Belgium likely to have Covered Bond legislation by the end of 2012

14th July, 2012: Draft Covered Bonds legislation that was introduced by the National Bank of Belgium ("NBB") in 2011 is most likely to be approved by the Belgian Parliament in October, 2012, making another European Country with a dedicated legislative framework for issuance of Covered Bonds.

 The draft law is based on the German Pfandbrief model with the only difference that it is more elaborate as far as deal structures are concerned as it incorporates additional structural features having a European legislative approach to documentation.

The new regulatory framework, once approved, would be extremely beneficial for the relatively inactive Belgium Banks providing them with an alternate and cost-effective funding source thus helping Belgium to be at par with the rest of Western Europe.

Signs of market revival can already be seen as two famous Belgian banks Dexia Banque Belgium, the 100% state-owned Bank and KBC are ready to issue [1] covered bonds benchmarks backed by strongly performing prime residential Belgian mortgage in January right after the regulatory framework is in place.

Key features of the upcoming legislation:

• Issuer Structure: Only Universal Credit Institutions with special license obtained from NBB would qualify as eligible issuers who would own the cover pool. The bondholders would have direct recourse to the credit institution this make the legislation very even more significant.

• Framework: The bonds would be governed by special covered bond legislation and a specific legal framework superseding the general insolvency laws which would provide cushioning against the bankruptcy of the issuer of covered bonds.

• Cover Assets: The cover pool can be composed of assets forming part of the following categories:

• Mortgage loans;

• Group Originated Senior mortgage securities

• Exposures to credit Institutions

• Exposures to Public Sector entities and/or senior public sector ABS

For details on eligibility criteria of each type of asset class click here

• Valuation of the mortgage cover pool and LTV criteria: Loan to Value (�LTV�) would be calculated on the market value of the bonds. The LTV limits used for calculating collateralisation rates for the cover pool would be 80% for residential mortgages and 60% for commercial mortgages. Further there is no additional LTV limit on a portfolio basis and the bond holders would get the benefit of that portion of the loan that exceeds the LTV cap.

• Asset-Liability Guidelines: The draft legislation states that the issuer would need to manage its interest and currency risk exposure for each covered bond program and would also need to comply with the liquidity test. The draft legislation also provides for a number of asset cover tests with coverage calculations on a monthly basis. It mandates the value of the cover assets to exceed the minimum overcollateralization levels of 5% at all times. The draft does not make any mention about the stress test scenarios and their frequency but states the grace period of 14 days in case of a breach of liquidity risk mitigants. Maintenance of coverage tests would be the responsibility of the Supervisory authority and/or Trustee/Cover pool monitor.

• Cover Pool monitor & Banking Supervision: The cover pool monitor would be an entity independent from the issuer and covered bond issuers would require a special license of additional requirements compared to general banking supervision regulations. The cover pool monitor would perform reporting obligations and ensure compliance with legal and regulatory requirements.

The Belgium Covered Bond regulatory framework, once approved in the Parliament would provide the Belgian Credit Institutions an important funding instrument. The framework seems very robust and market revival is expected sooner, but there might be deviations in the final framework from the draft as it stands today.

[Reported by Abhijit Nagee]

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[1] As reported in Euroweek : http://www.euroweek.com/Article/3046988/Channel/2007/First-Belgian-covered-bonds-due-in-January-as-domestic-law-nears.html?eventcookielogin=Login&cookielogin=1

New Zealand and South Korea puts up Covered Bond legislation

27th July, 2012: More and more countries outside Europe are vying to have a dedicated legal framework for covered bond issuances. It seems the world is all game for covered bonds legislation and intermittently we hear non-European nations putting up covered bond laws in place specifically post the sub-prime crisis. The recent proposal of Singapore – Consultation Paper on Covered Bond Issuance by Banks in Singapore for issue of covered bond is an example.

This time it is New Zealand and South Korea. New Zealand had regulatory guidelines on covered bonds already. The Reserve Bank of New Zealand ("RBNZ") took a step ahead and released a draft of the new legislative framework to govern covered bonds with the Reserve Bank of New Zealand (Covered Bonds) Amendment Bill ("the Bill"). Whereas for South Korea, the draft legislation is all set to release by the end of July, 2012.

Covered Bonds Legislation In New Zealand – Currently covered bond issuances in New Zealand are solely governed by contract and banks in New Zealand have been issuing Covered Bonds under contractual agreement for the past 2 years. A designated legislative framework would improve the nation's access to the Covered Bonds market and would also help bag positive credit rating which in turn would lower the cost of issuance for the banks. Legislation would also facilitate investor confidence in these instruments through greater certainty and would contribute to financial system stability.

The Bill amends the Reserve Bank of New Zealand Act, 1989 with a view to provide legal framework to the covered bonds issuances by banks in New Zealand; it also makes provisions for the framework to be extended to other entities, such as non-bank deposit takers in future.

The Bill aims at providing legal certainty as to the treatment of cover pool assets and specifically requires that the cover pool assets are beneficially owned by an Special Purpose Vehicle ("SPV"), which is a separate legal entity so that the assets of the cover pool be segregated from the assets of the issuer by way of true sale of those assets to the SPV. This would mean that the SPVs cannot be included in the statutory management of the bank as an associated person and hence ensure that cover pool assets will not be available to meet the claims of creditors other than covered bond-holders, should the issuing bank become insolvent.

