The Covered Bond Report www.coveredbondreport.com November 2011
Australia CBPP2 CEE Debuts under fi re ECB straitjacketed Beyond the crisis Covered bonds?
Highly rated covered bonds backed by mortgages Average LTV of 60.5% Match-funded structure Core capital ratio of 18.6% Largest mortgage bond issuer in Europe
nykredit.com/ir
Figures as of 17 March 2011 The Covered Bond Report CONTENTS
11
FROM THE EDITOR 3 Lands of opportunity (P8FTUBOEHSPXVQXJUIUIFDPVOUSZ±CVU QFSIBQTOPUUIFDPVOUSZZPVXFSFFYQFDUJOH
Monitor LEGISLATION & REGULATION 4 Senate bill gives US momentum 7 *OEJBSPBENBQ -BCFMVOWFJMFE -VYFNCPVSHESBGU 4USVDUVSFEJTTVBODF "GSJDBO¾STU *DFMBOEJDSFUVSO
RATINGS 12 S&P methodology helps resilience 0OEJTDSFUJPO *UBMZBDDFTTLFZ %FYJBCSFBLVQ
MARKET 16 Aussie openers under fire $#11TUSBJUKBDLFUFE .BSLFUNBLJOH 4XFEFTUSBWFM 'SFODIFYQBOE $PPQEFCVUT /PSE-#BJSDSBGU¾STU
LEAGUE TABLES 23 Euro, multi-currency benchmarks
FULL DISCLOSURE 48 47 You are cordially invited… "#*"'.&.JMBO &$#$#BSDFMPOB WEQ'SBOLGVSU
November 2011 The Covered Bond Report 1 The Covered CONTENTS Bond Report
24
Cover Story 24 For a few dollars more? &VSPQFBOJTTVFSTIFBEJOHBDSPTTUIFQPOEJOTFBSDI PGEPMMBSTIBWFOPUGPVOEUIF64BTXFMDPNJOH BTBOUJDJQBUFE#VUXJUIBDPWFSFECPOECJMMCFJOH JOUSPEVDFEJOUIF4FOBUF "VTUSBMJBOTVQQMZQPUFOUJBMMZ DPNQMFNFOUJOH$BOBEJBOTVDDFTT BOEJOEFYFMJHJCMF JTTVBODFCFJOHFYQMPSFE JTTVFSTDPVMEZFUSFBQUIF SFXBSETPGHPJOHXFTUSusanna RustSFQPSUT
ANALYSE THIS 30 Sovereign belief undermined 3BUFTJOWFTUPSTBSFJODSFBTJOHMZWJFXJOH&VSPQFBO 30 HPWFSONFOUCPOETBTBOVOTFDVSFEDSFEJU XJUIDPWFSFE CPOETUSBEJOHUJHIUFSUIBOTPWFSFJHOEFCUJODPVOUSJFT TVDIBT"VTUSJBBOE*UBMZ.PSHBO4UBOMFZµTLeef Dierks and Jason SomervilleFYQMPSFUIFFWPMWJOHEJTUPSUJPOT BOEPQQPSUVOJUJFTUIFTFIBWFUISPXOVQ
LEGISLATIVE ISSUES 36 CEE beyond the crisis "QPQVMJTU)VOHBSJBOMBXIBTUISFBUFOFEMPOHUFSN DPOTFRVFODFTGPSDPWFSFECPOET CVUFMTFXIFSFJO DFOUSBMBOEFBTUFSO&VSPQFDPOTUSVDUJWFSBUIFSUIBO DPOUSPWFSTJBMBNFOENFOUTBSFQFOEJOH*OEFFE CSFBLUISPVHIJTTVFTGSPNUIF$[FDI3FQVCMJD 3PNBOJB BOE4MPWFOJBDPVMENBLFBCBOOFSZFBSGPSUIF SFHJPO Maiya Keidan SFQPSUT
LEGAL BRIEF: US DOCS & PROCESS 42 Papers, please 8IJMFUIF64JTSFHBSEFEBTBMBOEPGPQQPSUVOJUZCZ 36 NBOZOPO64JTTVFST EPDVNFOUBUJPOSFRVJSFNFOUTIBWF DBVTFEIFTJUBUJPO)FSF Jerry Marlatt TFOJPSPGDPVOTFM BU.PSSJTPO'PFSTUFS EFUBJMTUIFPQUJPOTBOETUFQT OFDFTTBSZGPSBTVDDFTTGVMJOUSPEVDUJPOJOUPUIF64
2 The Covered Bond Report November 2011 FROM THE EDITOR
Lands of opportunity
o West, young man, go West and grow up with the country.” This famous exhortation — widely attributed to 19th century newspaper editor Horace Greeley — has been “Gtaken up with gusto by European covered bond bank- ers. Seeking to grab a share of a market built on an $11tr mortgage industry, they have travelled across the pond in the hope that a US covered bond market will be born, accompanied by European issuers eager to establish a transatlantic trade. A new Senate initiative to introduce legislation is an- other step towards this goal, but with a key regulator — the Federal Deposit Insurance Corporation — against it and an election year imminent, these hopes could be dashed. The Covered Is the European industry condemned to a life of mis- Bond Report ery, its fate in the hands of euro-zone politicians pre- varicating to such an extent that even a new European www.coveredbondreport.com Central Bank covered bond purchase programme can- Editorial not rouse issuance? US targeted dollar deals will provide Managing Editor Neil Day some business, but as disappointing Australian debuts +44 20 7415 7185 have shown, any such relief may be fleeting. [email protected] Could developing or emerging markets provide cause Deputy Editor Susanna Rust [email protected] for hope? Not if common reactions to such enquiries — Reporter Maiya Keidan “Pah!” or “Meh!” — are to be believed. [email protected] True, some countries will take years to generate any- thing like the kind of volume to get excited about in a Design & Production Creative Director: Garrett Fallon context where Eu1bn has been a typical benchmark size. Designer: Kerry Eggleton A reform of Romania’s covered bond law, for example, is expected to yield — drum roll, please — perhaps Eu7bn, Printing according to the CEO of one local bank. Bishops But when the countries in question are Brazil or In- Advertising Sales dia, the calculations begin to make sense. Santander was [email protected] widely scorned for the price it paid for some Latin Amer- ican assets a decade or so ago, but the naysayers have Subscriber Services since been silenced. [email protected] Of course, a sensitivity to local customs may be re- Editorial quired in these new territories. One rating agency re- [email protected] alised, for example, that a thorough legal analysis of foreclosure procedures in an unnamed Southeast Asian The Covered Bond Report is a country became redundant when it emerged that it was Newtype Media publication standard practice to bribe judges. 25, Finsbury Business Centre But hopefully bankers will not need to pack one item 40 Bowling Green Lane that was standard issue for HSBC’s early emerging mar- London EC1R 0NE ket pioneers: a gun. +44 20 7415 7185 Neil Day, Managing Editor
November 2011 The Covered Bond Report 3 MONITOR: LEGISLATION & REGULATION
Legislation & Regulation
HAGAN-CORKER ACT Senate bill gives US push momentum A bill introduced by Senators Kay Hagan A covered bond analyst said he was and Bob Corker has been welcomed for surprised by the absence of “pro-FDIC” giving renewed momentum to a push concessions given discouraging com- for covered bonds in the US, although ments he had heard about the strength of market participants have warned against the FDIC’s lobbying in the Senate. over-optimism, particularly in light of A Hagan staff er told Th e Covered continued FDIC concerns. Bond Report that the FDIC had neither Th e two introduced the United States indicated support nor opposition to the Covered Bond Act of 2011 on 9 Novem- bill, saying that the FDIC is always con- ber with co-sponsors Democrat Chuck cerned about its repudiation and the Schumer (NY) and Republican Mike treatment of assets in the event of a bank Crapo (ID). Th e four Senators are mem- failure. He said that the Senators would bers of the Senate Banking Committee, work with the FDIC going forward, as the Senate body that proponents of the as- well as Senate Banking Committee chair- set class have been hoping would take up man Johnson, with a hearing on the bill the covered bond cause aft er a similar bill being targeted. was passed by the House Financial Serv- ices Committee in June. Th e Senate bill is “The only dark aimed at creating a legislative framework cloud is the FDIC for covered bonds to expand the funding options of US fi nancial institutions. perspective” “Th e US lags behind its global peers in the development of a covered bond “Now we have legislation in both the market because we lack a legislative House and Senate with wide bi-partisan framework for issuers and investors,” said support,” he said. “That’s a rare thing in Hagan, a member of the Senate Banking Congress these days and a good sign for Committee. “With a legislative framework the prospects of the legislation going in place, US fi nancial institutions will have forward.” Kay Hagan: “The US lags behind a powerful tool that can be used to fund Bert Ely, a financial institutions and its global peers” loans to small businesses and households.” monetary policy consultant who also Corker led a previous Senate covered testified at the March HFSC hearing, bond initiative, while Schumer earlier that it might be a little bit of a token said that although the Senate initia- this year said that he could introduce gesture,” said Ralph Daloisio, managing tive is welcome, it might not move too such a bill aft er seeing Republican Con- director, Natixis, and a member of the quickly and further progress in the gressman Scott Garrett, alongside Demo- American Securitisation Forum who tes- House of Representatives is probably crat Carolyn Maloney, introduce legisla- tifi ed at a HFSC hearing in March. “But necessary first. tion into the House of Representatives. this looks much more choreographed— “Th e fact that Garrett got his bill Th ere had been fears that the Federal very closely mirroring what came out of through the HFSC started to be some- Deposit Insurance Corporation’s concerns the House Financial Services Committee thing of an impetus to get the ball mov- regarding covered bonds and its lobbying and with four sponsors, all members of ing into the Senate,” he said. “It may still against Garrett’s legislation might have the Senate Banking Committee. It sounds have to see the House fl oor fi rst and if the dissuaded Senate Banking Committee like [Senate Banking Committee chair- House passes the bill that ups the pres- members from moving forward. man] Tim Johnson is going to have to put sure on the Senate.” Market participants said that they were it on the agenda. Fitch said that the Senate legislation pleased to see the bill being introduced. “Th e only dark cloud is the FDIC per- “generally sticks closely” to the House leg- “A few weeks ago we realised some- spective,” he added. “Th ey are not very islation, aside from expanding the defi ni- thing was going to materialise in the Sen- happy it’s come out in this way with the tion of eligible issuers and changing the ate Banking Committee, but we thought four Senators supporting it.” proposed regulator for certain issuers. Q
4 The Covered Bond Report November 2011 MONITOR: LEGISLATION & REGULATION
NHB India seeks covered bond road-map India’s National Housing Bank has estab- to MBS. And then we will see its customis- lished a working group to look at the po- ability to the Indian context.” tential for covered bonds to support the NHB has previously supported secu- country’s fast-growing housing market. ritisation initiatives and MBS transac- “We are looking to explore the market tions, but the MBS market is subdued, for covered bonds and the need for such said Verma, particularly in the aft ermath an instrument in the industry, so we have of the sub-prime crisis. brought together the institutional repre- “A number of lessons have been learnt,” sentatives to work in the Group to study he told Th e Covered Bond Report, “and National Housing Bank offi ces, the feasibility, and make recommenda- we are exploring how the market can use New Dehli: housing regulator tions on what the prospects look like and some variants of securitised instruments, exploring covered bonds what the road-map should be,” said RV such as covered bonds, and bring lenders/ Verma, chairman and managing director originators to bear greater responsibil- 7%-8% of GDP, which Verma said “needs of the National Housing Bank, which is ity, as the investors in covered bonds will to be scaled up quite substantially”. a subsidiary of the Reserve Bank of India have recourse to the balance sheet of the NHB regulates specialist housing fi - responsible for supporting and regulating lenders. So there’ll be lot more responsi- nance companies, which were histori- housing fi nance. ble origination and close supervision and cally the leaders in the housing fi nance “We will be taking inputs from diff erent monitoring by the lenders themselves.” industry. However, they now account for players, including, of course, the govern- According to Verma, mortgage lend- around 30% of origination, with banks ment in due course, because of the legis- ing is growing 20%-21% year-on-year, — which NHB also has links with — in- lative aspect,” he told Th e Covered Bond with new lending of around $30bn creasing their market share, said Verma, Report. “Also, we are drawing on the inter- (INR140bn) annually and outstand- with around 70% of new business origi- national experience of the role played by ing mortgages totalling about $120bn nation and a similar proportion of out- covered bonds as an alternate instrument (INR564bn). Th is is equivalent to around standing mortgages. Q
SOUTH KOREA Koreans mull legislation as Woori mandates
The Financial Services Commission is ABS Act — although Woori Bank in Oc- Moody’s said in a report in October that considering establishing dedicated leg- tober awarded Royal Bank of Scotland the June guidelines are credit positive and islation to allow South Korean banks the mandate to arrange a covered bond provide the country’s issuers with a “road- to issue covered bonds, FSC chairman programme and Korea Housing Finance map” to navigate, while also benefi tting in- Kim Seok Dong told a parliamentary Corporation has issued covered bonds vestors by reducing uncertainties about the meeting on 10 October. backed by pooled collateral from its mem- consequences of an issuer bankruptcy and The FSC and Financial Supervisory ber banks under an act governing KHFC. establishing disclosure requirements. Service (FSS) on 30 June issued best According to FSC spokesperson Ernst “Korea is a heavily regulated civil law practice guidelines that the regulators Lee, the commission will review the ne- country and issuers are cautious to obtain described as intended to provide a cessity for Korean banks to issue covered regulatory blessing before issuing a new framework for covered bond issuance bonds, and will look at making improve- instrument in the market,” said Jerome to help diversify banks’ fi nancing instru- ments to covered bond guidelines issued Cheng, vice president, senior credit of- ments and encourage more long term at the end of June. fi cer at Moody’s. “Although Korean banks and fi xed rate mortgage lending. “FSC is studying cases of other recognise the merits of issuing covered In the absence of a covered bond countries for covered bond issuance bonds and are interested in issuing them, framework only one Korean bank has is- and will try to synchronise with market it is not surprising that before the regu- sued a covered bond on a standalone demands in terms of timing,” he told lator published the guidelines, they have basis — Kookmin Bank, under Korea’s The Covered Bond Report. taken a wait-and-see approach.” Q
November 2011 The Covered Bond Report 5 MONITOR: LEGISLATION & REGULATION
ECBC Label unveiled, regulatory recognition sought Th e European Covered Bond Council ket participants,” it said. “Th e long term has released criteria — including a trans- objective of the initiative is to promote ECBC chairman Antonio Torío parency element — that issuers will have liquidity and strengthen covered bonds’ addresses the Barcelona plenary to satisfy to be eligible for a covered bond secondary market activity.” “label” under an initiative it has been working on. “The long term objec- Proposals for implementation of the tive of the initiative is Covered Bond Label Convention, as it has been dubbed, will be put to an ECBC to promote liquidity” plenary in spring 2012. “Th e Covered Bond Label is a key pri- Speaking at an ECBC plenary in Bar- ority for the ECBC, which is developing celona in September, its chairman, Anto- the initiative in co-operation with issu- nio Torío, said that the labelling initiative ers, investors and regulators with the aim is a process that takes time and has neces- of ensuring that the views of all stake- sitated “a lot of thinking to put together holders are incorporated,” said the coun- the pieces”. standards of the asset class in a chang- cil on releasing the details in October. “Th e eff orts on behalf of issuers to ad- ing environment”, said Torío, noting The core characteristics the ECBC here to the label need to be recognised by that covered bonds had provided Eu- has drawn up and that issuers will have regulators and we hope that if we provide ropean issuers with market access be- to satisfy are featured in the accompa- enough of a solid proposal that regula- cause the asset class had been perceived nying boxes. tors will feel compelled to treat the asset as not being “quote unquote, tainted” Th e transparency element is intro- class in an enhanced way,” said Torío. by the inclusion of other assets and duced in the last of these. National bod- Another objective is to “maintain structures that make it more complex ies will determine what information is- and further develop the existing high and possibly riskier. Q suers in their jurisdiction can satisfy and provide based upon guidelines listed in I Legislation safeguards an annex. a) The CB programme is embedded in a dedicated national CB legislation; “Th is defi nition of the required char- b) The bond is issued by — or bondholders otherwise have full recourse, direct or acteristics is complemented by a trans- indirect [including pooling models consisting only of covered bonds issued by parency tool to be developed at national credit institutions] to — a credit institution which is subject to public regulation level based on ‘Voluntary Label Trans- and supervision; parency Guidelines’,” said the ECBC. c) The obligations of the credit institution in respect of the cover pool are super- Th e labelling process will be based vised by public supervisory authorities. upon a process of self-certifi cation, said the ECBC. Th e ECBC steering committee II Security features intrinsic to the CB product will be the decision-making and supervi- a) Bondholders have a dual claim against: sory body, with market participants able t 5IFJTTVJOHDSFEJUJOTUJUVUJPOBTSFGFSSFEBUUIFQPJOU*C to provide input through an advisory t "DPWFSQPPMPGmOBODJBMBTTFUT UZQJDBMMZNPSUHBHFBOEPSQVCMJDTFDUPSMPBOT council. Th e practical operations of the in priority to the unsecured creditors of the credit institution; the fi nancial assets labelling process will be run by a label eligible to be part of the cover pool and their characteristics such as credit qual- secretariat. ity criteria are defi ned in the national covered bond legislation which complies Th e ECBC said that the initiative high- with the requirements of Article 52(4) of the UCITS Directive. lights to investors the value and quality of b) The credit institution has the ongoing obligation to maintain suffi cient assets in covered bonds and further enhances the the cover pool to satisfy the claims of covered bondholders at all times. recognition of and trust in the asset class. c) Issuers are committed to providing regular information enabling investors to “Th e label will also improve access analyse the cover pool, following the guidelines developed at national level to relevant and transparent information (see Annex I). for investors, regulators and other mar-
6 The Covered Bond Report November 2011 MONITOR: LEGISLATION & REGULATION
“We saw more participation from bank treasuries than we had a year ago” page 28
LETTRES DE GAGE Luxembourg specialist bank principle could go A draft update of Luxembourg’s covered many’s Pfandbrief market, which was centred Th ere are fi ve covered bond issuers in bond legislation has been circulated that Th e on the specialist bank principle, whereby Luxembourg: Dexia LdG Banque, Euro- Covered Bond Report understands could the activities of most issuers were restricted. hypo Luxembourg, NordLB Covered Fi- remove the specialist bank principle from However, this was removed when a new nance Bank, Hypo Pfandbriefb ank Inter- the country’s framework. Pfandbrief Act was introduced in 2005, al- national (a subsidiary of Hypo Real Estate), An offi cial at a Luxembourg issuer in lowing universal banks to issue. and Erste Europäische Pfandbrief- und early November said that the draft has been Bankers in the duchy have been work- Kommunalkreditbank, wholly owned by out since 28 October and had yet to be dis- ing on possible changes to Luxembourg’s Commerzbank. Q cussed by interested parties, so further de- legislation for some time, according to tails could not be released. Michael Schulz, head of fi xed income re- However, a market participant said the search at NordLB. Luxembourg’s Chambre des Députés: legislative changes afoot main change in the update will be to remove “Th ey have been planning to bring in the specialist bank principle in favour of allow- this new legislation since 2010,” said, “but ing universal banks to issue covered bonds. developing a new legislation needs time. Luxembourg’s lettres de gage framework “I know now that the process is speed- was established in 1999 and drew upon Ger- ing up now.”
