IFR Covered Bonds Report 2013
Central banks have been a boon for the global capital markets, stepping in to provide extraordinary liquidity that has buoyed assets across the board. After years of treading water, equities have rallied. And bond issuance has turned into a bun fight, with investors scrambling over each other to pick up even the slimmest yields – a state of affairs that has suited cost-conscious issuers just fine indeed.
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To say covered bonds issuance has suffered as a result of all this is an understatement. In two consecutive 12-month periods to June 1, covered issuance dropped by 40%.
For many institutions, the need to fund through covered bonds simply wasn’t there. For issuers in peripheral European countries, in particular, the maths has been pretty simple: take ECB money at 0.5% – or issue a covered bond paying as much as six times that.
But a product that has survived for 200 years clearly has enough staying power to withstand changing tastes and cyclical markets. In many ways, the covered bond is the very antidote to all that – a dull corner of the funding space that, in two centuries, has not failed a single investor.
So European institutions – particularly those in the periphery – would be wise to take advantage of the covered market being open.
Issuers in Denmark have certainly been doing that, despite an acute downturn in the housing market, compounded by persistent regulatory debates, that has brought about a little unwelcome excitement.
The Danes have successfully lobbied to have Danish covered bonds – which outnumber government debt by four to one – classified as liquid assets by the Basel Committee. Unsurprisingly, this has intensified the lobbying by others, particularly the VDP for Pfandbriefe, to secure the same gold standard.
While regulatory factors may help there, the reality is that covered bonds are consistently under threat in every nation – especially as national bodies increasingly seek to bail-in bondholders. Covered bonds are repeatedly recognised as existing outside the system for bail-ins, but following the kicking given to haircuts on bank deposits in Cyprus, covered bond holders know now is not the time to rest on their laurels.
The quest for growth has led to the move from concept to test case for SME-backed bonds, whose progress has been slow.
But as yields rise, the pricing of covereds will become increasingly compelling. True, it will take time to secure recognition for the product, with many covered bond market participants nervous about the dilution of the term. And it is unlikely to be enshrined in law any time soon (outside of Turkey, which has shown how transformational that can be). But SME-backed bonds are a clear opportunity for growth.
Similarly, it may only be a long hop from mainland Spain to Morocco, but a new market in that country is a growth opportunity. Africa may not hold great promise for covered bonds after South Africa ruled out the product years ago. But success in Morocco may change minds.