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FIGCovered Bonds

Have sustainability-linked covered bonds lost their lustre?

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Green covered bonds no longer have to be reinvented in the face of rising sustainability-linked issuance because banks are now safe in the knowledge that they comply with the EU’s Taxonomy of Sustainable Activities.

In early April, the draft wording of the Taxonomy had suggested that eligible mortgage collateral should have an Energy Performance Certificate of ‘A’ or ‘B’. These are the highest tiers and are largely out of reach for many issuers in several jurisdictions.

The Taxonomy’s heavy reliance on EPC labelling drew howls of protest from the market as this would have effectively shut out green covered bonds. In those bleak days it seemed issuers would be obliged to adapt and develop other strategies.

Switching to sustainability-linked covered bonds (SLCBs) seemed an obvious choice as it's much simpler to develop KPIs around a homogenous pool of residential mortgage assets that secure covered bonds rather than the diverse range of assets on most issuers’ balance sheets.

But at the 11th hour, after a crisis meeting, the European Commission brought the Taxonomy back into line with the advice of its own Technical Expert Group by making the top 15% most energy efficient housing stock eligible.

With this clarity, issuers can once again print green covered bonds in the full certainty that they meet investors’ overriding desire to buy Taxonomy-compliant deals.

That’s not to say the idea of SLCBs has been dropped. After the European Banking Authority proposed setting the green asset ratio as a KPI it seems likely that bankers' minds will be focused on choosing the best route to meet it. Covered bonds will be part of that story but the sense of urgency that may have spurred sustainability-linked issuance has gone.

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