UK FSA sets out compliance best practice The UK’s Financial Services Authority in November provided “You should consider whether you should enhance the second “thematic feedback” based on annual reviews for the fi rst time line oversight of your programme in light of the examples below.” Q in a letter to the country’s Regulated Covered Bond issuers, with the compliance function within regulated programmes in focus. FSA’s expectations for second line oversight include: The letter, representing “fi nalised guidance”, was published t0OHPJOHNPOJUPSJOHPGUIFQSPHSBNNF FHDIFDLTBD on 2 November and set out the FSA’s expectations of minimum curacy of regulatory and investor reporting, aware of and standards that compliance functions — referred to also as monitoring breaches); “second line oversight” — should meet within regulated pro- t$MFBS VOEFSTUBOEJOH PG 3$# SFRVJSFNFOUT BOE UIF SPMF grammes as well as examples of good practice by RCB issuers. of the compliance function in relation to the programme. John Wu, senior associate, capital markets team at the FSA, told Appraised of relevant regulatory developments, and able The Covered Bond Report that the FSA’s RCB team felt it would be to provide advice internally as appropriate; and valuable to communicate to RCB issuers some of the fi ndings of its t"EFRVBUFBOETLJMMFESFTPVSDF XJUIBQQSPQSJBUFEFQUIPG annual reviews, with compliance functions a “theme of interest”. expertise in covered bonds, evidence of ability to chal- “We thought it would be a good idea to communicate what lenge management. good points issuers were doing and let other fi rms know what is indeed best practice,” he said. “It doesn’t refl ect changes in Examples of good practice: our expectations, as we have always looked at compliance as t$PNQMJBODFJTSFQSFTFOUFEBTWPUJOHNFNCFSPODPWFSFE an integral part of a programme’s operation.” bond management committees and relevant steering The letter is addressed to the signatory of the “RCB 1D Annual At- groups with full access to relevant minutes and MI; testation of Compliance” as the offi cial responsible for ensuring that t $PNQMJBODFVOEFSUBLFTSFHVMBSSFWJFXTPGUIFQSPHSBNNF arrangements relating to the management of a programme, includ- with clear channels of escalation between i) fi rst line and com- ing governance and oversight, meet the expectations of the FSA. pliance function, ii) independent upwards escalation of issues “We recognise that the specifi c role carried out by the com- from the compliance function and senior committees; and pliance function may vary between issuers, with certain aspects t $PNQMJBODF VOEFSUBLFT BDUJWF iIPSJ[PO TDBOOJOHw BOE of oversight shared between other second line functions,” said provides advice on changes in regulatory environment and the FSA. “Below, we set out our expectations and provide ex- is engaged in providing responses to regulatory changes. amples of areas of good practice that we have observed.
November 2011 The Covered Bond Report 7 MONITOR: LEGISLATION & REGULATION
INVESTORS ICMA CBIC sets half-yearly standard Half yearly reporting has been decided Some market participants have ex- upon as the standard for a transparency pressed concern that the CBIC is being initiative of the ICMA Covered Bond In- too demanding of issuers, but Claus Toft e vestor Council, which has agreed what Nielsen, chairman of the CBIC, told Th e issuers need to do to be admitted to its Covered Bond Report that the transpar- platform. ency standards were always designed to Th e decisions were taken at a CBIC be a wishlist. He said that he realised that meeting in mid-October, following a some issuers — in Germany, for exam- consultation held by the investor group, ple — might be able to rely on domestic which aims to fi nalise its transparency investors who did not require so much standards by year-end. Th e meeting fo- data. cussed on discussing practical aspects of “I’m quite relaxed about that,” said the investor group’s transparency project, Nielsen. with subsequent meetings due to focus But he said that the initiative refl ected on the data fi elds envisaged by a draft Nathalie Aubry-Stacey: “It is about the needs of international investors and template. ease of access but also comparability” that it was up to issuers if they decided According to a statement from the to follow it. CBIC, members agreed that only issuers Aubry-Stacey said that agreement on this Th e investor body is also holding using the group’s template will be allowed as the desired frequency of reporting was meetings with members and others that to post to a dedicated CBIC webpage, a easily reached. responded to its consultation discussions condition that Nathalie Aubry-Stacey, “It should be easy for issuers to do,” on two related areas: investors’ needs and secretary of the CBIC and director, regu- she said, “and the emphasis is on data be- additional fi elds; and clarifi cation of defi - latory policy and market practice at the ing published quickly aft er the results so nitions and concepts. International Capital Market Association that it is up-to-date. (ICMA), said was key. “Issuers can always decide to publish more.” “Issuers can always “Having one template for all issuers is Th e idea of setting minimum report- decide to publish quite important for the group,” she told ing standards that issuers need to meet to Th e Covered Bond Report. “It is about be able to post to the CBIC website was more” ease of access via a single webpage but also discussed, but the group decided also the comparability of the template.” against setting such a threshold. Th e CBIC will also seek to provide Th e CBIC said that while members “Although it was agreed that there clarifi cation on some items on the data recognise that insistence on issuers using should be a minimum of policing and list that was consulted upon. It said that it its template “could generate additional that too little relevant information would welcomed some national issuer associa- administrative burden for issuers” they not be helpful,” said the CBIC, “there tions’ willingness to provide their own, also consider it would help fuel stand- would not be any minimum standards.” standardised defi nitions and would con- ardisation and “be a great advantage for Some market participants have not- sider feedback on circumstances where the European covered bond market and ed that the range of information being data may or may not be appropriate to would eventually lower funding cost”. sought by the CBIC is extensive, and the any particular jurisdiction’s “national It was also agreed that the CBIC tem- CBIC discussed such feedback. traditions”. plate — which will take into account re- “It was noted that this was expected as Michel Stubbe, head of the market sponses from the consultation and bilat- it represented the needs of investors and operations analysis division at the Eu- eral discussions with issuers and national refl ected the fragmentation of the Euro- ropean Central Bank, said at a European associations — be independent from oth- pean covered bond market – some inves- Covered Bond Council plenary in Barce- er national templates and be presented in tors having a focus on the cover pool, lona in September that the CBIC initia- Excel format. others on the general issuer section,” tive was very important and could help Data should be reported on a half- said the CBIC. “It is for each investor to reduce reliance on the rating agencies by yearly basis shortly aft er issuers publish decide what analysis and focus they will allowing investors to make more autono- their results, according to the CBIC. take on the data received from issuers.” mous analyses. Q
8 The Covered Bond Report November 2011 MONITOR: LEGISLATION & REGULATION
“The number of dealers that will trade covered bonds has defi nitely expanded” page 29
STRUCTURED BONDS Germans consider Pfandbrief break-out Several German fi nancial institutions are “Th e basic idea behind ‘unregulated’ Bernd Volk, head of covered bond understood to be considering the possi- covered bonds is to set up a structure research at Deutsche Bank, highlighted bility of issuing structured covered bonds comparable to what we know from UK concerns the fi nancial authorities might alongside Pfandbriefe, as they seek new covered bonds, i.e. a segregation of assets have, while acknowledging the attrac- ways of raising secured funding. in a special purpose entity in combina- tions of the project to pbb. Deutsche Pfandbriefb ank (pbb) said in a tion with a senior unsecured bond issued “We argue that a legislative decision for presentation in September that it is “analysing by a bank,” said UniCredit’s analysts. a specifi c covered bond (e.g. the German possibilities of structured covered bonds” and “Th e special purpose entity would then Pfandbrief) generally suggests that further a market participant familiar with the discus- guarantee the timely payment of interest contractually based covered bond struc- sions said that he could imagine structured and principal in addition to the unse- tures are vulnerable from a legal point of covered bonds might also make sense for the cured claim versus the bank.” view,” he said. “On the other hand, a pure likes of Eurohypo and Landesbank Baden- Th ey said that although many details re- wholesale funded bank like pbb does not Württemberg. Pbb prefaced the idea by say- mained unclear, Krauss explained how this have to deal with subordination of deposi- ing that “high OC requirements highlight would fi t with German laws and regula- tors and actually may fi nd ways to opti- need for alternative approaches, e.g. using tions to create what he said would be “quite mise its funding structure via introducing non-encumbered assets”. a strong legal body”. UniCredit’s analysts a further covered bond format.” According to analysts at UniCredit, said that the assets considered as having the Any such issuance from pbb would Stefan Krauss, partner at Hengeler Muel- most interesting potential for such a cov- not, however, be without precedent, ler, presented a concept for an “unregu- ered bond are: mortgage loans not included with Landesbank Berlin having launched lated” covered bond at the event where as Pfandbrief cover, corporate loans (SMEs structured covered bonds alongside pbb discussed its thinking. and others), and consumer loans. Pfandbriefe, albeit in small amounts. Q
SME LOANS Italians rule out structured, mull SMEs
Any moves in Italy to create we have securitisation and access of small and medium enterprises to an instrument similar to cov- we have covered bonds; we loans, to savings, that’s another issue. ered bonds but backed by don’t have something in the “It could be advisable that the law lending to small and medi- middle. facilitate this process.” VN TJ[FE FOUFSQSJTFT XPVME “So it would be very dif- Alfredo Varrati, senior analyst, credit need to be done through a fi cult to create through a department, at the Italian Bankers’ As- new law, an offi cial at the private initiative something sociation (ABI) said that structured cov- Italian Treasury told The different.” ered bonds would not work in Italy. Covered Bond Report. Alfredo Varrati: “The Forese said that were “In Italy any covered bond issued Responding to a report way to another kind of the government to look at outside Law 130 of 1999, which is our that the Italian government covered bank bond would ways in which small and securitisation law, would defi nitely not is considering structured be a legislative one” NFEJVN TJ[FE FOUFSQSJTFT be an option,” he said. “There would be covered bonds, Giuseppe could be supported, legis- problems in terms of assignment of the Forese, head of prudential regulation at lation could be drawn up. assets to the SPV, ringfencing, clawback the Italian Treasury, said that the article “The label OBG can be used only for clauses, tax exemptions and so on. was incorrect. specifi c covered bonds which are in line “In other words, the way to another “The headline of the article was ex- with the very strict criteria defi ned by Italian kind of covered bank bond would be a actly the contrary of what I said,” said law,” he said. “If we want to create some legislative one.” Forese. “In my view, it is not possible to different kind of instrument — which is not He said that the ABI is discussing with introduce something like that because named covered bonds but can be regu- the Treasury the idea of covered bond type we have in Italy two kinds of instrument: lated by a law — in order to facilitate the instruments to fi nance SME lending. Q
November 2011 The Covered Bond Report 9 MONITOR: LEGISLATION & REGULATION Moro Moroc
AUSTRALIA Warning on secured, but covered boosted Australian regulatory and central bank Debelle. “Th at is the fundamental point of offi cials warned of an overreliance on se- diff erentiation between the various forms cured funding at an Australian Securitisa- of funding. tion Forum conference on 21 November, “But ultimately, everyone can’t be at the although APRA and RBA Basel III meas- front of the queue.” ures could be positive for covered bonds. On 16 November APRA released a Charles Littrell, executive general man- discussion paper on the Basel III liquidity ager, policy, research and statistics at the framework, while RBA announced chang- Australian Prudential Regulation Author- es to its list of repo-eligible securities and ity (APRA), said that a historic shift may be margins, and released details of a com- underway from banks being mainly unse- mitted liquidity facility (CLF) designed to cured borrowers to banks pledging “a great help banks fulfi l liquidity coverage ratio deal of collateral” as they turn to a mix of (LCR) requirements under Basel III. collateral-based funding, whether that be Guy Debelle: “I see the role of Daniel Yu, analyst, fi nancial institu- securitisation, covered bonds, more col- covered bonds as primarily broadening tions group at Moody’s, told Th e Covered lateral for trading exposures, and the prob- the potential investor base.” Bond Report that RBA for the fi rst time able exploration of repos in the context of introduced an explicit reference to cov- liquidity and other needs for authorised covered bonds is likely to be off set to some ered bonds as part of the changes it an- deposit-taking institutions (ADIs). extent by a demand from unsecured debt nounced, with there previously having “Although each of these initiatives indi- holders for more compensation in the fu- been no need to do so because Australian vidually may give an ADI cheaper funding ture,” he said. “So I see the role of covered banks only recently received regulatory or better trading terms,” he said, “a whole bonds as primarily broadening the poten- approval to issue such debt (see Monitor industry with lots of collateral pledged is tial investor base rather than a means of Market for more on the fi rst Australian most unlikely to make the remaining de- reducing overall funding costs for banks.” covered bond issues). positors and unsecured creditors safer. Debelle said that Australian banks are Covered bonds are included in an “Th is is an issue that APRA and other primarily likely to turn to covered bonds as “ADI-issued securities” category in RBA’s regulators will need to wrestle with over an off shore funding source because domestic list of eligible securities, with separate the next several years.” investors are more comfortable with MBS. margin scales based on debt with mini- Also speaking at the conference in Syd- He questioned the extent of the diff er- mum ratings of Aaa, Aa3, A3, Baa1, and ney, Guy Debelle, assistant governor, fi nan- “other rated”. Th e RBA said that it will cial markets at the Reserve Bank of Australia “Ultimately, everyone increase haircuts on securities pledged (RBA), said that investors clearly prefer se- can’t be at the front with the central bank and, with lower cured debt in the prevailing risk-averse envi- rated securities facing relatively larger ronment, but that the trend toward predom- of the queue” increases in margins, covered bonds, by inantly secured issuance is not sustainable. virtue of their high ratings, will become “Banks can’t encumber their balance ences between the various forms of bank more attractive. sheets through secured issuance to such wholesale funding, noting that they are In a report, Yu and colleagues said that an extent that unsecured issuance, and all claims on a bank’s balance sheet in one the favourable repo margin on covered even deposit gathering, is no longer pos- form or another, and that the main diff er- bonds relative to unsecured bank debt will sible,” he said. “Too much issuance of cov- ence is the degree of credit enhancement benefi t Australia’s major banks because it ered bonds and you’re eff ectively back in provided by subordination in the case of has the potential to increase demand for the unsecured world.” RMBS or overcollateralisation (and addi- such securities, of which the major banks Although a cap of 8% on assets encum- tional recourse to the balance sheet) in the are likely to be the main issuers. bered by the issuance of covered bonds by case of covered bonds. Moody’s also noted that over the long- Australian ADIs protects deposits, he added, “Th e strong motivation for the current er term APRA could deem covered bonds the introduction of covered bonds subordi- preference of investors for secured issu- eligible for LCRs as Level 2 high quality nates unsecured debt holders to a degree. ance is about repositioning themselves to- assets, which would further raise their at- “Any pricing gain obtained from issuing wards the front of the creditor queue,” said tractiveness for investors. Q
10 The Covered Bond Report November 2011 MONITOR: LEGISLATION & REGULATION occo Parliament, with caption: cco’s parliament could consider legislation in 2012 “The guts of both the House and Senate bills are very similar” page 30
