usual green in- best 15% of the buildings qualifying as ing for CO2, where the numbers are often vestors asking how sustainable you are green, and the other 85% need to be fi- theoretical, not reflecting the real con- and what you are doing with your green nanced as well, so there should be room sumption. The question which always re- bonds, suddenly you also have conven- for both products. mains is whether green bonds really avoid tional investors asking such questions as any CO2. they start to change. This takes time, but Tolckmitt, vdp: Having regulators and in a few years you will really have to justify policymakers define rules and push the Zillmann, Berlin Hyp: You’ve raised a yourself if you don’t issue impact bonds — market in this direction will help steady the few interesting points. although I expect the barriers to entry and sustainability trend and lead to standardi- First of all, regarding the greenium, I the workload will then be lower, too. sation as an indispensable development. would say that prices are always a matter My last point is on the question whether But if you look at balance sheets of banks, of supply and demand, and we have defi- we save CO2 by issuing green bonds. While the larger part is — and for the foresee- nitely seen higher demand on our green our green bond activity is prominent in able future will remain — non-green, and bonds, even if we decided to price them the capital markets, it of course has a cor- you cannot force the issue. Looking back on our credit curve. The reason we don’t responding impact on the asset side. Banks at the last five years in the Pfandbrief mar- really see a greenium right now is the have to be a sparring partner for their cus- ket, what has been very positive has been compressed spread levels. If you look at tomers — we can incentivise them and that the relevant developments have been KfW’s secondary curve, for example, the offer them advice on their green projects investor-driven. Investors’ perception of green bonds are trading tighter, but this — and thereby create a real impact. This is what qualifies as green or sustainable has could be due to other reasons — smaller another aspect we are working on with the changed dynamically, and it’s important size, for example. Perhaps in other times a vdp, the Energy Efficient Mortgages Ini- that regulators understand that while greenium would be more visible. tiative, which is trying to set standards for they can set important standards regard- On the other hand, yes, you are right, green mortgages, and also for how private ing what is considered green, they should you have to put a lot of work and money customers can consult a bank to find out refrain from trying to regulate each and into it. But the investors do that, too. Of how to make their home more energy ef- every detail themselves, but instead leave course they look at what the rating agen- ficient and also save money. room for issuers and investors to continue cies say, but they also want to have their the valuable private initiatives that were own view, so they need to have a certain Ludwig, Commerzbank: When we dis- in the market long before any politician analytical capacity that they have to spend cuss the real difference between energy ef- or regulator discovered the topic and got money on. ficient green buildings versus “old brown” involved. n Regarding investors and treating them buildings, in the future this may lead to a differently, we are currently in an evolv- differentiation on the asset side in terms Cover image: Sanssouci Palace, summer ing environment. Over the past two years of lower capital costs or lower funding residence of Frederick the Great, begetter of the issue of climate change has become costs. But bear in mind that for the green the Pfandbrief. Source: Wikimedia Commons

August 2019 The Covered Bond Report 11 The Pfandbrief – leading the way for 250 years. Thanks, Fritz!

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