Covered Bonds

The outlook for covered bond spreads has become less clear cut following last week’s historic agreement on the EU’s coronavirus recovery fund, according to analysts. But bank traders believe the market is well protected and think that the biggest risk to spreads is if there is a broader credit and equity market sell-off.

Mortgage payment holidays across Europe, offered to help borrowers cope with the economic effects of lockdown, were highest in UK covered bond pools, according to the European Covered Bond Council’s newly updated harmonised transparency template (HTT). But that reflects the ease with which homeowners could apply for the breaks rather than the likelihood of those loans turning into bad ones.

ANZ has altered the pre-maturity test of the hard bullet transactions in its covered bond programme, by doubling the time the covered bond guarantor has to sell assets. The "investor-friendly" update, which improves rating stability, follows ANZ’s recent downgrade and could be of interest to other issuers in a similar situation.

Tight trading levels will make covered bonds an attractive asset class for statement trades and issuers outside of the euro area, but market participants say that this is unlikely to be enough to lift overall supply volumes out of the doldrums in the second half of 2020.

Surging redemptions and aggressive buying by the ECB — which is also offering issuers a cheaper funding alternative — mean a reduced supply outlook for the covered bond market and, therefore, ever tighter spreads. But higher yielding, safer alternative investments are on the horizon, meaning the asset class may soon lose its allure.

Deutsche Bank has taken advantage of the addition of more collateral to its Pfandbrief mortgage pool following the merger with the former Postbank entity to issue more than €2bn of retained covered bonds.

The Swiss franc market is having a busy year, with a strong showing from corporate and SSA issuers helping the market to its highest year to date volume since 2015, according to Dealogic.

Reform of the US government sponsored enterprises (GSEs) has always been considered a necessary precursor to establishing a US covered bond legal framework. But with the Covid-19 crisis and November’s presidential elections diverting attention, dollar covered bond issuance will remain dominated by foreign banks, with near term supply prospects likely to be determined by the cross-currency basis swap.

Negative yielding covered bonds, which are trading close to their tightest-ever spread levels, could become less attractive to bank investors relative to European Central Bank (ECB) deposits, which may soon become more generously tiered, and government bonds, where an increase in supply is likely, said bankers on Wednesday.

Moody’s has proposed changes to its covered bond rating methodology, with an update to the framework for valuing commercial real estate (CRE) properties, and on Tuesday it published a request for comment. A small number of programmes are likely to be downgraded by one notch as a result of the proposals.

The German covered bond market is famed for its stability but S&P has drawn attention to the diversity of its borrowers' cover pools, suggesting that their performance will begin to differ. One major investor said he favours bonds secured on residential loans, rather than commercial ones, as a result of prevailing economic conditions.

NordLB has promoted two bankers to its FIG coverage and SSA teams, and plans to make further external hires soon.