AFRICA Moroccan draft could herald African fi rst Morocco’s ministry of economy and fi - year over the past fi ve years. A presenta- aimed at institutional investors. Interest in nance has been preparing covered bond tion on the draft law noted a “remark- issuing covered bonds stems mainly from legislation that could be fi nalised and able” development of mortgage lending, Morocco’s largest banks, he added. ready to present to parliament by the end which has grown from Dh54bn in 2005 Fouad Bendi, deputy director at Magh- of the year, an offi cial at the ministry told to Dh188bn (Eu16.8bn) in 2010. reb Titrisation, Morocco’s fi rst securi- Th e Covered Bond Report. Morocco has had a securitisation law tisation company and the fi rst in north No covered bond has yet been is- in place since 2002, when the fi rst trans- Africa, said he sees covered bonds and sued out of Africa, so any Moroccan deal action took place. Th e law was amended securitisation as complementary fund- could be the continent’s fi rst. in late 2008 to broaden the range of assets ing instruments, in particular as covered Nouaman Al Aissami, head of the that can be securitised — which had ini- bonds will only be allowed to be backed by credit division at the ministry of econ- tially been restricted to residential mort- mortgage or public sector assets. omy and fi nance, said that work on the gage loans — and to adopt a more secure “Th ere are not many fi nancing instru- project began more than a year ago. A and developed framework. ments in Morocco, so any additional one draft prepared by the ministry and fi nal- Al Aissami said that the international is a bonus,” he said. Q ised in June is being reviewed by inter- fi nancial crisis had brought covered bonds ested parties including the central bank. to the Moroccan government’s attention “Our objective is to have concluded and prompted it to use the instrument to the review by the end of this year,” said add to the funding sources available. Al Aissami. Boudewijn Dierick, head of struc- Morocco has elections in November tured covered bonds at BNP Paribas, said and market participants hope that the that the project is in the early stages and legislation will be presented to parlia- part of wider eff orts to develop Morocco’s ment in 2012. fi nance sector. Th e initiative to set up a dedicated “Covered bonds will in the fi rst in- legal framework for issuance of cov- stance be an asset class for domestic in- ered bonds (obligations sécurisées) was vestors,” he said. driven by a rapid expansion of Morocco’s Al Aissami said that issuance is likely to Morocco’s parliament could mortgage market, according to Al Aissa- take place primarily in the domestic mar- consider legislation in 2012 mi, which has grown more than 20% per ket, but that there may be some issuance
ICELAND Covered offer Íslandsbanki wholesale return
Íslandsbanki announced in early October Íslandsbanki, which is intended to broad- suer of new bonds on the Nasdaq OMX that it has obtained the necessary licence en the funding sources of the bank,” said Iceland Stock Exchange. from the Icelandic Financial Surveillance the bank in a statement. “Today, deposits “The covered bonds are issued pursuant Authority to issue covered bonds, ahead count for up to 75% of Íslandsbanki’s fund- to Icelandic law on Covered Bonds nr. 11 of up to ISK5bn (Eu31m) of issuance by ing, but the future goal is to lower that ratio from 2008, which imposes strict require- year-end. and make the bank less dependent on de- ments on any issuer,” said Íslandsbanki. An Íslandsbanki offi cial told The posits as a funding source.” “For example, the collateral is required to Covered Bond Report that the covered The Íslandsbanki offi cial said that pass a weekly stress test in regards to inter- bond issuance would represent the fi rst covered bonds would enable the bank est rates and currency rate fl uctuations. wholesale funding by a major Icelandic to better match its assets and liabilities. “The Icelandic FSA will carefully mon- fi nancial institution since they were na- Íslandsbanki said that the bonds will itor covered bond issuance,” it added. tionalised following their collapse. primarily be offered to investors in Ice- Íslandsbanki is not rated and its cov- “This is a part of the funding strategy of land and that it will thus be the fi rst is- ered bonds will be unrated. Q
November 2011 The Covered Bond Report 11 MONITOR: RATINGS
Ratings
S&P Methodology part of ratings resilience Many of Standard & Poor’s covered bond Summary effect of issuer downgrades ratings would be resilient to moderate Programmes downgraded (left scale) stress in the shape of one to two notch is- Programmes downgraded with ALMM improvement* (left scale) suer downgrades, according to the rating Average change in credit quality(right scale) (%) Average change in credit quality with ALMM improvement (right scale) agency, which it said is partly due to over- 70 1.40 collateralisation demands resulting from a 60 1.20 (Number of notches) change to its methodology in 2009. 50 1.00 40 0.80 S&P looked into the availability of un- 30 0.60 used potential ratings uplift based on a sam- 20 0.40 ple of 87 programmes and carried out an 10 0.20 analysis to investigate the overall sensitivity 0 0.00 123 of its sample of programmes to underlying *By One ALMM classification Source: Standard & Poor’s 2011 issuer downgrades. This was on the as- sumption that the asset-liability mismatch programmes would remain rated triple-A, However, most covered bond pro- (ALMM) risk that helps determine the max- with a further 54% rated double-A. grammes rated by S&P are already classi- imum potential uplift between the ICR and Sabrina Miehs, director, covered bond fied as having low ALMM risk, said Miehs. a covered bond rating does not change, with ratings at S&P, said that in the rating agen- S&P said that the ratings stability re- the analysis also leaving aside country risk, cy’s view the analysis shows that its cov- vealed by its scenario analysis is partly which could additionally constrain how ered bond ratings react only very margin- due to the rating agency only rating pro- high S&P rates a covered bond programme. ally to a moderate hypothetical stress of a grammes triple-A if they are highly over- The scenario analysis, published in late one to two notch issuer downgrade. collateralised, regardless of how highly it October, showed that in the event of a uni- Andrew South, senior director, structured rates the issuer. form one notch lowering of all respective is- finance, S&P, said that the scenario analysis Miehs said that this was a decision tak- suer ratings only 23% of programmes in the does not take into account the scope that is- en when the rating agency switched to its sample, by number, would likely have their suers have to manage their programmes to new covered bond rating criteria in 2009. ratings downgraded, and that the average lower asset liability mismatch risk. “It was very important for us not to in- change in credit quality would be a lower- clude any benefit from the issuer rating in ing of 0.23 notches. Assuming issuer down- “When an issuer the calculation of target overcollateralisation grades of two to three notches 41% and 66% rating is lowered the levels,” she said. “Our criteria are set up to of covered bond programmes, respectively, size the level of overcollateralisation to ad- would be cut, the rating agency said. target level of OC dress the risks in covered bonds from day However, S&P said that the majority of does not change” one, without a link to the issuer credit rating, programmes would remain rated double- so that when an issuer rating is lowered the A or triple-A even under the “relatively “There is still some room for resilience target level of OC does not change.” substantial scenarios” of issuer down- that could offset issuer downgrades,” he said. This approach avoids putting addition- grades of up to three notches. S&P’s report said that a reduction of al financial stress on the issuer, she added, “For example, we currently rate 86% of ALMM risk so that a programme is classi- which would otherwise find itself needing programmes in our sample AAA,” it said fied one category better would increase by to increase overcollateralisation to main- in the report. “If we downgraded all of the one notch the maximum potential number tain the covered bond rating. underlying issuer ratings by one notch, of uplift from an ICR, which would reduce In its report S&P said that this contrasts 76% of the programmes would remain the number of covered bond programmes with the approach of some other rating agen- rated AAA, with a further 17% rated in whose ratings would be cut in a hypotheti- cies, which it said may assign their highest the AA rating category.” cal case of an issuer downgrade. rating to a covered bond programme with If all of the underlying issuer ratings The proportion of programmes down- less overcollateralisation on the basis that were cut by three notches, 87% of the graded would fall from 23% to 13%, from the issuer’s credit rating is relatively high. programmes in the sample would remain 41% to 33%, and from 66% to 64%, respec- “Adding more collateral to the cover pool rated in the triple-A and double-A rating tively, under the one, two, and three notch is- may be challenging in a financially stressed categories, it added, of which 33% of the suer downgrade scenarios mentioned above. environment,” it said. Q
12 The Covered Bond Report November 2011 MONITOR: RATINGS
MOODY’S Discretion a better imparter of value Support for covered bonds has so far an issuer’s discretion could therefore be hood that investors will need to rely on the outweighed credit negatives that issuers’ seen as a credit negative. assets in the cover pool,” he said. “Th is is discretion over their programmes could “But an important benefi t of a covered because aft er a bail-in, the issuer can con- imply, according to a Moody’s offi cial, bond programme is that the issuer can tinue to service the covered bonds. who also said that it is too early to deter- support the covered bond programme if it “Th is assumes that secured debtors mine what impact bail-ins could have on wants to,” he added. “And to date the posi- won’t be bailed in, and most of our discus- its methodology. tive credit impact of issuers adding fur- sions so far suggest that secured debt will For a Q&A prefacing a new covered ther support to their covered bond pro- be excluded from bail-ins. So it may not bond compendium publication produced grammes has more than outweighed any be right to assume that a default of the is- by the rating agency, Nicholas Lindstrom, potential negative credit impact stemming suer supporting the covered bonds is the senior vice president, covered bonds, at from issuer discretion.” point at which investors have to rely on Moody’s, was asked how the rating agen- Lindstrom also addressed the ques- the cover pool.” cy takes into account the large amount of tion of whether bail-in frameworks being But Lindstrom said that it is not yet discretion issuers enjoy over the credit developed might make Moody’s recon- known what the fi nal details of all reso- quality of their programmes. sider whether it is appropriate for senior lution regimes that incorporate burden- “Th e short answer is that we penal- unsecured ratings to be the correct refer- sharing will be. ise the programme’s rating for certain ence point in determining the likelihood “What’s crucial is that we’ve seen little actions that could be detrimental to the of investors having to rely on a cover pool guidance on whether the covered bond pool, but give limited uptake for positive to be repaid. programme of a distressed institution will actions,” said Lindstrom. “Th e argument you’re referring to is be allowed to continue as part of a poten- He highlighted several ways in which that, in a post-bail-in world, the likeli- tially functioning post-resolution entity,” the rating agency has to refl ect worst case hood of a default of the issuer supporting he said. “In those cases, we’d consider how scenarios into its analysis and said that the covered bonds won’t refl ect the likeli- to give credit for that in our analysis.” Q
US BA covered cut, lack of OC support seen Fitch downgraded mortgage covered ability of default basis (PD) provided the bonds issued by Bank of America NA overcollateralisation is able to withstand from AAA to AA on 24 October, prima- Fitch’s cashfl ow model stresses in a AA rily due to the application of increased scenario, said the rating agency. interest rate stresses but also because of “A credit of up to two notches above increased loss expectations for the cover the covered bonds rating on a PD ba- pool and a potential lack of support of sis can be applied if stressed recoveries the programme’s asset percentage. assuming covered bond default exceed The covered bonds and issuer rating 91%,” said Fitch. were left on Rating Watch Negative. The rating agency said that the pro- BA indicated unwillingness to support The rating agency applied increased the asset percentage in future gramme’s nominal AP is 64%, less than interest rate stresses as part of its cash- the 69% determined under Fitch’s re- fl ow analysis, and also raised its loss party criteria led to an increase in the vised analysis, but that the issuer has in- expectations for the cover pool due programme’s Discontinuity Factor (D- dicated an unwillingness to support the to the risk characteristics of collateral Factor) from 39.6% to 40.1%. AP in the future should prepayments, and application of its prime residential The issuer’s long term rating of defaults and liquidations reduce avail- mortgage loss model. Both meant a de- A+, RWN, and the covered bond pro- able overcollateralisation (OC). crease of the asset percentage (AP) sup- gramme’s D-Factor of 40.1% enable the “Fitch does not view the potential for porting a AAA rating from 78% to 69%. mortgage covered bonds to be rated up a lack of support as consistent with an An application of Fitch’s counter- to an unchanged level of AA on a prob- AAA rating,” it said. Q
November 2011 The Covered Bond Report 13 MONITOR: RATINGS
FITCH Italy’s market access key Fitch has said that any perceived loss of market access by Italy could lead to in- Fitch said Italy’s near and medium term creased refi nancing cost assumptions and growth prospects have deteriorated therefore higher overcollateralisation sup- porting a given rating for Italian mortgage covered bonds and European public sec- tor covered bonds exposed to Italian pub- lic sector debt. It identifi ed this and the reduction of rating uplift provided by maturity exten- sions as two consequences for covered bond ratings should it judge the Ital- ian sovereign to be losing market access and cut its rating. Loss of market access is not Fitch’s base case, but a risk that it highlighted in a special report, “Italy: Th e Challenge Ahead”, on 18 November. Th e rating agency noted that if it consid- ers that the Italian sovereign is losing market access it will increase the stresses incorpo- lift of one notch in terms of probability occur even though the mortgage covered rated in its covered bond rating criteria. of default above the issuer default rat- bonds’ rating would be lower than today. Any such increase of stresses would af- ing (IDR) of the issuing bank,” it said, Fitch placed on Rating Watch Nega- fect covered bonds with exposure to Ital- “to which a maximum two notches (or tive (RWN) seven OBG programmes and ian assets, such as mortgage obbligazioni up to three notches if the rating of the three German public sector Pfandbriefe bancarie garantite (OBG), and other Eu- covered bond on a probability of default (see below) aft er downgrading the sover- ropean covered bonds secured by Italian basis is not investment grade) could be eign in early October. It said that existing public sector debt, such as those issued by assigned to refl ect recoveries in the case RWNs will be resolved based mainly on Germany’s Aareal Bank, Deutsche Pfand- of default.” the recalculation of the level of overcollat- briefb ank (pbb), and Eurohypo. eralisation supporting the rating of each Fitch downgraded Italy to A+, negative “Covered bonds programme as well as any liquidity miti- outlook, on 7 October, and said that since would be affected in gants put in place by the issuers. then the country’s near and medium term Italian issuers whose OBG pro- economic growth prospects have deterio- two ways” grammes are rated AAA, on RWN: Banca rated, with refi nancing spreads for assets Carige, Credito Emiliano, Banca Monte in Italian cover pools increasing. Secondly, if Fitch were to cut Italy dei Paschi di Siena, Banca Popolare di Th e rating agency said that if Italy los- some covered bond issuers would also be Milano, Banco Popolare, Unione Banche es market access and the sovereign were downgraded, it said, adding that the link- Italiane, and UniCredit. downgraded to a low investment grade age between the covered bond rating and German issuers whose public sector category, covered bond ratings would be the issuer could also prompt the covered Pfandbriefe are rated AAA/RWN: Aareal aff ected in two ways. bond ratings to be lowered. Bank, Deutsche Pfandbriefb ank and Eu- Firstly, a scarcity of available liquidity “An increase in stressed refi nancing rohypo. for cover assets would reduce the possible cost assumptions will lead to an increase Fitch said that the ratings of German rating uplift between an Italian issuer and in the percentage of overcollateralisation Pfandbriefe that are backed by a sig- its mortgage covered bond rating. supporting a given rating both for mort- nifi cant proportion of lower rated Italian “It is likely that the current liquid- gage OBG and European public sector public sector exposure are unlikely to be ity gap protection in the form of 12 to covered bonds exposed to Italian public aff ected by liquidity concerns, but that the 15 months maturity extension for the sector debt,” said Fitch, noting that it ex- bonds are exposed to Italian credit risk mortgage OBG would only enable an up- pects such a rise in overcollateralisation to and increased refi nancing costs. Q
14 The Covered Bond Report November 2011 MONITOR: RATINGS
“Spreads should be driven by the underlying quality of the collateral pools” page 33
