News on Covered Bonds: Australia’s draft Covered Bonds bill

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Australia’s draft Covered Bonds bill

 

6 April, 2011: After much consultation between the Australian Treasury and industry participants on the preferred legislative framework for the issuance of covered bonds by ADIs, the Australian Federal Government has released an exposure draft of the Banking Amendment (Covered Bonds) Bill 2011. 

As a part of the commitment under the Competitive and Sustainable Banking Package, where the Australian government had announced a measure to allow issuance of covered bonds by Australian banks, credit unions and building societies, the Treasury released the exposure draft Bill and the draft explanatory memorandum providing legislative support for issuance of covered bonds by ADIs in March, 2011.

The Australian Prudential Regulation Authority (APRA) had prohibited the issuance of covered bonds by financial institutions as it was of the view that in the insolvency of an ADI issuer the covered bondholders would take priority over other creditors, so covered bonds would contravene the depositor protection standards set out in the Banking Act. By now amending the Banking Act by the Government is allowing financial institutions to access cheaper, more stable and longer duration funding in the wholesale capital markets. However measure to allow issuance of covered bonds will have no impact on the rights of the depositors. Salient features of the bill are:

  • ADIs can issue covered bonds with a cap of 8% on the value of the cover pools of the assets, preventing the covered bondholders having claim over more than 8% in the assets at the time of issuance of covered bonds.
  • Australian Prudential Regulation Authority shall regulate the issuance and shall have the authority to restrict the issuance of covered bonds that are non-compliant with the legislations.
  • The cover pool would be held and owned by a special purpose vehicle separate from the ADI issuing the covered bonds and the ADI shall transfer additional assets or maintain the cover pool in order to meet its obligations.
  • The ADI is required to appoint a cover pool monitor to monitor the value of the cover pool and report on the status of the cover pool.
  • Assets eligible to form a part of the cover pool, as specified in the Bill include

     

     

     

    • cash,
    • government debt instruments, not greater than 20% of the value of all the assets in the cover pool at any time
    • a loan secured by a first ranking mortgage over residential property provided that the sum of the principal amount of the loan when it is issued and the total value of all other debts and other obligations secured against the residential property must be no greater than 80 per cent of the value of the residential property;
    • a loan secured by a first ranking mortgage over commercial property provided that the sum of the principal amount of the loan when it is issued and the total value of all the other debts and other obligations secured against the commercial property must be no greater than 60 per cent of the value of the commercial property
    • a derivative (within the meaning of section 761D of the Corporations Act 2011) used to hedge movements in exchange rates or interest rates relating to the special purpose vehicle’s liabilities

In the event of default of the ADI, though the covered bondholders would have priority of claims in the cover pool over the depositors as well, the depositors would be protected by the Financial Claim Scheme. However any claim of the covered bondholders over the cover pool would represent unsecured claims on the ADI. 

The draft bill shall remain open for public consultation till 22 April, 2011. Get the text of the exposure draft and explanatory memorandum here.

[Reported by: Nidhi Bothra]

News on Covered Bonds: Covered Bonds Bill considered again to promote covered bonds in US

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Covered Bonds Bill considered again to promote covered bonds in US

 

5 May, 2011: Covered Bond Bill introduced by Rep. Scott Garrett and Rep. Carolyn Maloney in March, 2011 for the development of covered bond market in the US and was considered and approved by a sub-committee of House of Representatives recently. The Bill will be put up for consideration before the House Financial Services Committee. The Bill has been several times before put up for consideration (see our news here). Some of the salient features of the bill are:

  • The Bill provides requirement of eligible issuer, single cover pool for issuance, eligible assets etc.
  • Covered bond regulatory oversight program to regulate the covered bonds issued and the covered bond regulator shall apply the standards established by the Secretary to evaluate the covered bonds to be issued by an eligible issuer for approval. The Secretary is to maintain a registry that would have a record of all the approved covered bonds.
  • The regulators may establish minimum over-collateralization requirements for covered bonds backed by eligible asset classes.
  • The Bill places requirement for monthly reporting to the Secretary, covered bonds regulator, indenture trustees, the bondholders and independent asset monitor.
  • Covered bondholders to retain claim against the issuer for any deficiency with respect to the covered bonds or related obligation and the obligation of the issuer shall remain absolute.
  • In case an uncured default occurs, before the issuer enters conservatorship, receivership, liquidation or bankruptcy, an estate shall be created separate from the other assets of the issuer for the affected covered bonds.

The Bill intends to create a new market for financing mortgages and help revive the housing markets in US. The text of the Bill is available here.