Key aspects and requirements placed in the Bill:

• Mandatory registration of the covered bond programme prior to issuance after ensuring that the covered bonds issues comply with the registration requirements on a continuous basis to ensure  transparency and offer greater clarity for investors and depositors;

• To ensure that the covered bond programme specifies a test(s) to determine whether the value of the cover pool assets is at least equal to the principal amount outstanding on the covered bonds

• Appoint an asset pool monitor who is independent of the issuer to verify the accuracy of the test as stated above and also to verify the register of assets.

• covered bond programmes are to be registered subject to class designation based on the assets in the relevant cover pool.  

The Bill has been referred to the Finance and Expenditure Committee for consideration and is expected to come into effect sometime in November 2012.  Once enacted, the legislation will facilitate New Zealand registered banks to have access to the covered bond market as a source of long-term relatively stable finance and would also probe investor confidence and greater transparency.

The Reserve Bank of New Zealand has produced a regulatory impact statement in relation to this Bill. A copy of that regulatory impact statement, dated 28 March 2012, can be found at –

• http://www.treasury.govt.nz/publications/informationreleases/ris 

•  http://www.rbnz.govt.nz/finstab/banking/4744735.pdf

Following the league, the South Korean Financial Services Commission ("FSC") also has plans to release the draft covered bond legislation by July end pending final submission to the Parliament in November 2012. Thus the local Korean covered bonds issuance under the designated legislative framework is likely before the end of this year. This signifies that the covered bond market is all set for a boom with a number of countries making simultaneous issuances under the legislative framework. The discussion revolving covered bonds legislation in Korea has much deeper roots than Singapore and there have also been previous covered bond issuances in the Korean market. The FSC and Financial Supervisory Service ("FSS") published guidelines governing covered bond issuance in June 2011 as part of comprehensive measures to address the level of household debt. Korean Banks will be keen to issue covered bonds once the legislation is passed.

For more news on Covered Bonds see our Covered Bonds News page here.

[Reported by Abhijit Nagee]

Latin America comes debuts with Covered Bonds Issuance

5th October, 2012: The covered bond market is expanding fast outside its traditional playground – Europe. Panama's Global Bank becomes the first in Latin America to offer USD denominated covered bond. These bonds are the lowest rated covered bonds (Standard & Poors assigned it a "BBB-"^[1]) to be sold in the history of U.S markets wherein the cover pool assets are backed by residential mortgages secured by low and middle-income Panamamian citizens. In this deal, the Global Bank corporation is the issuer and the guaranteeing trustee is the HSBC Investment Corporation, a subsidiary of the HSBC Bank (Panama) S.A.

The transaction involves the usual structured covered bond structure, as opposed to legislative covered bond structure, where loans which are to be transferred to a, SPV which in turn guarantees repayment of the bonds.

An effort to sell these bonds were initially made by the issuer sometime in May, 2012 but it did not succeed due to the lower rating of the bonds and may be also due to lack of legislation for covered bonds in Panama. The structure of the program was established mainly under the Panamanian Law and the English Law such that the obligations of the issuer were to be direct and unconditional. The issue size of the transaction was US$200 millions out of its $500 million residential mortgage loans covered bond programme. The default terms were such that in case of failure to redeem the bonds in time the maturity period of the bonds would increase by 12 months automatically and the issuer would be allowed to make further issues in the market with the proper approval of a credit rating agency.

However, the program failed to draw attention of the investors resulting in its failure and then it had to be postponed.

Global Bank recently made another attempt to come out with the same scheme in October this year with certain modifications to the portfolio of mortgage loans backing the issue for the programme to be acceptable in the market. The principal balance of the mortgage portfolio was increased to $241 million from $212 million; the number of loans in the pool were also increased to 3,928 from 3,601. After initial difficulties, it could successfully launch the program in the US market and grab investors. The coupon rate was fixed at 4.75%.  

[Reported by: Piyush Sinha]

^[1] For further details, the rating report of Standard & Poors can be viewed here

Covered Bonds to increase Banks risk-Norway Financial Regulators argue

3rd November, 2012

While the world is going gung-ho on promoting Covered Bonds as an alternative to securitisation and regulators are making necessary regulatory amendments to accommodate/ promote covered bonds; Norway's financial regulators have presented the flip side of the coin by proposing to curb covered bond financing arguing that increase in such funds fuels balance sheet risks.

The Financial Supervisory Authority of Norway in the Summary of the report Financial Trends 2012[1] and in its press release on the financial industry outlook[2] stated that after the substantial growth of the instrument, need for putting limits to covered bonds financing was felt. It is felt that extensive use of covered bonds can increase the vulnerability of financing structure of banks. The several reasons posed by the financial regulators are as below:

a.Mortgage loans are used to secure covered bonds, less quality assets remain with banks for availing other types of financing – hence banks' unsecured creditors may perceive an increased credit risk and banks may find it difficult to obtain unsecured funding. With increasing usage of covered bonds banks will experience problems in obtaining funding other than by way of covered bonds which in turn will reduce banks ability to finance loans;

b.The risk associated with investments in covered bonds is lower than the risk associated with investments in bank bonds. Hence, low funding costs of covered bonds are drawing away funding from other areas;

c.The fact that home loans can be funded at significantly lower interest rates through covered bonds than is the case with loans to business and industry may, detrimentally, draw bank lending away from businesses towards households;

d.Relatively favourable funding of home loans has spurred growth in mortgage lending and intensified price pressures in the housing market in various countries.

The financial crisis had exposed the need for robust alternate modes of funding, which was answered by Covered Bonds providing banks with better access to funds in turbulent markets. The Covered Bond market in Norway has seen rapid growth and the instrument makes up 20% of the banks' funding. Covered Bonds have helped banks mitigate liquidity risk and have helped banks through financial crisis but like they say excess of everything may be bad is the message from the financial authority.