SPIN-OFF Dexia MA transferred, DKD still unclear Dexia Municipal Agency is being spun off to Caisse des Dépôts et Consignations and La Banque Postale as part of the restruc- turing of Dexia group, while the fate of Dexia Kommunalbank Deutschland ap- pears to remain unclear. An agreement between Dexia, Caisse des Dépôts and La Banque Postale, details of which were announced on 20 October, con- tains two main features. One is the acquisi- tion by Caisse des Dépôts and La Banque Postale of respectively 65% and 5% of the shares in Dexia Municipal Agency, and a second is the establishment of a joint ven- ture held by Caisse des Dépôts (35%) and La Banque Postale (65%) that will be dedicated Dexia Banque Internationale à Luxembourg: to be sold to to originating loans to French local authori- a group of international investors ties, refi nanced through Dexia MA. RBS covered bond analysts said the move was positive but raised several ques- “The future of the news anyway in particular regarding Berlin- tions, such as what would happen to the based Dexia Kommunalbank”. remaining 30% stake of Dexia in Dexia Pfandbrief issuer Another analyst said that the Pfandbrief MA and how strong was the willingness of remained unclear” issuer appears to remain a Dexia subsidiary. Caisse des Dépôts and La Banque Postale Another pillar of the group’s restruc- to provide additional support for Dexia as subject to approval by the European Com- turing includes the sale of Dexia Bank new shareholders, if required. mission “the EU will probably not dare do Belgium to Société Fédérale de Participa- Dexia said that under the agreement anything but approve”. tions et d’Investissement (SFPI), acting on reached it will extend a guarantee to Dexia A press release from 20 October setting behalf of the Belgian state. Municipal Agency against Eu10bn of struc- out the decisions taken by Dexia’s board of Th e spin-off of Dexia Bank Belgium is tured loans to French local authorities as directors was silent on Dexia Kommunal- seen by many market participants as hav- well as an indemnity against losses in ex- bank, and RBS’s Will said the future of the ing likely created a new candidate for issu- cess of 10bp on all outstanding loans. Dexia Pfandbrief issuer remained unclear. ance under a Belgian covered bond legisla- will in turn benefi t from a counter-guaran- “Even in this morning’s press release, tive framework that is being prepared in the tee from the French state on the portfolio there has been no statement about what will country. of structured loans up to 70% of losses over happen to DKD,” he said. “You can see that “It’s a natural candidate,” said a cov- and above Eu500m, subject to the approval refl ected in its spreads, which have been ered bond analyst. “It’s now an isolated of the European Commission. growing wider since September before tak- standalone Belgian bank with a domestic “Th e counter-guarantee for Dexia is ing a couple jumps wider in October. retail business.” only on the Eu10bn structured loans to “People are getting nervous,” he added. A banker familiar with the legislative French entities rather than on the whole “Th ey’re concerned DKD could be spun off .” project in Belgium said that Dexia was an portfolio,” said Frank Will, head of cov- Dexia held an conference call on 9 No- active participant in discussions and was ered bond research at RBS. “It remains vember to update analysts on the group’s “always a big fan”. therefore even more important to what restructuring process and fi nancial situa- “Th ey were there from the start,” he said. extent the cover pool structure will be tion, and a covered bond analyst said that he Other elements of the Dexia restruc- altered by a possible transfer of troubled was surprised to hear numerous questions turing include the targeted sale of Dexia loans to a run-off entity.” about Dexia’s fi nancial situation rather than Banque Internationale à Luxembourg to a Another covered bond analyst said about the restructuring process, suggesting group of international investors, with the that while the counter-guarantee was still that “maybe the reason was that there are no participation of the state. Q
November 2011 The Covered Bond Report 15 MONITOR: MARKET
Market
AUSTRALIA Aussie openers under fi re Australia & New Zealand Banking Group deal two days later, also at 115bp over and Westpac launched the fi rst ever Aus- mid-swaps, via Bank of America Mer- tralian covered bonds in November, rill Lynch, Barclays Capital and Nomura, avoiding the euro-zone’s troubles to tap although conditions had deteriorated in the US dollar market, but the debuts the interim and ANZ’s deal was said to were found wanting by some market par- have traded wider in the aft ermarket. ticipants who found their execution and Market participants away from the performance disappointing. fi rst Australian covered bonds were left A mandated euro covered bond for disappointed by the jurisdiction’s debuts, Commonwealth Bank of Australia was saying the deals had underperformed on hold at the time of writing, with Na- since pricing, were pitched too tightly, tional Australia Bank also yet to issue and were poorly co-ordinated. aft er having initially been considered the “How have such a long anticipated frontrunner. group of such strong institutions from Th e sudden interruption in issuance such a great country ended up with this came aft er a frenzy of preparatory work, result?” asked one syndicate offi cial, with with Australia’s major banks quick to go on ANZ: First to use Australians’ new another saying that the impact on Aus- roadshows once the country’s parliament funding source tralia’s standing — and the implication had approved covered bond legislation for pricing in dollars for other issuers, not and the Australian Prudential Regulatory (LTV) valuations, prompting those issu- just from the country — was far reaching. Authority (APRA) removed a ban on the ers that had decided to include this in Nordic issues also widened on the back issuance of covered bonds by authorised their programmes to promote the fea- of the Australians’ underperformance. deposit-taking institutions (ADIs). ture, with NAB said to have ultimately “Th e question is: why would such a With roadshow mandates for NAB also opted for such a feature in response solid jurisdiction need to rush into the and CBA emerging only two days aft er to investor feedback. market at the wrong price?” said one. the covered bonds bill was granted royal ANZ then overcame tricky market con- “Why risk a deal not covered at the assent on 17 October, Australian banks ditions to sell Australia’s fi rst covered bond wrong spread that is destined to widen, moved towards covered bond issuance at on 15 November, a $1.25bn (Eu928m/ which it did? an unprecedented pace. A$1.24bn) fi ve year deal at 115bp over “Th ese are not one-off deals; the When the bill was introduced into mid-swaps led by ANZ, Citi, HSBC, Mor- banks have signifi cant funding to do in parliament by Treasurer Wayne Swan, a gan Stanley, Nomura and UBS, and the re- this space. It’s hugely disappointing and Treasury offi cial suggested that legisla- sult was considered respectable by others. a shame.” tion could be in place by Christmas, but John Needham, head of structured fund- Bankers close to the ANZ and West- ultimately it took only just over a month, ing, group treasury at ANZ, said that the pac deals defended their execution. with the House of Representatives and transaction went very well. “We had the ability to do a deal, in- Senate passing the bill on two subsequent vestors were asking for it, ANZ had gone days in October. “Why would such well, so we said: ‘Let’s do it.’ And we got “I think from fi rst reading to speech to there,” said one. Royal Assent, it would have to be one of a solid jurisdiction Th ey also defended their execution the shorter timings on any legislation that need to rush?” against claims their pricing off ered an in- has been passed, which is one of the ben- suffi cient premium versus outstandings, efi ts of having bi-partisan support,” said “Conditions were pretty tough in the saying that a consensus had emerged Andrew Jinks, a partner in Clayton Utz’s European time zone,” he told Th e Cov- from roadshows around the 110bp- banking and fi nancial services team. ered Bond Report, “but for us to bring 115bp level at which ANZ was fi rst whis- US and Europe-targeted roadshows, an inaugural transaction into the US and pered, ahead of 115bp area guidance. carried out by the majors, showed in- upsize it to take $1.25bn at 115bp over “It is very easy to criticise the levels, vestors to have a preference for the use mid-swaps — we’re very happy with that.” but investor feedback was OK around the of indexation in ongoing loan-to-value Westpac launched a $1bn fi ve year specifi c level,” said one. Q
16 The Covered Bond Report November 2011 MONITOR: MARKET
ECB CBPP2 straitjacketed by wider crisis Th e European Central Bank launched a new covered bond purchase programme at the beginning of November, but the prospect of support for the asset class failed to spark new issuance, with the euro-zone crisis undermining any recovery. By the time Th e Covered Bond Report went to press, a week into reporting of purchases by the European Central Bank, no euro-zone issuers had taken advan- tage of the second purchase programme (CBPP2) to launch new benchmarks. Th e fi rst offi cial details of Eurosystem buying were released on 14 November and aft er seven days Eu765m of purchases had been reported by the European Central Bank. Although this is below the average weekly amount that will need to be spent if the Eu40bn allocated is spread over the Mario Draghi: a new ECB year the programme is in operation, it rep- president for a new purchase resents a faster buying rate than at the be- programme ginning of the fi rst covered bond purchase programme, which ran from July 2009 to June 2010, despite CBPP2 being smaller Th e only confi rmed and indeed prob- “It was our understanding from the than CBPP1’s Eu60bn. able primary market purchases were of beginning,” he added, “that the Eurosys- Market participants said that the Eu- two taps for Crédit Mutuel Arkéa. Cen- tem wants to be involved in a real trans- rosystem is probably unwilling and un- tral banks were allocated 20% (Eu150m) action, in the sense that they want to sup- able to get new issuance fl owing. of a Eu750m April 2021 tap and 38% port transactions that are already able to “It seems that the Eurosystem cen- (Eu95m) of a Eu250m June 2015 increase. attract investors. Th at was the case in our tral banks do not want to intervene in Th ese were not necessarily all under the deal, which was already a success when large sizes in the secondary market as purchase programme, but the settlement a purchase programme order was placed, long as the sovereigns remain in such a of the trades coincided with a Eu263m although of course the programme made distressed state and Italian and Spanish increase to the ECB’s CBPP2 tally and it possible to do a larger deal.” covered bonds trade well through their those involved in the deal confi rmed that Th e European Central Bank an- sovereigns,” said Michael Michaelides, a ticket had been taken on behalf of the nounced the new programme on 6 Oc- covered bond analyst at Royal Bank of Eurosystem. tober aft er the monthly meeting of its Scotland. “Th e ECB and the national Th omas Guyot, fi nancial markets, governing council, with further details central banks probably want to keep their managing director at Crédit Mutuel forthcoming at its November press con- powder dry and will be more active in Arkéa, told Th e Covered Bond Report ference (see box for the ECB’s full crite- the primary market if and when issuance that the purchase programme did not ria), the fi rst chaired by new ECB presi- picks up again. have a strong impact on its deal, which dent Mario Draghi, aft er he took over “A noticeable increase in the purchase had already attracted good demand be- from Jean-Claude Trichet. volume would leave its mark in the mar- fore the Eurosystem order was placed. Some market participants were dis- ket and could thereby have a positive ef- “Th e purchase programme is support- appointed that the ECB did not provide fect on the currently paralysed primary ive of the market and demand for cov- any clarity on how the Eu40bn would be market — but this is clearly not a pana- ered bonds in general,” said Guyot, “but shared between the euro-area national cea given the overarching problems at the the specifi c Eurosystem participation was central banks and whether peripheral sovereign level.” not decisive for our transaction. markets would be prioritised. But Vincent
November 2011 The Covered Bond Report 17 MONITOR: MARKET
Hoarau, head of covered bond syndicate German Pfandbriefe are the most broken than previously. at Crédit Agricole CIB, said it was naive to market...” “Some central banks are more open have expected more details from the ECB. But others have suggested that the to investing in other countries than they “It happened the same way in 2009,” there are reasons for hope. A covered have done before,” he said. “For example, he said. “They’re releasing no proper de- bond banker said that he expects central the Bundesbank will probably be a bit tail on how this money will be allocated banks to be less domestically focused more open.” Q to the different covered bond jurisdic- tions; we will only get the information — if we get it — when it’s already trading. ECB Covered Bond Purchases under CBPP2
“I can imagine that the allocation will 400 1,000 be based on a kind of formula consider- 800 ing three things: the ECB paid-in capital 300 share of the national central bank; the 600 covered bond market size of that coun- 200
400 Eu (m) Eu (m) try; and hopefully the fact that some 100 jurisdictions need more support than 200 some others.” 0 0 The first of these — money being al- 07 Nov 09 Nov 11 Nov 15 Nov 17 Nov 21 Nov located to national central banks accord- Outstanding Volume (RHS) Daily Difference Daily Average ing to the “capital key” — is understood Source: ECB, RBS to have been followed, but there were no signs in early secondary market buying under the programme that priority was In order to be qualified for purchase under the programme, covered being given to covered bonds from coun- bonds must: tries where bank funding has been most t CFFMJHJCMFGPSVTFBTDPMMBUFSBMJO&VSPTZTUFNDSFEJUPQFSBUJPOT difficult — even if the ECB’s criteria have t DPNQMZXJUIUIFDSJUFSJBTFUPVUJO"SUJDMF PGUIF%JSFDUJWFPOVOEFSUBLJOHT been expanded to, for example, accom- GPSDPMMFDUJWFJOWFTUNFOUJOUSBOTGFSBCMFTFDVSJUJFT 6$*54 PSTJNJMBSTBGFHVBSET modate much lower rated issues than GPSOPO6$*54DPNQMJBOUDPWFSFECPOET BTTQFDJmFEJO4FDUJPOPGUIF under CBPP1. (FOFSBM%PDVNFOUBUJPO Some market participants criticised t IBWFBOJTTVFWPMVNFPG&VNPSNPSF the Eurosystem’s strategy. t IBWFBNJOJNVNSBUJOHPG###PSFRVJWBMFOUGSPNBUMFBTUPOFPGUIFNBKPS “I am reading that the Eurosystem SBUJOHBHFODJFT has purchased approx Eu100m of Ger- t IBWFBNBYJNVNSFTJEVBMNBUVSJUZPGZFBST BOE man Pfandbriefe and 10m of Portuguese t IBWFVOEFSMZJOHBTTFUTUIBUJODMVEFFYQPTVSFUPQSJWBUFBOEPSQVCMJDFOUJUJFT Obrigações today,” said a portfolio man- 4PVSDF&$# ager. “If this is correct, it’s a waste. As if
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18 The Covered Bond Report November 2011 MONITOR: MARKET
“The probability of a bank going bankrupt is regarded now being much more likely” page 39
PFANDBRIEFE Market-making 2.0 set for early 2012 Th e Association of German Pfandbrief jumbo Pfandbriefe with a residual matu- Banks (vdp) is preparing to introduce a rity of at least 24 months, with the data revised market-making system at the be- sent to a third party that will automati- ginning of 2012 that places at its centre the cally compute a median spread for eligible quotation of covered bond prices to inves- individual bonds. tors and will operate in tandem with a “Th e technical implementation is not secondary market transparency initiative. straightforward, which is why the test Th e vdp’s former market-making sys- phase is taking time,” said Kullig, “and we tem was primarily an inter-dealer quota- needed a critical mass of data delivery.” tion regime that formed part of “mini- Th e vdp also wanted to verify that the mum standards” aimed at ensuring the spread indications provided were suffi - liquidity of jumbo Pfandbriefe, with mar- ciently in line, he added. ket-making in turn covered by minimum “We are still in the test phase,” he said, standards such as the quoting of two way “but the data delivery has stabilised to the prices with maximum bid-off er spreads. point that we have always had suffi cient Th e system broke down in August 2007 data to calculate an average spread, with aft er the onset of the fi nancial crisis and the spread indications such that we can do never recovered, with the vdp since decid- so with a good conscience.” ing to work on a successor regime that it Th e vdp will disclose the names of the intends to roll out early next year. participating banks when the secondary Sascha Kullig, head of capital markets Sascha Kullig: “It obliges market- market data reporting initiative, in tan- at the vdp, acknowledged that the former makers to quote prices to investors” dem with the new market-making stand- market-making system was somewhat ards, goes live — launch is targeted for controversial, but said that the vdp is con- the beginning of 2012 — and the median tinuing to refer to market-making to de- spreads will be publicly disclosed on the scribe the amended minimum standards. initiative under which the vdp will cal- association’s website in Excel format. However, the vdp is clearly distin- culate and publish median spread data of Th e vdp will also monitor the quality of guishing the revised regime from the jumbo Pfandbriefe on a daily basis based participating banks’ reporting of second- former market-making system, he said, in on spread indications provided by partici- ary market spread indications, although that while the latter was focussed on inter- pating banks. Th is, said Kullig, is to make the data will for this purpose be rendered dealer price quotation, the new system up for the move away from maximum anonymous before being passed to a com- places investors at the centre. bid-off er spreads under the old system. mittee dedicated to this task. “It obliges market-makers to quote In addition to being relevant to a new prices to investors,” said Kullig. “If they “We needed a critical bank liquidity framework under devel- want to provide other market-makers opment at the EU level, Kullig said that with quotes they can of course do so, but NBTTPGEBUBEFMJWFSZw the new market-making standards and there is no obligation under the new mini- “We have chosen to proceed with a secondary market data reporting project mum standards.” more fl exible market-making system,” he were developed with the transparency As under the old arrangements, the said, “but to compensate for that we de- agenda set out by the Markets in Financial revised market-making system requires cided we needed to provide a minimum Instruments Directive (MiFid) in mind. that each jumbo Pfandbrief have at least degree of secondary market transparency, “On the one hand we are trying to fi ve market-makers who pledge to quote especially for those investors who are not bridge the gap until MiFid is implement- prices, although this time there is no ob- necessarily in the market on a daily basis.” ed,” he said, “but on the other the second- ligation to quote two-way prices — with A test phase has been running for sev- ary market data initiative complements this instead becoming an on request serv- eral months, with 11 banks participating MiFid in the sense that the spreads we ice — and no maximum bid-ask spreads. so far and the vdp in discussions with sev- will report are not necessarily based on Key to the new market-making sys- eral others. Th e goal is to have 15 banks trades, while MiFid is about post-trade tem is a secondary market transparency providing daily spread indications for transparency.” Q