[Reported by: Nidhi Bothra]

News on Covered Bonds: Turkey’s first covered bond issuance

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Turkey’s first covered bond issuance

SME loan based pool indicates a new opportunity for emerging  market issuances

 

28 July, 2011: Turkey’s Sekerbank has come up with Turkey’s first covered bond issuance. The transaction should receive immense attention being one of the first transaction from an emerging market country, and that too, from the traditional domain of residential mortgage loans with which covered bonds have usually been associated.

Turkey has a law dealing with covered bonds  but this law is limited only to mortgage loans.  It appears that there is another law on asset-backed covered bonds which deals with non-mortgage-backed assets. The law provides for ring-fencing of the assets in the cover pool in the event of bankruptcy of the issuer.

The present transaction has an over-collateralisation of 25%. There is a liquidity facility covering 9 months’ interest, and there is also a provision for appointment of a replacement servicer.

Despite Turkey’s sovereign rating of Ba2, the transaction attained a rating of A3, one notch below the bank’s domestic rating.

Since the assets in cover pool can only be used to repay the covered bonds, the transaction is almost like a revolving pass-through transaction.

[Reported by: Vinod Kothari]

News on Covered Bonds: Covered Bonds not risk free – S&P Covered Bond Ratings Director speaks

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Covered Bonds not risk free – S&P Covered Bond Ratings Director speaks

 

15th August, 2011: Covered Bonds recently have been well received by investors and have seemingly gained a high profile with issuers and investors. Standard & Poor's Director Sabrina Miehs, of the Covered Bond Ratings Group, on Credit Matters show, discussed the wide range of collateral types and diverse risks underlying different covered bond programs.

Some of the risks attached to covered bonds are, the asset type in the pool, jurisdiction in which they are issued, structural risk, asset liability mismatches, counterparty risk and over-collateralisation in the pool and so on.  The methodology adopted by S&P for rating such covered bonds is typically looking at the cashflows from the underlying assets, the timely and full payment of interest and principal and the loan pools backing the covered bonds are monitored on a regular basis, whereas other rating agencies approach is looking at the sum of expected losses, ALM, interest rate risk and foreign exchange risk.

Further she mentioned that the general misnotion is that the issuer downgrading would impact the rating of covered bonds as well however issuer downgrading may or may not be affecting the rating of the covered bonds at all. It is also believed that covered bonds are vanilla products and are almost risk-free.  The view however is incorrect as there lot of credit risks attached to the product.

(Reported by: Nidhi Bothra)

News on Covered Bonds: Australia introduces Covered Bonds legislation

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Australia introduces Covered Bonds legislation

 

15th September, 2011: Banking Amendment (Covered Bonds) Bill, 2011 has been introduced today by Treasurer Wayne Swan to the House of Representatives, Australia to amend the Banking Act, 1959 facilitating financial institutions to issue covered bonds and is expected to generate a sale of A4130 billion in coming years. The exposure draft of the bill was issued in April, 2011 (see our news on the subject here).

The bill includes a regulatory cap on the amount of covered bonds an institution can issue, with the pool of assets used to secure issuance no greater than 8 percent of an institution's assets. The cap shall limit the claim of the covered bondholders over the assets of the depository institutions protecting the claims of the unsecured creditors such as depositors arising from the preferred claim of covered bondholders over the assets of ADIs. The eligible assets to form a part of the cover pool are high quality assets such as residential mortgages and the value of the assets in the cover pool should be 103% of the value of the outstanding covered bonds.

There have been concerns over offshore entities issuing covered bonds in Australia and tapping on the savings while the banks tried to deal with the global financial turmoil. The legislation is expected to reduce the dependence of banks on overseas funding markets, provide alternative and cheaper means of accessing funds and diversifying funding base.

Both houses are expected to pass the law by the year end. The text of the bill is available here.

[Reported by: Nidhi Bothra]

News on Covered Bonds: MAS proposes Covered Bonds Rules for Singapore

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MAS proposes Covered Bonds Rules for Singapore

 

5th April, 2012: Following the league of USA, UK, Australia, Canada, New Zealand and others countries, Monetary Authority of Singapore recently came out with a “Consultation Paper on “Covered Bond Issuance by Banks Incorporated in Singapore” on 9th March 2012 (see the text of the consultation paper here) and is open for public comments till 10th April, 2012.

 Some of the key issues considered in the proposed rules are:

  • The aggregate value of assets in cover pools for all covered bonds issued by the bank, not to exceed 2% of the value of the total assets of the bank, at all times.

  • A loan to value limit of 80% is applicable to residential mortgage loans. Even if the LTV Limit exceeds 80%, the value of the loan for the purpose of determining the value of the loan as an asset to be part of the cover pool shall be reduced by the amount of the excess if the loan is to be included in the cover pool.

