Covered Bonds

Mortgage funding is being squeezed by a pincer movement of covered bond encumbrance and overzealous ABS regulation. But what about whole loan sales? They offer a viable alternative to covered bonds and securitisation — and one that looks increasingly attractive.

The regulatory backdrop for covered bonds was always good, but following an analysis of the draft Solvency II regulations by Fitch, it seems that preferential treatment has got even better. The benevolent view of covered bonds contrasts starkly with securitisation, where regulators inexplicably chose to model the performing European market on the dysfunctional and defunct US subprime market.

Austria’s Hypo Noe Gruppe Bank took advantage of a lone issuance window on Wednesday to launch a strongly oversubscribed public sector backed 10 year trade. The rarity of the issuer, the quality of the collateral and the relative resilience of Austrian Pfandbriefe to recent volatility made the trade compelling. Falling Pfandbrief supply in the primary and public sector buybacks in the secondary, meanwhile, have increased appetite for a shrinking asset class.

Nykredit Realkredit on Tuesday finished a roadshow for its first euro benchmark junior covered bond since 2010. Some continental buyers are unfamiliar with the structure, and past deals have been priced far closer to senior than covered levels. However, Denmark’s largest mortgage lender rarely issues in euros, and a high spread and lack of alternative investment opportunities could draw a healthy mix of credit and rates buyers.

Expectations of supply this week are relatively limited given European holidays on Tuesday followed by Spanish auctions and, at the end of the week, US payrolls. Despite that, there is room for a German or Scandinavian borrower to bring a deal at short notice.

The primary focus for the covered bond market is on Panamanian issuer Global Bank, which could launch the inaugural Latin American covered bond as early as this week, after finishing its roadshow on Monday. Elsewhere, Nykredit’s junior covered bond is due on Tuesday. Secondary flows are mixed, with good interest in core markets versus peripheral — where negative rating headlines persist.

S&P cut Spain by two notches to triple B plus on Thursday night, leaving the sovereign precariously close to junk. And although government bonds have lurched 20bp wider, the Cédulas market has shown a stoic response. But the rating agency’s move came as Banco Popular also announced a jump in non-performing loans in its first quarter results – concentrating minds on the country’s unfolding real estate crisis to which Cédulas are inextricably linked.

The Canadian government has released details of domestic covered bond legislation that will ban issuers from using insured mortgages as collateral. Spreads of Canadian covered bonds issued under the new framework will be wider than those backed by insured mortgages, said analysts, and with just months to go until the ban comes into place, a last flurry of insured deals could hit the market.

Canadian issuers will no longer be able to use insured mortgages as collateral for covered bonds. Finance minister Jim Flaherty introduced a bill into the Canadian parliament on Thursday that will create a register for covered bond issuers. The bill will also prohibit the use of mortgages insured by private insurers or by the government backed Canadian Mortgage and Housing Corp (CMHC).

Perceptions of risk have changed since a covered bond CDS was first mooted a few years ago and though it failed to get off the ground, times have changed. Liquidity in the covered bond market is no longer taken for granted and, because balance sheet availability for trading has been squeezed, banks have become more risk averse. As such, there is value in having another tool available to enhance liquidity and hedge risk – such as a covered bond CDS.