November 2011 The Covered Bond Report 19 MONITOR: MARKET
SCANDINAVIA Swedes eye Aussies, Stadshypotek Nokkies Th e Swedish Covered Bond Corporation Th omas Åhman, deputy head of treas- and Stadshypotek have established Aus- ury at Handelsbanken, Stadshypotek’s tralian medium term note programmes parent, told Th e Covered Bond Report and set off on roadshows, while Stadshy- that the issuer had been considering ap- potek is also targeting a Norwegian kro- proaching the Australian market since ne debut for a new cover pool comprising the beginning of the year. Norwegian mortgages. “For us, it is another building block in Per Tunestam, treasurer at SCBC par- our long term strategy,” he said, “to help ent SBAB, told Th e Covered Bond Report make sure that we have a more and more that the issuer is looking forward to en- diverse investor base over time. tering the new market. As well as having been active in euros, “We thought the Australian dollar the Swedish issuer entered the US dollar covered bond market would suit us given market in September 2010. However, Åh- the small size of our balance sheet and man said that the Swedish market — the the small size of the Australian dollar fourth largest domestic covered bond market,” he said. “It’s a smaller market market — will remain the main reference than the 144A.” for Stadshypotek. Tunestam drew a comparison with “We could refi nance 100% of our needs the Swiss franc market, where SBAB or in the domestic market if we wanted to, so SCBC issues four or fi ve public senior if we are issuing internationally, it’s for unsecured or covered bond deals a year, long term diversifi cation reasons,” he said. raising Sfr125m-Sfr250m (Eu100m- “And if we issue in euros, dollars or other Eu200m/Skr924m-Skr1.85bn) per deal. currencies, it is important for us that the Tunestam confi rmed the issuer intends all-in cost is as close as possible to what to launch a deal off the new Australian we could achieve in the domestic market.” programme soon — if not by year-end, However, the Norwegian krone mar- then in the fi rst quarter of 2012. ket will be the focus for a new Stadshy- “It depends on the feedback we re- potek programme backed by Norwegian ceive on the roadshow from investors,” mortgage loans but under Swedish cov- Per Tunestam: “Interest has risen he said. ered bond legislation. as a result of Australian issuers” Tunestam said it was too early to iden- “It’s a natural step,” said Åhman. tify a size or maturity, but he expected the “We have had our business in Norway by the pool in the future, it would restrict fi rst transaction would be in the region of for some time now and have set up the Swedish krona issuance to that backed by A$500m (Eu370m). He said that Austral- Norwegian cover pool now that we have its Swedish cover pool. ian investors might be more interested in reached a critical mass.” Bigger issuers including DNB Bo- covered bonds now that Australian banks Moody’s put the size of the cover pool ligkreditt and SpareBank 1 Boligkreditt are active in the asset class. at Nkr26.3bn (Eu3.4bn) in a rating re- have split issuance backed by residential “I understand that interest has risen as lease on the programme but Åhman said mortgages and by commercial mort- a result of Australian issuers,” he said, “as that it is around Nkr30bn (Eu3.87bn). He gages into separate cover pools and well as the Australian Prudential Regula- said that the Norwegian krone market programmes. Stadshypotek’s Nowegian tion Authority now legitimising the mar- would be a good fi t for issuance backed cover pool will comprise 5% multi-family ket by introducing regulations. by the new cover pool. loans to commercial and housing asso- “I think the US also needs this to “Th e Handelsbanken brand is well ciation landlords, according to Moody’s, make their market better,” he added. known,” said Åhman, “and it is just a mat- and Åhman said that the small volume of Tunestam said even the whole docu- ter of talking to investors and giving them such loans explains why they will be in mentation process had been smoother a view of our mortgage portfolio there.” the same pool as other residential mort- and less cumbersome than what he un- He said that while the issuer would be gage loans that make up the vast majority derstand to be the case with 144A. open to the idea of euro issuance backed of the cover pool. Q
20 The Covered Bond Report November 2011 MONITOR: MARKET
“The option of broadening the investor base to include US investors is attractive” page 43
AUCTIONS Danes confi dent despite uncertainties Realkredit Danmark kicked off a Dkr460bn to a mere 25bp over. You get a little bit (Eu62bn) Danish auction season on 21 No- extra premium – but not much.” vember, with Danish market participants Nykredit group, comprising Nykredit confi dent that the impact of the fi nancial Realkredit and Totalkredit, which will turmoil on pricing would be limited and enter the market on 29 November, also disagreements with Moody’s a side issue. expects a spread diff erence of around “Th e most astonishing thing about 10bp from last year, putting the pricing this is that, although it’s not a record for its bonds this year at about 50bp over. high, it’s still a lot of bonds that we need Nykredit will auction a total of Dkr136bn to sell in euroland, but there is no debate (Eu18.3bn) between 29 November and on risk, or refi nancing risk, or anything 14 December. Th e auctions will refi nance Jacob Skinhøj, Nordea Markets: that Moody’s talked about,” Danske Bank Dkr72bn (Eu9.7bn) of Nykredit Realkredit’s expects higher international inves- chief analyst Jens Peter Sorensen told Th e and Totalkredit’s adjustable rate mortgages tor demand this year Covered Bond Report. “Everything is re- (ARMs) as well as refi nancing Dkr22bn laxed and calm, and there is a lot of focus (Eu3bn) of Nykredit’s Cibor and Euribor Dkr22.478 (Eu3bn) in euro denominated on Denmark for being outside the euro.” linked loans and Totalkredit’s BoligXlåns. notes from 28 November to 9 December. Danske subsidiary Realkredit Dan- Th e equivalent of Dkr42bn (Eu3bn) will be It anticipates the lowest spread of the three mark is selling Dkr140bn (Eu18bn) in sold in euro denominated notes. mortgage banks, at 45bp over. Danish krone denominated non-callable Nykredit is off ering about Dkr25bn Jacob Skinhøj, chief analyst at Nordea bonds and Eu4bn (Dkr31bn) in euro (Eu3.3bn) less than in the last December Markets, said he expects Nordea to trade denominated covered bonds over two auction, refl ecting it having spread out its about 5bp more expensively than Realkredit weeks, auctioning mortgage covered auctions from last year. Danmark and 10bp more expensively than bonds maturing from 2013 to 2017. “Th is time we’re going to issue notes in Nykredit. He anticipated higher interna- Sorensen at Danske expects only a Danish kroner and euros, some of which tional investor demand in this year’s auction. modest increase in spreads this Decem- are going to expire in July 2013,” said Mad- BRFkredit announced that it will be ber, with a level of between 45bp and sen, “which means the next time they will selling non-callable bullet bonds be- 50bp over mid-swaps. be auctioned is July, not December. We still tween 24 November and 7 December to “Usually we do around 30bp-35bp in want to spread out our auctions further.” refi nance adjustable rate mortgage loans, December,” he said, adding that in the Nordea Kredit plans to sell Dkr75.825bn comprising an expected Dkr51bn and up September auctions the spread was down (Eu10.19bn) of Danish krone bonds and to Eu300m (Dkr2.23bn). Q
FRANCE Issuer line-up to expand -B#BORVF1PTUBMFJOUFOETUPFTUBCMJTIBDPWFSFECPOEJTTVJOH -B#BORVF1PTUBMFTBJEJO0DUPCFSUIBU BTQBSUPGJUTTUSB FOUJUZUPSFmOBODFIPNFMPBOT XIJMF$S¹EJU"HSJDPMFIBTTFUVQ UFHJDQMBOGPS JUXBOUTUPEFWFMPQJUTIPNFMPBO BTPDJ¹U¹EFDSFEJUGPODJFSGPSUIFJTTVBODFPGDPWFSFECPOET PGGFSJOHGPSSFUBJMDMJFOUTBOEUIBUJUBMTPFOWJTBHFTDSFBUJOHB TFDVSFEPOMPBOTCBDLFECZFYQPSUDSFEJUBHFODJFT TPDJ¹U¹EFmOBODFNFOUEFMIBCJUBU 4') FYDMVTJWFMZGPSUIF 'SBODFT"VUPSJU¹EF$POUSÃMF1SVEFOUJBM "$1 IBTMJDFOTFE SFmOBODJOHPGTVDIMPBOT $S¹EJU"HSJDPMF&YQPSU$SFEJU"HFODJFT4$' BDDPSEJOHUP"$1T 5IFBOOPVODFNFOUDBNFBT-B#BORVF1PTUBMFTBJEUIBU XFCTJUF$S¹EJU"HSJDPMFBMSFBEZJTTVFTNPSUHBHFCBDLFEDPW XJUISFHBSEUPUIFmOBODJOHPGMPBOTUPMPDBMBVUIPSJUJFTJUJT FSFECPOETPGGB)PNF-PBO4')QSPHSBNNF OPUXPSLJOHPOUIFFTUBCMJTINFOUPGBTPDJ¹U¹EFDSFEJUGPO -PBOT HVBSBOUFFE CZ FYQPSU DSFEJU BHFODJFT BSF BMSFBEZ DJFS 4$' CVUJTDPOTJEFSJOHVTJOHUIFQVCMJDTFDUPSMFOEJOH QSFTFOUJODPWFSQPPMTPG#/11BSJCBTBOE4PDJ¹U¹(¹O¹SBMF TUSVDUVSFPG%FYJB.VOJDJQBM"HFODZ XIJDI$BJTTFEFT%¹QÃUT 4$'T BMUIPVHI5IF$PWFSFE#POE3FQPSUVOEFSTUBOETUIBU FU$POTJHOBUJPOT $%$ XJMMDPOUSPMBOEJOXIJDI-B#BORVF FYQPSU DSFEJU BHFODZHVBSBOUFFE MPBOT BSF MJLFMZ UP GPSN B 1PTUBMFXJMMIBWFBTUBLFBTQBSUPGUIFSFTUSVDUVSJOHPGUIF HSFBUFSQBSU JGOPUBMM PG$S¹EJU"HSJDPMFT4$'DPWFSQPPM %FYJBHSPVQQ
November 2011 The Covered Bond Report 21 MONITOR: MARKET
STERLING Co-op debuts at home amid UK changes A preference for a long term maturity cult market conditions. Co-operative Bank merged with Britannia Building Society prompted the UK’s Co-operative Bank is rated A3/A-/A (Moody’s/Fitch/DBRS). in 2009 and the LLP and other Moorland to turn to the sterling market in early However, Walsh said that with the issuer entities used in the ongoing programme’s November to launch its first benchmark having done a UK and European roadshow structure are those that were used in a pro- covered bond and the first in the cur- a euro deal is likely to be part of the issuer’s gramme Britannia had previously estab- rency for six months. future considerations, with feedback from lished (they have been renamed). The UK Regulated Covered Bond is- the UK roadshow indicating there would Around the time of Co-operative’s suer sold a £600m (Eu700m) 10 year issue be leftover demand from some domestic deal, Fitch said that some UK lenders’ use at 250bp over Gilts, equivalent to around accounts for short dated euro issuance. of covered bonds as a source of funding is 215bp over mid-swaps, on the back of an decreasing with the end of the SLS on 30 order book of £1bn, with more than 70 ac- “The maturity January 2012, but that a recent increase counts participating. in supply from large institutions can off- “The maturity preference was for QSFGFSFODFXBTGPSB set the contraction of the size of the UK a longer deal and given that we felt a MPOHFSEFBMw market caused by the end of the SLS. euro transaction was most likely to be Fitch also noted that in some cases rather there in the short to intermediate matu- UK investors took 99% of the bonds, than winding down covered bond pro- rity we opted for a sterling trade,” said with funds allocated 50%, insurance com- grammes UK lenders are restructuring Jez Walsh, global head of covered bond panies 40%, banks 4%, corporates 2%, pri- them for market issuance, citing Co-op’s syndicate at RBS, which was joint lead vate banks 1%, and others 3%. Moorland programme in this respect. alongside Barclays Capital, HSBC, JP The deal was issued off a newly estab- “Examples of restructuring include Morgan and UBS. lished covered bond programme (Moor- shifting from a partial pass-through struc- He said that while euro investors were re- land), with the issuer having terminated ture in retained deals swapped at the SLS, luctant to invest in long dated issuance from another programme (Pioneer) that was set to hard or soft bullet repayments in deals issuers with lower ratings, the UK investor up to access the Bank of England’s Special that will be sold to private investors,” said base was open to such supply even in diffi- Liquidity Scheme (SLS). Co-operative Bank the rating agency. Q
FLUGZEUGPFANDBRIEF NordLB targets early 2012 for aircraft first /PSE-#JTBJNJOHUPMBVODIBOJOBVHVSBMBJSDSBGU1GBOECSJFG )PXFWFS 5IF$PWFSFE#POE3FQPSUVOEFSTUBOETUIBUCF JOUIFmSTURVBSUFSPG NBSLFUDPOEJUJPOTQFSNJUUJOH BD GPSF MBVODIJOH UIF BJSDSBGU 1GBOECSJFG UIF JTTVFS IPQFT UP DPSEJOHUPBOPGmDJBMBUUIFJTTVFS"OZTVDIEFBMDPVMECFUIF NBLFJUTEFCVUJOUIF64EPMMBSDPWFSFECPOENBSLFUXJUIB mSTUCFODINBSLBJSDSBGU1GBOECSJFG CFODINBSLCBDLFECZNPSFUSBEJUJPOBMDPMMBUFSBMQ "JSDSBGU 1GBOECSJFGF 'MVH[FVHQGBOECSJFGF BSF B GPVSUI UZQFPG1GBOECSJFGQFSNJUUFEVOEFS(FSNBOZT1GBOECSJFG"DU BTQFSBBNFOENFOUPGUIFMFHJTMBUJPO/PSE-#JO CFDBNFUIFmSTU(FSNBOCBOLUPSFDFJWFBOJTTVBODFMJDFODF GPSBJSDSBGU1GBOECSJFGF i5IF QSPHSBNNF JT SFBEZ UIF EPDVNFOUBUJPO JT SFBEZ BOEUIFDPWFSQPPMIBTCFFOTFUVQ w5IPNBT$PIST IFBEPG TZOEJDBUFBOEPSJHJOBUJPO mOBODJBMJOTUJUVUJPOTBOE44"T BU /PSE-# UPME5IF$PWFSFE#POE3FQPSU 5IFQSPHSBNNFIBTZFUUPCFSBUFE CVU$PISTTBJEUIBU UIFJTTVFSFYQFDUTB"BSBUJOHGSPN.PPEZTUPCFGPSUIDPN JOHJO%FDFNCFS5IFJTTVFSXJMMUIFOCFJOBQPTJUJPOUPUBQ Airbus 320-200: an example of an aircraft that meets UIF NBSLFU XJUI B QMBOOFE &VN USBOTBDUJPO JO UIF mSTU Flugzeugpfandbrief criteria RVBSUFSPG TVCKFDUUPNBSLFUDPOEJUJPOT IFTBJE
22 The Covered Bond Report November 2011 MONITOR: LEAGUE TABLES
League Tables
EURO BENCHMARK COVERED BOND RANKING MULTI-CURRENCY BENCHMARK COVERED BOND RANKING 1 January 2011 to 31 October 2011 1 January 2011 to 31 October 2011 Rank Bookrunner Deals Amount (Eu m) Share % Rank Bookrunner Deals Amount (Eu m) Share % 1 BNP Paribas 55 14,222.50 8.04 1 Barclays 63 16,801.38 7.85 2 Natixis 64 13,747.50 7.77 2 BNP Paribas 62 15,884.81 7.42 3 UniCredit 56 11,701.19 6.61 3 Natixis 65 13,928.33 6.51 4 Credit Agricole 46 11,508.33 6.50 4 HSBC 60 13,621.89 6.36 5 Barclays 44 11,450.83 6.47 5 Deutsche 45 11,877.58 5.55 6 HSBC 49 10,922.86 6.17 6 UniCredit 56 11,701.19 5.47 7 Deutsche 40 10,491.19 5.93 7 Credit Agricole 46 11,508.33 5.38 8 UBS 38 8,817.08 4.98 8 UBS 44 10,802.00 5.05 9 SG 32 8,020.83 4.53 9 RBS 38 10,483.83 4.90 10 RBS 27 6,877.50 3.89 10 SG 33 8,239.96 3.85 11 DZ 28 5,965.36 3.37 11 Commerzbank 32 6,043.75 2.82 12 Commerzbank 31 5,862.92 3.31 12 DZ 28 5,965.36 2.79 13 Danske 18 4,795.83 2.71 13 Citi 21 5,005.92 2.34 14 LBBW 25 4,435.00 2.51 14 Danske 18 4,795.83 2.24 15 ING 16 4,087.50 2.31 15 JP Morgan 21 4,788.98 2.24 16 Citi 16 4,018.75 2.27 16 LBBW 25 4,435.00 2.07 17 BayernLB 15 3,084.52 1.74 17 ING 16 4,087.50 1.91 18 Goldman Sachs 11 3,066.67 1.73 18 Santander 14 3,446.01 1.61 19 BBVA 11 2,945.83 1.66 19 BAML 15 3,384.09 1.58 20 Santander 12 2,792.50 1.58 20 BayernLB 15 3,084.52 1.44 21 Nomura 14 2,791.67 1.58 21 Goldman Sachs 11 3,066.67 1.43 22 NordLB 13 2,525.00 1.43 22 BBVA 11 2,945.83 1.38 23 Credit Suisse 13 2,466.67 1.39 23 Credit Suisse 16 2,926.82 1.37 24 JP Morgan 12 2,383.33 1.35 24 Nomura 15 2,910.33 1.36 25 Banca IMI 6 1,683.33 0.95 25 NordLB 13 2,525.00 1.18 Criteria: Euro denominated fixed rate syndicated covered bonds Criteria: Fixed rate syndicated covered bonds of 500m or of Eu500m or greater, including taps greater, including taps, in euros, dollars and sterling
These league tables are based on The Covered Bond Report’s database of benchmark covered bonds. For further details visit our website at news.coveredbondreport.com. Please contact Neil Day on +44 20 7415 7185 or [email protected] if you have any queries.
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November 2011 The Covered Bond Report 23 COVER STORY:US DOLLARS
For a few dollars more?
European issuers heading across the pond in search of dollars have not found the US as welcoming as anticipated. But with a covered bond bill being introduced in the Senate, Australian supply potentially complementing Canadian success, and index-eligible issuance being explored, issuers could yet reap the rewards of going west. Susanna Rust reports.
24 The Covered Bond Report November 2011 COVER STORY:US DOLLARS
he US dollar covered bond market sprang into life in 2010 after three years without issuance and hopes were high that it would this year be able to continue and build on the revival. But despite setting a new record, volumes have fallen short of some market participants’ initial expectations. At Tthe time of writing supply amounted to just over $37bn, more than 2010 volumes but down on some forecasts of between $70bn and $80bn. Market participants are quick to attribute this in no small part to the volatility triggered by the euro-zone sovereign debt crisis rather than linking it to problems specific to the US dol- lar covered bond market. “Volumes are not where we predicted they would be by this time of the year,” says Mike Banchik, managing director, debt capital markets syndicate at HSBC in New York, “because the extent of the European crisis was not anticipated. “Without US legislation, European issuers have been a key part in the market along with Canada, so it is not surprising that, with the sovereign debt crisis and wider spreads, volumes have been less than anticipated.” Another New York banker says that while the US dollar cov- ered bond market has been “chugging along” this year, the list of issuers that have access is finite. “Since the dollar market is less developed and has less of a history than the euro market certain issuers get painted with a broad brush of Europe,” he says, “and with less differentiation than you may see in the European market this benefits certain names, like the Canadians, and hurts others.” Indeed, Canadian banks have been driving supply this year, with Toronto Dominion Bank, for example, in Septem- ber pricing a dual tranche $5bn deal that is the largest ever US dollar covered bond and gives a taste of the reception Cana- dian deals have enjoyed. At the time of writing these comprised more than half of supply, with Nordic issues representing the next largest share, and then debuts from Credit Suisse and HSBC, a couple of French issues and a lone deal from Korea Housing Finance Corp making up the balance. Market participants have been looking forward to vol- umes being boosted before year-end by issuance from Aus- tralia’s major banks, after the country’s parliament in Oc- tober passed legislation allowing the sale of covered bonds. ANZ was launching the inaugural deal in the dollar market as The Covered Bond Report was going to press (see Moni- tor, Market section for more). For John Cerra, portfolio manager at TIAA-CREF in New York, Canadian banks’ covered bond issuance has played an im- portant role in the helping the development of the US market. “I think it’s forced a lot of people to look at this because they’re all issuers that US institutional investors know well,” he says. “They have done a favour to all those people who want to see the US covered bond market grow by the issuance they have brought and by bringing collateral that is insured by Canada Mortgage and Housing Corp.”