  • Covered Bonds shall not be issued through foreign incorporated entities.

  • Qualifying cover assets to include

o   Residential mortgage loans that are mortgage loans secured by residential property.

o   Derivatives held for the purpose of hedging risk arising from covered bonds issuance.

·         Minimum over collateralization to the extent of 3% of the cover pool

·         Appointment of a third party cover pool monitor

The rules pertain to providing protection to the investors in areas of quality covered areas, specifying minimum over-collateralization levels, a requirement for ongoing monitoring of risk but have not mentioned anything about legal protection to the bondholders in case of bankruptcy/ default of the issuer. The proposed Rules specifically rule out the segregation of the cover pool from the bankruptcy estate of the defaulting issuer and it states that it would depend on the existing legal regime. Unlike, similar Consultation document on Covered bonds, one such, issued by Reserve Bank of New Zealand, wherein the regulators propose “carve-out” of registered issues of covered bonds from specific parts of the statutory management and liquidation regimes which are in our view, would explicitly protect the covered bondholders rather having to rely or fall back on existing common laws.

[Reported by: Sikha Bansal; Abhijit Nagee]

News on Covered Bonds: Covered Bonds Rules in Canada

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Covered Bonds Rules in Canada

 

30th April, 2012: Covered Bonds rules have been introduced in the Budget Bill, 2012 in Canada. Under the Covered Bonds rules, banks will be prohibited from using insured mortgages to back covered bonds. According to the Finance Minister the move will strengthen the housing market, which has seen housing prices in some of the Canadian cities rally in the recent times.

The move will result in increase in the borrowing costs and mortgage rates and curbing the housing market. While in hunky dory times uninsured mortgages may be lesser default category than those insured, in case of stressed market scenario, these assets would have a high default risk. Further, in absence of secondary market, liquidity for these uninsured mortgages would be a high risk. Over collateralization levels in case of uninsured mortgage cover pools is higher than those of insured mortgages. However, the legislation provides a cap of 10% on over collateralization, also capping the covered bonds ratings that issuers might target.

The legislation requires government to set up a registry for financial institutions to register themselves as issuers of Covered Bonds.

Mortgage insurance had become a huge burden for the taxpayers as government was providing 100% guarantee on Canada Mortgage and Housing Corporation (CMHC) insured mortgages and 90% guarantee on privately insured loans; these have also been the prime reasons for banks adopting lax underwriting standards while giving out housing loans. Absence of government guarantees will ensure that the banks assess the risks properly before providing home loans regulate the housing market.

Recently, Monetary Authority of Singapore had also proposed covered bond rules. (See our news here)

[Reported by: Nidhi Bothra]

News on Covered Bonds: Covered Bonds-Alternative Funding Tool in the Turkish Housing Market

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Covered Bonds-Alternative Funding Tool in the Turkish Housing Market

 

11th June, 2012: According to a recent report by S&P, Covered Bonds can play a major role in funding the housing market boom in Turkey. Despite having a law dealing with covered bonds, the covered bonds market in Turkey is completely untapped and till date the only covered bond issuances that have taken place have been backed by SME loans. The first and the only RMBS transaction till date was by Turkey�s Sekerbank � a mid-sized lender that focused on SME business and had come up with Turkey�s first covered bonds issuance last year sometime in July. (See our news segment on this transaction here)     

With a GDP growth of over 8% in 2011, the demand for housing in Turkey has exceeded the supply and the homeownership rates in Turkey are higher than in any other European countries. In such a scenario Turkish banks would have to find ways to fund the housing demand and there is quite a possibility that banks with growing mortgage portfolios would favour more long-term funding options such as with covered bonds.

In a recent TV segment, Standard & Poor�s Director Sabrina Miehs discussed the trends in Turkish covered bonds market stating that if S & P were to rate covered bonds in Turkey, it would probably use its covered bond rating criteria as the starting point and would give a maximum uplift of 5 notches above the issuer�s rating as the number of refinancing options available to the portfolio manager in a typical transaction would be quiet broad and the systematic importance would not be that high as the country is very new in these types of issuances. She also stated that the main features that would be considered for rating covered bonds in Turkey would be the – timely payment of interest and payment, asset liability mismatch risk, liquidity risk, credit risk, cash flows, market risk, counter party risk and country risk which is an important feature in case of turkey.  With the growth in the housing market, the covered bonds markets is likely to emerge sooner as the funding cost would be lower than those for traditional funding and moreover the presence of a covered bond legislation provides a solid structure for the issuance of covered bond in Turkey.

[Reported by Abhijit Nagee]