November 2011 The Covered Bond Report 25 COVER STORY:US DOLLARS
Handle with care While Canadian covered bonds have not been immune from US dollar covered bond supply spread widening, European borrowers’ access to the US market USD bn 35 31.4 has been most aff ected by protracted volatility, which a New 30 28.8 York-based banker says prompted liquidity to “freeze up”. 25 20 19.4 “We saw that throughout the summer months when there 15 10.2 could have been a number of other transactions to hit the mar- 10 7.8 5 4.6 2.5 ket — whether for the French banks, the UK banks — but they 1.0 1.0 1.0 0 were shut out,” she says. 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 German issuers, meanwhile, have not issued a US dollar cov- IRE GER NOR UK FR CAN ered bond since July 2010, when LBBW sold a $500m three year Source: Barclays deal. However, at least a couple have since then explored the pos- sibility of tapping the US market and in October the Association cover pool they would not feel inclined to actually issue US dol- of German Pfandbrief Banks (vdp) went on its fi rst US roadshow lar Pfandbriefe, which is diff erent from the Scandinavian issu- in several years in response to interest in dollar funding among its ers and also from the French.” members, according to Jens Tolckmitt, chief executive of the vdp. Th e last US dollar covered bond from a European issuer was a $1bn fi ve year deal for Norway’s Nordea Eiendomskreditt on “Issuers get painted with a broad 15 September, with other European issuers who were said to brush of Europe” have been considering tapping the dollar market instead opting for euro issuance. He says that one of the reasons that German Pfandbrief “Finding dollar investors to buy European bank debt is banks have not been as active in the US market as Nordic issu- slightly diffi cult these days,” said a London-based syndicate of- ers and some of the French is because the euro market has been fi cial in September, at a later date noting that while the US mar- able to meet their needs. ket “provided some relief to Canadian and Nordic issuers […] “I think maybe our issuers have not started this as early as that proved short-lived as poor placement sent most of those other foreign issuers because contrary to, for example, French deals gapping wider post-launch.” issuers they are not as dependent on overseas funding,” he says. Nordea’s transaction illustrated some of the challenges posed In addition, he says that German issuers typically have a dif- by the US dollar market, according to market participants. A ferent motivation to turn to the US market. New York based banker suggests its execution had perhaps “Th e traditional way is for German Pfandbrief banks to look been handled too casually, with insuffi cient regard for US in- for US dollar funding if they have substantial US dollar assets,” vestors’ sensitivity to European developments, while a Europe- he says. “If there is no traditional US dollar asset base in the based syndicate banker says Nordea’s deal showed that there is
250 Spread performance of USD covered bonds
200
150
100
Spread to swaps (basis points) 50
0 Nov 10 Dec 10 Jan 11 Feb 11 Mar 11 Apr 11 May 11 Jun 11 Jul 11 Aug 11 Sep 11 Oct 11 Nov 11
BMO 2.625 01/25/16 BNS 1.45 07/26/13 CIBC 2.6 07/02/15 CCDJ 2.55 24/03/16 NBC 1.65 01/30/14 BNPP SFH 2.2 11/15 CFF 2 1/4 03/07/14 SpareBank 1 1.25 10/13 Barclays 2 1/2 09/21/15 ANZ 2.4 11/23/16
Source: RBS
26 The Covered Bond Report November 2011 COVER STORY:US DOLLARS
a lack of granularity in the US investor base, with a handful of large accounts able to drive pricing action. He adds that US ac- counts are aware of and able to limit the dollar/euro arbitrage that European issuers seek to take advantage of. Another market participant picks up the point, saying that some recent widening in US dollar covered bonds was “probably more than you should see” and showed that liquidity was a problem. “If a few of the big investors decide to rebalance their portfo- lios and sell covered bonds you’re going to see greater widening than you would in a deeper market,” he says, “and I think those are the challenges we have right now.”
No rush to judgement But market participants say that challenges such as these must be kept in perspective, and that there are positive developments to be pointed at and to look forward to. Asked whether covered bonds are a niche product in the US, Richard Gustard, head of SSA origination and trading at JP Mor- gan in London, says he would not opt for such a description be- cause the asset class appeals to a genuinely broad base of investors. “It could benefi t from deeper penetration into each of these individual client categories, but no, I would not say it is a niche Peter Walker, TD Bank: “Our two tranche deal in product,” he says. “I would describe it as a young market.” September got a very positive reception” Peter Walker, associate vice president, treasury and bal- ance sheet management at Toronto Dominion Bank, says that the bank’s US senior unsecured deals could involve double the ary market liquidity expectations) in the 144A private placement number of accounts participating in its US dollar covered bond market and that presents its own challenges and constraints.” issues, but that the latter have attracted new investors. And Ben Colice, head of covered bond origination at RBC “Our two tranche deal in September got a very positive re- Capital Markets, says that he remains broadly optimistic about ception and managed to get over 80 investors to participate, the future of the US dollar covered bond market, but that it is 10 of which we think were new to US dollar covered bonds,” faced with headwinds, such as uncertainty surrounding Europe he says. “We also saw more participation from bank treasuries and the lack of US covered bond legislation. than we had a year ago.” Cerra also refers to headwinds to describe the context in HSBC’s Banchik believes that covered bonds have found a which the US market is attempting to expand. home as a rates product but that they are increasingly attracting “Th e market is trying to grow at a time when stress and frac- credit buyers. tures throughout the economic world are very apparent,” he “Th ey are not the biggest group of investors, but their involve- says. “You’re defi nitely growing into a headwinds period and I ment is growing,” he says. “More and more customers are looking think the fact that it has been able to take hold and make small, to get involved and are getting educated about the product. Ac- but noticeable incremental steps to progress is a good thing and counts who may have only had approval for Canada are getting tells you an awful lot about the product.” other jurisdictions approved, so the investor base is growing.” He believes that US dollar covered bond investors are better In acknowledgement of increased interest in covered bonds supported than in the past. among credit investors Barclays Capital in October announced “We’ve been looking at European covered bonds on and off that it will be launching a new family of global and regional cor- since 2006 and at that point the bonds traded by appointment,” porate bond indices that blend covered bonds and unsecured he says. “Today there is a developing infrastructure that oper- corporate bonds. ates in a way that meets the needs of US investors. Julia Hoggett, managing director, head of covered bonds “Th e number of dealers that will trade covered bonds has defi - and FIG fl ow fi nancing for EMEA at Bank of America Merrill nitely expanded, and you can electronically trade all the Cana- Lynch, says that it is important to recognise that market par- dian covered bonds and the larger, more recent European issues.” ticipants, in their eff orts to develop the US dollar covered bond A greater number of investors are participating in the mar- market, are dealing with an unusual challenge. ket and are able and willing to write good sized tickets, he adds, “Th e market has moved forward and will continue to do so,” with improved price transparency also a welcome development. she says, “but what is being done is fairly new. Although we are “Price information used to be patchy,” he says, “but now more towards the credit end of the spectrum, we are trying to cre- every single day a number of dealers are showing two sided ate a rates product (in terms of investor ticket sizes and second- markets on Bloomberg.
November 2011 The Covered Bond Report 27 COVER STORY:US DOLLARS
and I think that this is positive from the perspective of those in the industry that would like the bill to be able to move forward pretty quickly — it means they can be harmonised more expeditiously.” Meanwhile, market participants say that enhancing the repo eligibility of dollar denominated covered bonds, both at the hands of the Federal Reserve discount window and in the con- text of bilateral or tri-party repo, could provide a boost to the US dollar covered bond market. “Most covered bonds from non-domestic issuers are not Fed eligible so you haven’t seen a huge amount of US bank treasuries get involved,” says a New York based banker, contrasting this with the greater involvement of bank treasuries in the euro market. She also identifi es the repo eligibility of covered bonds in inter-bank lending as an important consideration, with haircuts higher on covered bonds than on other triple-A rated asset class- es. While both are important, eligibility as collateral for repo with the Federal Reserve would have a greater impact, she says. Hoggett says that enhancing the eligibility of covered bonds in the context of tri-party or bilateral repo would enable traders to borrow the bonds and trade them in a manner than generates greater liquidity, with another banker saying that banks do not feel able to sell covered bonds short. John Cerra, TIAA-CREF: “Every single day a number of dealers are showing two sided markets” Th e Federal Reserve in August 2009 assigned US covered bonds their own bucket at its discount window, with German jumbo Pfandbriefe the only other type of covered bond eligible “When you go to look at a bond and you are getting several to be pledged as collateral under its guidelines. However, Euro- appraisals and as a result can see the bid and the ask converging pean and Canadian issuers are said to have been lobbying the into an institutional market that can give you more confi dence Fed to sign off on eligibility of their covered bonds. executing a trade, and that’s huge.” The limits of 144A Beyond a foreign, 144A market In the absence of homegrown issuance perhaps the biggest and Signs of progress notwithstanding, covered bonds represent a most imminent development that could expand the US inves- fl edgling market in the US, paling into insignifi cance compared tor base in covered bonds is the sale of index eligible covered with the dollar unsecured and ABS markets, and of course, the bonds, which currently seems most likely to be achieved via is- euro covered bond market. But such comparisons are in many suance under a format other than SEC rule 144A. ways unfair given the relatively recent arrival of the asset class With no new domestic issuance since 2007 (and even then in the US, market participants suggest, and the constraints un- there was only one issue, for Bank of America), all US-targeted der which it is seeking to develop, such as the lack of covered benchmark covered bonds have since then come in the 144A bond legislation to support homegrown issuance. private placement format, meaning that only qualifi ed insti- “My own personal opinion is that the US investor base would tutional buyers (QIBs) can be approached, who may also have like to see US issuers adopt the product to validate it as a real limits on their exposure to non-fully SEC registered bonds. JP live, legitimate asset class,” says a New York-based banker. “I don’t Morgan’s Gustard brings up the issue of there being a limit to believe there is going to be a huge market out of the gates, but leg- the volume of 144A deals that the buy-side can absorb. islation would be a boon for the covered bond market in general “No-one has really considered what the maximum capacity although for now it seems like it’s a very long ways away.” for that documentation is,” he says, “and although at the mo- Th ese comments were made before a bipartisan group of ment we haven’t reached that point, I do wonder if at some Senators on 10 November introduced a covered bond bill, giv- point we will have to address that.” ing renewed momentum to a push for covered bonds in the US. Compagnie de Financement Foncier was a frequent issuer For the fi rst time a covered bond legislative proposal is in both in the US dollar covered bond market in 2010, selling three the Senate and House of Representatives. benchmarks, and returned to the market with a $1.5bn three Howard Goldwasser, partner at K&L Gates in New York, year 144A/Reg S issue in March 2011. said that the bill in question — the US Covered Bond Bill 2011 “It helps us to reach and respond to the demands of a large (or Hagan-Corker Act) — is remarkably similar to its namesake investor base,” says Paul Dudouit, head of medium and long in the House, and that this was to be welcomed. term funding at CFF, of the 144A format. “We have been able “Th e guts of both the House and Senate bills are very similar, to sell syndicated benchmark deals on the basis of 144A docu-
28 The Covered Bond Report November 2011 COVER STORY:US DOLLARS
mentation, but also to respond to reverse enquiries.” Another banker says that while a large number of 144A deals are being executed in a relatively new market, a large investor base remains untapped. “A lot of funds can’t buy the 144A format, and a lot of money managers like the product but are limited to where they can put it,” he says. “A lot of accounts don’t meet QIB status so even though it’s a large sector it is dwarfed by what is available in other funds.” In addition, 144A covered bonds are not eligible for the Bar- clays Capital US Aggregate Index. Th ey are tracked by other indices, such as a new US dollar covered bond index launched by BNP Paribas in August “in response to demand from clients who wanted a tool to track this emerging asset class and com- pare its returns to other investment options” and by Barclays
“The 3(a)(2) format is being looked at very carefully”
Capital’s Global Aggregate Index, but market pariticpants say that the US Aggregate is the index in which covered bonds’ in- clusion would have the most dramatic impact on expanding the Howard Goldwasser, K&L Gates: “The guts of the US investor base for the asset class. House and Senate bills are very similar” Market participants look forward to the sale of index-eligi- ble covered bonds. “It’s something the market would love to see,” says RBC’s Col- BAML’s Hoggett says that the size and scalability of an is- ice. “Creating a product that qualifi es for indices and the like will suer’s US operation directly shapes the cohort of those who be nothing but positive, and we are optimistic that it can happen. could execute a 3(a)(2) issue, adding that bonds issued under “With index eligible covered bonds you would instantly have the format would have the benefi t of their trading informa- a broader base of investors who are always going to be looking tion being published under TRACE. Th e Trade Reporting And at the issuance.” Compliance Engine (TRACE) is a price reporting mechanism Hoggett says that the eligibility of covered bonds for any in- for fi xed income securities operated by the Financial Industry dex with a large following would boost traders’ and investors’ Regulatory Authority (FINRA). confi dence in the nascent US market. Walker says that TD Bank has done some preliminary inves- “As an investor you have more confi dence that there is a rump tigation into the 3(a)(2) format. of the account base that could be on the bid side come rain or “Th ere are a number of things involved,” he says, “such as shine rather than just come shine,” she says, “because these inves- working through the legal issues and assessing the due diligence tors have to be tracking the index or at least taking a clear view if burden. We continue to assess this as an option.” they are not doing so. And as a trader you have more confi dence A New York based banker points out that some foreign about which calls to make to move positions on.” banks, such as Rabobank and Svenska Handelsbanken, have set up programmes for senior unsecured issuance based on Index eligibility on the horizon? the 3(a)(2) exemption. Handelsbanken in July became the fi rst A development that addresses the constraints of 144A issuance Nordic issuer to sell a 3(a)(2) deal, a $1.25bn fi ve year that it could soon be in reach, however, as issuers explore documenta- said enabled it to gain “an even broader investor base in the US”. tion options that could give them access to a broader investor Cerra in New York says that a 3(a)(2) deal could be launched base, with the focus being on a format referred to as 3(a)(2). soon, and that the event would be a turning point for the US Th is refers to the relevant section of the Securities Act and dollar covered bond market because the bond, if it meets the represents an exemption from full SEC registration that stems maturity and minimum size requirements, would be included from, in the case of foreign issuers, using a US branch or agency in Barclays Capital’s US Aggregate Index. to issue or guarantee a debt security (see Legal Brief for more). “Th at brings out a whole new series of investors,” he says. “Th e 3(a)(2) format is being looked at very carefully by a lot “Th e fi rst ones might be the institutions that don’t have the re- of people, but it is hard to judge when we will see such a deal,” sources to bridge the gap from a publicly registered deal to a says HSBC’s Banchik. “Th e pros are that you have a much big- 144A, and then you bring the indexers. ger investor base and that the bonds are index eligible, so some “Th at will be the next level and it will be a day for the cov- investors will naturally fall into place as a result.” ered bond market in the US, a coming of age.” Q
November 2011 The Covered Bond Report 29 ANALYSE THIS: SOVEREIGNS VERSUS COVERED UPDATE
30 The Covered Bond Report November 2011 ANALYSE THIS: SOVEREIGNS VERSUS COVERED UPDATE
Sovereign belief undermined Rates investors are increasingly viewing European government bonds as an unsecured credit, with covered bonds trading tighter than sovereign debt in countries such as Austria and Italy. Morgan Stanley’s Leef Dierks and Jason Somerville explore the evolving distortions and opportunities these have thrown up.
ollowing the recent weeks’ obbligazioni bancarie garantite (OBGs) continuously mounting before gradually recovering. A similar widening pressures on cer- phenomenon could be observed in the tain European sovereign French and Spanish markets. debt markets, typical rates investors have increasingly reclassified “Only the German Fgovernment bonds as an unsecured and Dutch markets credit. Due to their dual claim against the issuing bank and the mandatory have remained overcollateralisation, covered bonds, in contrast, benefit from being perceived unaffected” as a secured credit. Between early October and the time On several occasions, this develop- of writing, the margin between covered ment has caused the previously relatively bond and government bond spreads stable spread margin between covered contracted by 75bp. Th is caused covered bonds and government bonds to col- bonds to trade within 25bp of govern- lapse. While government bond spreads ment bonds with a comparable term-to- considerably widened versus swaps and maturity. Th e latest market to be aff ected Bunds, covered bond spreads were less was Austria. Since November 8, the aver- aff ected (see chart 1). age margin between the iBoxx Euro Aus- Th e development described above was tria and the iBoxx Euro covered Austria most pronounced in the Italian market. has fallen sharply, by 45bp. Aft er trading around parity until mid- At the time of writing, Austrian and October, BTPs recently experienced Italian covered bonds trade tighter than marked widening pressures versus swaps the respective government bonds, there- and cheapened by up to 100bp versus by emphasizing the currently prevailing
November 2011 The Covered Bond Report 31 ANALYSE THIS: SOVEREIGNS VERSUS COVERED UPDATE
market distortions. So far, only the Ger- Chart 1: Government Bonds Cheapened vs. Covered Bonds man and Dutch markets have remained 150 unaffected. Spurred by an ongoing flight- to-quality, government bonds have be- 100 come better bid and trade at a premium of around 100bp over the respective cov- 50 ered bonds, which, in contrast, have not benefitted from this development (see 0 chart 2). Jan-1 Feb-11 Mar-11 Apr-11 May-11 Jun-11 Jul-11 Aug-11 Sep-11 Oct-11 Nov-11 Any such elevated premium, in our -50 view, is excessive. Despite the respec- tive papers not strongly deviating from -100 the fair level suggested by our model, we
Covered - GovernmentCovered - Bonds (bp) Austria France Italy Netherlands Germany Spain recommend selling the respective gov- -150 ernment bond versus buying the covered bond as we expect, ceteris paribus, the Source: Markit, Morgan Stanley Research margin between the asset classes to con- tract in the medium term. “A disconnect between Chart 2: Spanish and Italian Covered Bonds Look Expensive fundamental 150 collateral pool 100 analysis and covered 50 bond spreads has
0 emerged” -10 0 100 200 300 400 500 According to our model, Italian and -50 Spanish covered bonds, in contrast, trade comparatively expensive versus -100 government bonds. Whereas on aver- age Spanish covered bonds exhibit a Covered - Government Bond Spreads (bp) Government Bond Spreads (bp) -150 discount of only 17bp to government Austria Germany France Netherlands Italy Spain bonds, Italian covered bonds feature Note: red dots refer to the most recent data points. Source: Markit, Morgan Stanley Research an unusually high premium of 65bp to Italian government bonds. We consider these spread moves to be largely ex- TABLE 1: COEFFICIENT OF CORRELATION: MARGIN BETWEEN COVERED AND hausted and struggle to see how much GOVERNMENT BONDS VERSUS GOVERNMENT BONDS further covered bond spreads could de- FY 2011 H1 2011 H2 2011 couple themselves from the underlying government bonds. Therefore we rec- Austria -0.94 -0.67 -0.96 ommend switching out of the covered Germany -0.95 -0.93 -0.79 bonds and into the government paper, France 0.01 -0.85 -0.32 particularly as we can show that the Netherlands -0.84 -0.89 -0.66 margin between covered and govern- ment bonds has steadily narrowed while Italy -0.78 -0.71 -0.75 government spreads widened versus Spain -0.54 -0.49 -0.78 swaps (see table 1). Despite the fact that the Eurosystem’s Ireland -0.94 -0.96 -0.99 CBPP2 has recently become operational Portugal* -0.89 -0.97 -0.46 and that the first secondary covered Note: There is no iBoxx € Portugal data after 1 August 2011. Source: Markit, Morgan bond market purchases have been con- Stanley Research firmed by the ECB Irish asset covered securities (ACS), which trade at a pre-
32 The Covered Bond Report November 2011 ANALYSE THIS: SOVEREIGNS VERSUS COVERED UPDATE
mium of 60bp to Irish sovereign debt, have only a moderate potential to fur- ther tighten versus government bonds in the short term. Whereas the respec- tive margin stood at 500bp in an envi- ronment characterised by poor liquid- ity in mid-July, it has meanwhile fallen sharply as Irish government bonds be- came better bid. In a second step, we have refined the analysis by limiting ourselves to the national markets’ most liquid covered bonds. Using a simple average of the bonds in each country with approxi- mately five years to maturity we have repeated our analysis. Aggregating and restricting our sample to the most liquid and highest quality names in the Ger- man, French, Spanish, Italian and Dutch market, we again observe that German and Dutch covered bonds look cheap relative to their respective sovereign counterparts, while French, Spanish and Italian covered bonds look rich relative to sovereign equivalents (see chart 3).
The Sum versus the Parts Theoretically, covered bond spreads should be driven by the underlying quality of the collateral pools and the level of overcollateralisation. If so, then the aggregate analysis presented above provides a decent indication of the richness/cheapness of covered bonds. However, a disconnect between fun- Leef Dierks: “There are distinct regional factors driving covered bond spreads” damental collateral pool analysis and covered bond spreads has emerged over the past year. Th erefore, while such aggregate meas- Chart 3: German & Dutch Covered Bonds cheap vs Sovereign ures are useful, more realistically there 200 are distinct regional factors driving cov- 150 ered bond spreads across the European market. If we treat each market separate- 100 ly, the conviction for some recommenda- 50 y = -0.3212x + 84.271 2 tions is not as strong. 0 R = 0.7861 For example, looking at Germany and -50 the Netherlands, the explanatory power of the model (as measured by the R2) -100 is, not surprisingly, signifi cantly higher -150
(see chart 4). However, German covered Covered Bond -Sovereign Spread (bps) -200 bonds look fair value based on this analy- -200 -100 0 100 200 300 400 500 600 sis. Th is can be attributed to the addition Sovereign 5y ASW (bps) of higher yielding names in the German The Netherlands Germany Italy France Spain Latest composite index, which in our opinion Source: Morgan Stanley Research, Bloomberg makes German covered bonds more at-
November 2011 The Covered Bond Report 33 ANALYSE THIS: SOVEREIGNS VERSUS COVERED UPDATE
tractive on an aggregate basis. Dutch covered bonds are equally attractive on Chart 4: German Covered Bonds Less Attractive From High Quality Perspective this metric, while French covered bonds 180 y = -1.3008x + 67.278 are still expensive. R 2 = 0.8062 160 Our sell recommendations, namely Germany Latest 140 on Spanish and Italian covered bonds The Netherlands Latest versus their respective sovereigns when 120 analysed on a regional basis are broadly 100 y = -0.4789x + 77.058 consistent (see chart 5). However, the 80 2 y = -1.1884x + 20.837 R = 0.1785 conviction is lower in the case of Italian 60 R 2 = 0.9857 covered bonds. 40 Irish covered bonds are still trading 20 France Latest cheap based on regional data. This is Covered Bond -Sovereign Spread (bps) 0 not surprising given the recent rally in -150 -100 -50 0 50 100 Irish government bonds. However, de- Sovereign 5y ASW (bps) spite ECB intervention in this market, The Netherlands Germany France covered bonds have lagged their sover- Source: Morgan Stanley Research, Bloomberg eign equivalents. In Portugal, our model suggests that covered bonds trade cheap versus government bonds (see chart 6). Chart 5: Spanish and Italian Covered Bonds Look Expensive Moreover, given the small size and il- 150 liquid nature of the Portuguese market, any activity from the ECB could bring 100 the covered bond to sovereign spread in 50 line rapidly. 0 y = -0.347x + 90.551 Conclusion R2 = 0.6753 -50 Taking into account both the aggregate Italy Latest data and the more liquid high quality is- -100 Spain Latest suers, we conclude that Dutch covered -150 bonds are trading cheap relative to their Covered Bond -Sovereign Spread (bps) sovereign benchmarks. German covered -200 0 100 200 300 400 500 600 bonds are cheap on an aggregate ba- Sovereign 5y ASW (bps) sis, but high quality issuers are trading Italy Spain around fair value. Source: Morgan Stanley Research, Bloomberg In contrast, Spanish, French and Italian covered bonds look rich in com- parison to government bonds on both metrics, though conviction is lower in Chart 6: Irish & Portuguese Covered Bonds Cheap the case of Italy. Portuguese and Irish 800 covered bonds continue to trade at very 600 cheap levels relative to their sovereign 400 Ireland Latest and offer a significant pick up in yield on both measures. 200 Portugal Admittedly, the above recommenda- 0 y = -0.4245x+174.34 2 tions do not entirely reflect the poten- -200 R = 0.4025 tial transition from an unsecured to a -400 secured credit. Despite this becoming increasingly questionable, we believe -600 y = -1.4966x + 1002.8 Covered Bond -Sovereign Spread (bps) R 2 = 0.5859 that most investors will continue to -800 0 200 400 600 800 1000 1200 sustain the dogma of sovereign debt Govt 5y ASW being by definition the potentially saf- est asset class. Spread moves in the Eu- Ireland Portugal Latest ropean government bond market sug- Source: Morgan Stanley Research, Bloomberg gest otherwise. Q
34 The Covered Bond Report November 2011 The Covered Bond Report
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– and access to our online offering is Australia Sterling US legislation A whole new ball game UK gains home advantage The FDIC rears its head completely free to qualifying investors. CEE:LEGISLATIVE ISSUES
36 The Covered Bond Report November 2011 CEE:LEGISLATIVE ISSUES CEE beyond the crisis A populist Hungarian law has threatened long term consequences for covered bonds, but elsewhere in central and eastern Europe constructive rather than controversial amendments are pending. Indeed breakthrough issues from the Czech Republic, Romania and Slovenia could make 2012 a banner year for the region. Maiya Keidan reports.
he Hungarian government gave the covered bond posure to foreign currency mortgages between banks, and so market a shock on 19 September when it intro- some institutions could take larger hits to capital than this ag- duced a law allowing certain foreign currency gregate calculation suggests”. mortgages to be repaid in forints at a discount of Fitch also said that the law will only temporarily provide re- up to 22%, thereby potentially hitting the value of lief for borrowers, without materially reducing their indebted- collateral in Hungarian cover pools. ness or their foreign currency exposure, while the Hungarian TMoody’s reacted by warning that the law could be credit Banking Association’s board has stressed that the enactment negative for covered bonds and that it raised the possibility of of the legislation would seriously damage the operation of the event risk, while Fitch said the law set “a dangerous precedent”. economy as a whole. Hungarian borrowers had before the fi nancial crisis taken “Th is may adversely aff ect millions of Hungarian corporate out foreign currency mortgages in Swiss francs and euros, but and retail debtors with forint loans,” it said. these were hit hard by rises in the two currencies against the Indeed the Hungarian government rode roughshod over objec- Hungarian forint to all time highs, making it diffi cult for bor- tions from many interested parties, not least the National Bank of rowers to meet monthly repayments. It was against this back- Hungary, which had pointed out the negative eff ects of the law. drop that the government communicated that it was committed to resolving the problems Hungarian households were facing A lasting impact and the September law was the result of that. HSBC Trinkaus head of covered bond research Johannes Ru- “Th e announcement shocked the Hungarian banking sec- dolph reacted to the law by saying it could have a “huge impact” tor and came as a complete surprise to Hungarian mortgage on Hungarian covered bonds. lenders, particularly as all costs and losses resulting from this “Due to the fi xed exchange rates, Hungarian banks are at risk prepayment option and the conversion of FX loans into HUF of realising a loss of 10%-13% of their Huf5,400bn (as of July loans would have to be borne by the lenders,” wrote András 2011 according to central bank data, equal to around Eu21bn) Botos, secretary general of the Association of Hungarian Mort- foreign exchange household loan portfolio,” he said. “For cov- gage Banks, in the October edition of the European Mortgage ered bonds, there is a certain risk of under-collateralisation, Federation’s Mortgage Info publication. should all borrowers execute their option.” Th e introduction of the law not only raised concern about However, representatives of issuers OTP Mortgage Bank cover pools of Hungarian covered bonds (jelzáloglevél), but and FHB Mortgage Bank told Th e Covered Bond Report that more generally undermined Hungarian banks. Moody’s placed the credit quality of their covered bonds was unlikely to suff er seven Hungarian banks on negative review at the beginning of directly from the law. Máriás György, head of treasury at OTP October, while Fitch estimated that the Hungarian banking sec- Mortgage Bank said the politicians had forecast a take-up rate tor will have to absorb approximately 1.5% of tier one capital as of only 10%. a result of the law, based on a 25% take-up rate. Fitch said that Th e banks said any resulting reduction in the cover pool most banks should be able to sustain such a hit to their capital, could be compensated in two ways. but “there are considerable diff erences in tier one ratios and ex- Within the collateral are mortgage loans and substitute collat-
November 2011 The Covered Bond Report 37 CEE:LEGISLATIVE ISSUES
be enough to increase the risk premium on these assets as mar- ket participants become concerned that future changes in law may impact the value of the assets,” he said, adding that this may make it more diffi cult and expensive to raise cash against the assets in the cover pool to repay outstanding covered bonds. “Th e law change may also increase the risk of currency mis- matches following issuer default and negatively impact bank credit quality by exposing banks to additional capital costs,” he said. Fitch said more generally that the move “sets a dangerous precedent for other central and eastern European countries with high foreign currency lending”. Richard Kemmish, head of covered bond origination at Credit Suisse, also noted that the “A fi rst Czech euro issue could hit the market as early as March 2012”
Hungarian move may have broader consequences. András Botos: “The announcement shocked the Hun- “If you’re in a world where governments can step into private garian banking sector” sector contracts and set them aside because they’re unfair to somebody else,” he said, “then maybe governments can do other eral, which comprise cash and/or government bonds. Th e level of things, which can be extremely diffi cult to quantify in a rating.” substitute collateral cannot exceed 20%. FHB and OTP have zero As Bernd Volk, head of covered bond research at Deutsche and almost zero substitute collateral, respectively, in their cover Bank, noted on hearing news of the Hungarian law: “Th ere is a pools, so they have an accessible way to add collateral. reason for the term ‘sovereign’.” Th e banks can also repurchase outstanding covered bonds, However, Kemmish added that he did not think the govern- a tactic that György and János Szuda, managing director, head ment would ever dream of enacting this law if it was going to of treasury and capital markets at FHB, confi rmed was feasible. bring down a bank, and ultimately the problem would be solved And in spite of its warnings, Moody’s noted that borrower by adding more collateral. credit quality may improve if borrowers refi nance onto lower “So, yes, the assets in the cover pool are a little bit worse LTV loans that are not subject to currency fl uctuations. off than they used to be, and yes, this has established a prec- Moody’s added that while the value of mortgage loans will be edent that they might get worse again,” he said, “But Moody’s reduced under the new law, as foreign loans are replaced with and whoever else rates them will ask for more collateral to be forint denominated mortgage loans, the impact is mitigated in thrown at the problem, which will solve the problem — though cover pools. Th e rating agency said this is because “whilst issu- it’s not exactly an elegant solution.” ers remain performing, the covered bond law off ers protection through the asset-coverage tests that require issuers to ensure Specialist reservations that the value of assets exceeds the value of liabilities”. Hungary decided against another potentially controversial change Market participants nevertheless remain concerned that the to legislation aft er debating the merits of moving away from a spe- Hungarian government’s move could have longer term implica- cialist bank principle for issuing covered bonds to allowing univer- tions for the way in which Hungarian covered bonds are viewed. sal banks to issue, something Poland had also debated. Moody’s, for example, said that having decided to implement Until 2005, Germany’s legislative covered bond framework the law, the Hungarian legislators may now be pre-disposed to placed restrictions on the breadth of most Pfandbrief issuers’ make further changes reducing the value of mortgage loans as activities. But while this model proved the basis for several of security for covered bonds. the covered bond frameworks established in central and eastern “Th e fact that Hungarian legislators have chosen to alter Europe as the asset class expanded in the 1990s and the last dec- contractual rights to reduce the value of mortgage loans as se- ade, Germany did away with the specialist bank principle with curity may lead to ‘event risk’, whereby actual or potential future the introduction of the Pfandbrief Act in 2005. legal changes would need to be factored into assessments of col- Moody’s in January noted that the Union of Polish Banks lateral value,” said the rating agency. had lobbied to extend the legal right to issue covered bonds to Moody’s AVP analyst, covered bonds, Patrick Widmayer universal banks, saying that it viewed the proposed amendment said it would particularly aff ect refi nancing risk if it reduces the as broadly positive in that it would improve access to medium future sale value of the mortgage loans. term funding for banks and deepen the covered bond market. “Th e perception that such changes are now more likely may However, the Polish regulators decided against pursuing
38 The Covered Bond Report November 2011 CEE:LEGISLATIVE ISSUES
such a change and Otmar Stöcker, managing director of the As- sociation of German Pfandbrief Banks, says such a fundamen- tal change as abolishing the specialist bank principle must be treated very carefully during a fi nancial crisis. “Th e probability of a bank going bankrupt is regarded now being much more likely than it was eight years ago when we had these discussions in Germany — that’s a big diff erence,” he says, “so therefore any deep change to an existing covered bond law has to address the legal issues that are related to the insol- vency of the issuer — including the globally discussed question of how to decide on the confl ict between covered bond holders Banca Comerciala˘ Româna˘: participating in Romanian and depositors.” covered bond working group Stöcker notes that in discussions regarding abolishing the specialist bank principle there is sometimes even a tendency to improve the legal framework for issuing covered bonds aft er to water down eligibility criteria to fi t the needs of the existing an overhauled pension system had begun to pave the way for portfolios of universal banks. private pension funds in Romania to start investing more. “To do that in a fi nancial crisis situation can absolutely not “Until now, pension funds had various investment alter- natives and they were mainly looking for higher yields,” says “The name of the game really is Irina Neacsu, head of debt capital markets at Banca Comercială funding diversifi cation” Română and a member of the working group. “At the moment, given the current market conditions, the safety of the invest- be recommended,” he says. ment is of utmost importance. He adds that the issue of ringfencing must also be tackled “Th erefore, secured bonds are becoming more appealing.” — today on a much higher level than it was discussed in public Th e working group — comprising local banks and their re- many years ago. spective parent companies, the Romanian Banking Association, “As long as you have very specialised banks then internal the National Bank of Romania, and the Romanian National Se- ringfencing is less important,” he says. “But once you lose the curities Commission — identifi ed covered bonds as a viable al- specialist bank principle, then ringfencing is at the core of the ternative for bank refi nancing. whole structure, and there is no proposal so “Th e overarching aim of this initiative is to develop the lo- far on how to regulate that in detail in cal capital market and create investments for local investors,” Poland.” says Neacsu, “and to diversify the funding sources for banks, given that they have a critical mass of assets (mortgage loans Romanians fi x unused law and public sector loans), which could be refi nanced through Romania could have an amend- covered bonds.” ed covered bond law by early The existing legislation was a roadblock, according to the 2012, potentially kick-starting working group, because it was inconsistent with international issuance in a country where standards because each bond issue had to be backed by its own there has been none despite dedicated set of loans, as opposed to one cover pool allowing legislation having been in place for multiple issues, and a static cover pool, with administra- since 2006, according to members tors only replacing mortgages included in the cover pool if of a working group. they no longer comply with the eligibility criteria. In addition, A covered bond law has the law does not allow for issuance of public sector backed been in place in Romania covered bonds. since March 2006, but Neacsu said the group is upgrading the legal framework, there has been no issu- using the German Pfandbrief legislation as a benchmark. The ance because the law is improved framework will consist of an amendment to the not fully aligned with 2006 law as well as secondary legislation. The amendment will international standards, provide for: according to bankers in t ć FFTUBCMJTINFOUPGUXPDPWFSQPPMT POFGPSNPSUHBHFBOE the country, and a lack of housing loans and one for public sector loans, with an active Otmar Stöcker: “Once you lose interest because of alterna- and dynamic administration the specialist bank principle, then tive investments for local t NJOJNVNPWFSDPMMBUFSBMJTBUJPO ringfencing is at the core of the funds. But market partici- t "TQMJUPGSFTQPOTJCJMJUJFTSPMFTCFUXFFOUIFSFMFWBOUDPNQF whole structure” pants established a working tent authorities (central bank, securities commission) group in the fi rst half of 2010 t "DUJWFNBOBHFNFOUPGDPWFSQPPMT
November 2011 The Covered Bond Report 39 CEE:LEGISLATIVE ISSUES
t ć FFTUBCMJTINFOUPGUIFJOTUJUVUJPOPGUSVTUFF t *OUFSOBMSFHJTUSJFTBOEUSBOTQBSFODZPCMJHBUJPOTPGUIFJTTVFS Czech covered bond issuance (Eu eq (m)) t 4QFDJBMQSPWJTJPOTSFHBSEJOHUIFCBOLSVQUDZPGJTTVFSTBOE 4,000 the enforcement of cover pools (role of the cover pool man- 3,500 ager, servicing of pools, enforcement of cover pools) 3,000 Secondary covered bond legislation will be related to the agent, 2,500 the portfolio structure, internal registry, and stress tests on the 2,000 cover pools. 1,500 “In general the maximum limit allowed for supplying the 1,000 pool and for the substitution of receivables in the relevant cover 500 0 pool with supplementary assets should not exceed 20% of the 2003 2004 2005 2006 2007 2008 2009 2010 cover pool value,” adds Neacsu. Source: EMF/ECBC Adrian Sacalschi, deputy head of branch, Frankfurt, at FHB, which has assets in Romania, also sits on the working group, Czech Republic. While this has not caused problems for senior and said that he expects the law to go through parliament at the unsecured issuance from Czech banks, according to a market beginning of next year. participant, it has been a barrier to covered bond issuance. “If the Ministry of Finance gives it the OK then the approval Th e amendment proposes scrapping this geographical re- process should go pretty quick,” he said, “and we hope to have quirement, which the market participant described as “a major something for next year.” breakthrough for covered bonds”. Th e Czech government passed the proposed amendment on Czech euro, Slovenian fi rsts eyed 25 October, according to Eva Svobodová, partner at White & A legislative amendment is underway in the Czech Republic, Case in Prague, although it still needs to pass through several Th e Covered Bond Report has learned, which could open the steps in parliament before being presented to the President to door to the fi rst Czech issue in euros. be signed into law. If the law is passed by year-end, then a fi rst Th e legislation in question is not the country’s 1995 Covered Czech euro issue could hit the market as early as March 2012. Bond Act — which governs issuance of mortgage backed cov- Th ere were eight Czech covered bond issuers by the end ered bonds (hypnoteční zástavní list) — but the general Czech of 2010, according to data from the European Covered Bond Bond Act of 2004. Th is stipulates that bonds issued under the Council, which issued between Eu500m-Eu1bn equivalent be- act be fi rst registered to an investor securities account in the tween 2008 and 2010, aft er having issued Eu3.5bn in 2007. In Slovenia, Nova Ljubljanska Banka (NLB) is in the prelimi- nary stages of issuing the fi rst Slovenian covered bond, which could help it refi nance outstanding government guaranteed debt, according to Fitch. Fitch reported in June that NLB was considering a debut cov- ered bond programme backed by public sector loans of up to Eu600m as part of the bank’s refi nancing plans. Offi cials at the bank confi rmed to Th e Covered Bond Report that NLB is plan- ning to issue a covered bond, but declined to comment further. Fitch noted that NLB has a Eu1.5bn government guaran- teed bond maturing in July 2012. According to Lindsey Liddell, credit analyst at Fitch, NLB had prepaid some of the govern- ment guaranteed bond, but still had about Eu1.1bn left . “Th at’s clearly a very large sum for a single Slovenian bank to refi nance at any one time, particularly given the diffi cult operat- ing environment at present,” she says. Launching a covered bond was said to be one of the ways in which to refi nance this sum. “We understand the covered bond is one of the ways that they are looking to manage their refi nancing spike,” says Liddell. “Given what’s going on generally in the market,” she adds, “the name of the game really is funding diversifi cation, by both source and tenor of funding, so that would be a motivation for Nova Ljubljanska Banka: could launch fi rst Slovenian NLB to look into issuing a covered bond.” covered bond Liddell says that given that this would be Slovenia’s fi rst cov- ered bond, it seemed sensible that one of the larger state owned
40 The Covered Bond Report November 2011 The Covered Bond Report
The Covered Bond Report is not only a magazine, but also a website providing news, analysis and data on the market.
Did you know that The Covered Bond Report has its own database of benchmarks? Did you know that we link directly from bond data to relevant coverage? Did you know that we include price guidance, book sizes and distribution statistics? Did you know that you can run league tables by country and currency?
To register for trial access to The Covered Bond Report, visit news.coveredbondreport.com or contact Neil Day, Managing Editor, at [email protected]. And don’t forget: if you are an investor in covered bonds you can qualify for free access to the website. LEGAL BRIEF: US DOCS & PROCESS
Ellis Island, New York: immigrants had to make sure their papers were in order
42 The Covered Bond Report November 2011 LEGAL BRIEF: US DOCS & PROCESS
Papers, please
While the US is regarded as a land of opportunity by many non-US issuers, documentation requirements have caused hesitation. Here, Jerry Marlatt, senior of counsel at Morrison & Foerster, details the options and steps necessary for a successful introduction into the US.
e are oft en asked what documents and “restricted security” under the 33 Act rules and some investors process are required for a non-US bank to have a limited ability to purchase restricted securities. issue US dollar covered bonds in the US. An off ering under Section 3(a)(2) is not restricted, but must With the heavy reliance by European be issued through or guaranteed by a US branch or agency of a banks on covered bonds for funding, the non-US bank. Involvement of a branch or agency may require option of broadening the investor base to include US investors is at- holding additional capital at the branch or agency, the amount Wtractive. Th e US market saw $30bn of issuance in 2010 and through of which will be determined by the regulatory authority in the October 2011 there has been about $34bn of covered bonds issued jurisdiction that licenses the branch or agency. by non-US banks. And the pricing has been attractive: in September, Th e advantages of using Section 3(a)(2) are several. First, a se- for example, TD Bank issued a $3bn fi ve year covered bond at 26bp curity issued under Section 3(a)(2) is not a restricted security, so over mid-swaps. So the combination of the turmoil in European investors generally do not face limits on the ability to purchase 3(a) markets and attractive pricing in the US market suggest that we will (2) securities. Second, unlike 144A securities, 3(a)(2) securities are see more non-US banks issuing US dollar covered bonds. eligible for the bond indices. Th is has the eff ect of both expanding Th e two threshold concerns for a non-US bank considering the investor base and improving the secondary market in the secu- issuing US dollar covered bonds are documentation and proc- rities. Th e investor base expands because those bond funds that are ess; in particular, what are the disclosure burdens and how index funds need to buy bonds in the indices. Th ird, there intrusive is the diligence process. We have brought are no publicity limitations around a 3(a)(2) off er- a number of non-US banks into the US dollar ing, so there is less concern about information covered bond market who have not found leaking into the market in advance of the the requirements or the experience to be off ering. In contrast, in a Rule 144A of- diffi cult. fering very tight controls must be main- tained over contact with journalists. 144A and 3(a)(2) Advance publicity about a Rule 144A Generally, non-US banks use one of off ering can result in the off ering be- two routes under US law to issue debt ing pulled from the market for up to securities in the US: Rule 144A and 60 days. Section 3(a)(2) under the Securities Both types of off erings will general- Act of 1933. ly require the same documentation and An off ering under Rule 144A is diligence process. A 3(a)(2) off ering, a private off ering and, while there however, will require some additional are no express regulatory disclosure documentation in order for the branch requirements, the disclosure docu- to issue or guarantee the securities and ments are usually similar to pro- some additional disclosure about the spectuses used in public off erings. A The OCC’s rules are very similar to those branch and the role of the branch in the applied by the SEC security issued under Rule 144A is a transaction.
November 2011 The Covered Bond Report 43 LEGAL BRIEF: US DOCS & PROCESS
Th e primary regulator for a US branch or agency of a non- to appoint a co-issuing agent under the existing Agency Agree- US bank is the banking regulator in the US jurisdiction granting ment (or other agreement that provides for the issuance of se- the banking licence for the branch or agency. A licence may be curities) to provide for issuance and payment of the bonds. Th is granted either by the US Offi ce of the Comptroller of the Cur- is oft en accomplished by notice, without the need to amend the rency (OCC), which grants a federal licence, or by state bank- agreement. Also, under DTC’s requirements, the global bonds ing authorities in the state where the branch or agency is located. must be issued in the name of DTC’s nominee, Cede & Co, and Most of the older branches or agencies located in New York are physically held in the possession of the US issuing agent1 . Th is licensed by the New York State Banking Department. may require a change to the Agency Agreement to enable the Only the OCC has specifi c disclosure rules for securities of- issuance of securities in registered form. fered in the US by a branch of agency regulated by the OCC. Banking regulators other than the OCC do not have specifi c of- “The two threshold concerns fering disclosure rules. Th e OCC’s rules are very similar to the for a non-US bank are rules applied by the Securities & Exchange Commission (SEC) for securities off ered by bank holding companies and, accord- documentation and process” ingly, are quite detailed. Nevertheless, for a non-US bank that can deliver the information required by SEC Rule 12g3-2(b), the Th e other necessary change is to amend the Programme OCC’s detailed disclosure rules do not apply to investment qual- Agreement or other agreement governing the off ering and dis- ity non-convertible debt securities off ered only to “accredited in- tribution of the covered bonds. Th is can oft en be accomplished vestors” with minimum denominations of $250,000 or more. At through the Subscription Agreement or similar agreement the same time, banking regulators expect off ering disclosure of draft ed for the series of covered bonds being off ered. Th e Sub- US branches and agencies to be complete and accurate, with no scription Agreement must include: the representations, warran- material misstatements or omissions. ties and covenants typical for a US private placement in the case of a Rule 144A off ering, or typical of an off ering of securities Documentation issued through or guaranteed by a US branch or agency in the Prospectus. In our experience, covered bond prospectuses that case of a 3(a)(2) off ering; selling restrictions and transfer re- are listed on the UK Listing Authority (UKLA) or Luxembourg strictions in the case of a Rule 144A off ering; US-style indemni- Stock Exchange for European covered bond programmes gen- fi cation for a false or misleading prospectus; typical market-out erally provide suffi cient disclosure about the issuing bank and provisions; and a requirement for an SAS 72 comfort letter and the covered bond programme when taken together with the fi - an agreed upon procedures letter regarding the cover pool, both nancial data posted with the listing authority and incorporated from the issuer’s auditor. by reference into the prospectus and the periodic reports on the cover pool available to investors. In the cover pool reports Documents for Branch Issuance or Guarantee. In the case of an we would expect to see reasonably complete statistical data on off ering under Section 3(a)(2), steps must be taken to eff ect the the cover pool, including statistics on dwelling type, geographi- issuance of the bonds through the US branch or agency or for cal location, loan amount, loan balance, remaining term, credit the branch or agency to guarantee the covered bonds issued by score, interest rate, occupancy, and loan-to-value ratio. Th ese the bank from its home jurisdiction. In the case of an issuance reports usually are not posted with the listing authority, but rather are available on the issuer’s website. Th ere is, however, a growing trend in both US and European markets for investors to seek more transparency on the cover pool. Certain additional prospectus disclosure is necessary for a US off ering. Th is would generally include US tax disclosure, ERISA (Employee Retirement Income Security Act) disclosure, disclosure on the DTC (Depository Trust Company) clearing system and delays in transfers to transferees holding through Euroclear or Clearstream, identity of the US paying agent, sell- ing restrictions and transfer restrictions in the case of Rule 144A off erings, disclosure of the role of the branch in off erings, and fi nancial data on the branch in the case of 3(a)(2) off erings.
Programme Agreements. Generally there are very few changes required of the agreements for an existing covered bond pro- gramme. Th ere is no requirement that the agreements be gov- erned by US law, so the existing agreements will be largely un- changed. SEC Headquarters Two changes will be necessary, however. It will be necessary
44 The Covered Bond Report November 2011 LEGAL BRIEF: US DOCS & PROCESS
of the bonds through the branch or agency, the Final Terms and Subscription Agreement or other documents that need to be executed to eff ect the issuance of a new series of bonds must be executed by the bank “acting through the branch [agency]” and the global bonds issued to DTC should show the bank “acting through the branch [agency]” as the obligor on the bonds. In the case of a guarantee by the branch, the bank “acting through the branch [agency]” would execute the Final Terms and the Subscription Agreement as guarantor of the bonds issued. While this may appear nonsensical at fi rst for one offi ce of an entity to guarantee an obligation of the entity, it has signifi cant meaning because the branch or agency is separately regulated by a US banking regulator, the branch or agency must oft en maintain separate capital in the jurisdiction of the branch. In the case of the insolvency of the branch of agency, the US bank- ing regulator will marshal the assets of the branch or agency in the jurisdiction and apply those assets to repayment of claims against the branch before releasing assets to the home offi ce of the branch or agency or to the insolvency proceeding in the home jurisdiction of the bank2 .
10b-5 Letters. Th ere are several signifi cant documents generally delivered at closing, including an auditor comfort letter, a pool audit letter (agreed upon procedures letter) and a 10b-5 letter. Comfort letters and pool audit letters will be familiar to most non-US bank issuers, but it is probably worthwhile to spend a little time on 10b-5 letters. In a Rule 144A off ering and in a 3(a)(2) off ering, an under- writer (or dealer) is subject to liability under Rule 10b-5 un- der the Securities Exchange Act of 1934. Rule 10b-5 provides in part that “It shall be unlawful for any person… to make any untrue statement of a material fact or to omit to state a material Jerry Marlatt, Morrison Foerster: The advantages of fact necessary in order to make the statements made, in light of using Section 3(a)(2) are several the circumstances under which they were made, not mislead- ing… in connection with the purchase or sale of any security”. Generally, however, the underwriter will not be liable if it can issuer, review of board minutes and material contracts, review establish that it did not know and in the exercise of reasonable of mortgage business policies and procedures, and possibly an care could not have known of such untruth or omission3 . Th is interview with outside counsel to the issuer. Some non-US is- is the so-called due diligence defence. suers fi nd this inquiry off ensive and intrusive. In some foreign jurisdictions it is the practice to include in board minutes, for “While this may appear example, a great deal more personal and sensitive information than would be common at a US issuer. In any event, it is the 10b- nonsensical at fi rst… it has 5 due diligence process that is to some non-US issuers the most signifi cant meaning” off -putting part of a US issuance. In truth it can sometimes be an adversarial process, but it need not be. It can be handled diplo- One accepted element of establishing the defence is for the matically and it is possible to establish procedures to safeguard underwriter to obtain from issuer’s counsel (and usually under- confi dential and sensitive information. And for a senior debt of- writer’s counsel as well) a letter delivered at closing stating that fering by a regulated fi nancial institution with publicly available the fi rm is unaware of any untrue statement of a material fact fi nancial data it should not be a lengthy process. For a regulated or omission to state a material fact necessary in order to make fi nancial institution a great deal of information about the institu- the statements made, in light of the circumstances under which tion is publicly available for review. Discussions with manage- they were made, not misleading in the prospectus and the other ment should take hours not days. And the review of agreements, off ering materials. Th is is the 10b-5 letter. board minutes and other documents should take three or four In order to deliver the letter, counsel will conduct a due dili- days for the initial due diligence inquiry, not weeks. gence inquiry involving discussions with management of the Naturally, the fi rst time diligence is conducted it is more time
November 2011 The Covered Bond Report 45 LEGAL BRIEF: US DOCS & PROCESS
consuming than it is for subsequent off erings. For subsequent off erings, only new material agreements and new board min- utes would be reviewed. And if the subsequent off ering follows closely aft er a prior off ering, the questions for management may simply be a few “bring down” questions asking if there is any change in the answers previously given in the earlier diligence. “Some non-US issuers fi nd this inquiry offensive and intrusive”
It should also be noted that diligence conducted, for exam- ple, for a covered bond programme can also be used in connec- tion with other debt off erings in the US, such as MTN off erings. So once the initial diligence is completed the issuer has the op- tion of expanding its debt off erings in the US without having to suff er through the initial diligence exercise again. Th is assumes of course that the same US law fi rms are involved in the addi- TD Bank in Washington, DC: Crossed the border tional off ering programmes. to tap US accounts
Process Th e process of preparing for an off ering and conducting an bank on the same day. In each case, however, the bring down off ering should generally be familiar to a European issuer, al- diligence is typically accomplished in fi ve minutes or so and though on the initial US off ering there will be some changes to involves only a handful of questions for management and the the programme documents as discussed. Aft er selection of the auditor asking whether there are any changes to answers previ- arranger for a US off ering, the off ering process would typically ously provided and whether the auditor is prepared to deliver involve the following steps: its comfort letter. Note that delivery of a comfort letter will be required both at pricing and at closing. (1) review of the existing programme agreements, For programmes listed on the UKLA or other European ex- (2) amendment of the programme agreements as necessary, changes, the Final Terms would typically be fi led with the list- (3) draft ing the Final Terms and Subscription Agreement for ing exchange. the off ering, Some portion of the off ering may be off ered outside the US (4) in the case of a 3(a)(2) off ering, discussions with interested pursuant to Regulation S, although the Regulation S portion of US banking regulators, off erings has typically been quite small as almost all of the off er- (5) due diligence document review and discussions with man- ings have been placed with US investors. agement, For an initial off ering into the US the process described (6) development of fl ip-book materials and a roadshow with above may take up to three months, although it is certainly pos- potential investors, sible to move more quickly. Subsequent off erings may be done (7) selection of co-managers for the off ering, on as little as one or two days’ notice, depending on the lapse of (8) bring down diligence and launch of the off ering, time from the previous off ering. Q (9) pricing, and (10) bring down diligence and closing. 1 It may also be possible to issue bonds through Euroclear or Clearstream that settle into the DTC account at Euroclear or Note that items (1), (2) and (4) would usually only be neces- Clearstream. US purchasers would hold the bonds through their sary for the initial US off ering. DTC participants. To use this option, special steps must be taken For a 3(a)(2) off ering, the local US banking regulator for the to satisfy US tax requirements applicable to bearer securities sold branch or agency should be consulted. Covered bonds may not to US persons. be familiar instruments to many state regulators and an eff ort 2 In the case of the small number of US branches that are insured should be made to explain to the regulator the role of the branch by the Federal Deposit Insurance Corporation (FDIC), the FDIC or agency and features of a covered bond. In general, reliance on will have receivership authority over the branch. Section 3(a)(2) for a debt off ering will be familiar to most regula- 3 Actually, this is the express defence available to an action tors as there are about 10 non-US bank senior debt programmes brought under Section 12(2) of the 33 Act. Section 12(2) is not issuing in the US under Section 3(a)(2). applicable to a Rule 144A or Section 3(a)(2) off ering. However, Generally, launch of the off ering and pricing will occur on there is general agreement that a defence adequate under Section the same day. So that would mean two diligence sessions for the 12(2) would also be suffi cient under a Rule 10b-5 claim.
46 The Covered Bond Report November 2011 FULL DISCLOSURE
ABI-AFME, ECBC, vdp cordially invite ...
ABI-AFME conference in Milan featuring a gala dinner in the Ristorana Ratanà with chef Cesare Battisti.
The CosmoCaixa science museum in Barcelona plays host to the European Covered Bond Council Plenary in September.
November 2011 The Covered Bond Report 47 FULL DISCLOSURE
Photos from the Association of German Pfandbrief Banks (vdp) Forum held in Frankfurt’s east end at Klassikstadt, a venue dedicated to classic cars.
48 The Covered Bond Report November 2011 The Covered Bond Report
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