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Saturday, 16 December 2017

In bloom

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  • Covered bond swap spread development (in bp)

On the first anniversary of the conclusion of the ECB purchase programme, the covered bond market is now standing on its owntwofeet and is flourishing. Spreads have tightened, issue sizes have increased and the market is enjoying record supply. But howmuchcredit goes to the programme itself, asks Aimee Donnellan.

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A year has gone by since the ECB bought its final covered bond through its €60bn covered bond purchase programme. Year to date in 2011, total issuance volume now stands at €130bn – an impressive total. So how important has the ECB’s programme been in delivering this result?

The very fact the ECB launched a covered bond programme in 2009 was a glowing endorsement of the market, explicitly singling it out as especially significant to the health of the wider European economy. Its original objectives were straightforward: it wanted to reduce rates; ease funding conditions for banks; encourage banks to increase their lending to clients; and improve market liquidity.

Over the 12 month period a total of 422 different bonds have been purchased, 27% in the primary market and 73% in the secondary. The focus has mainly been on bonds with three to seven year maturities.

Average daily purchases under the programme totaled €240m. There were 148 new CBPP eligible covered bonds issued and 48 tap issuances. According to the ECB the total amount of these issues reached around €150bn.

In its review of the programme in January of this year the ECB stated: “The programme stimulated a notable reactivation of covered bonds being issued in the primary market. In particular it led to a noticeable broadening of the spectrum of euro area credit institutions that turned to the covered bond product as a funding instrument.”

Glowing endorsement

Having benefited from the recovery of covered bond market, DCM bankers have been largely positive in their review of the programme. Many issuers have regularly accessed the public market, while investors have responded to the endorsement of the ECB.

“The most significant element of the ECB programme was to endorse the product and to reassure the market just how important it is. It triggered a significant amount of supply,” said Christoph Anhamm, head of covered bond origination at RBS.

“It acknowledged the significance of covered bonds and why the health of this market is systemically important to Europe’s banking system. It was effective in lowering funding costs and helping some of the smaller issuers to fund,” added Jez Walsh, head of covered bond syndicate at RBS.

“The programme has had a positive psychological impact on the market. The ECB said until you have a true healing of the covered bond market we will not see real economic growth. That’s a positive statement,” said Ted Lord, head of covered bonds at Barclays Capital.

The promise of €60bn couldn’t have come at a better time. When the ECB decided to single out the covered bond market as an important source for banks raising funds, the market was in bad shape. At that time, in early 2009, core countries like France and Germany were tapping existing deals and occasionally braving the market, but little else was happening. Unsurprisingly, there were concerns the programme might not be enough to revitalise the lacklustre market, following months of reduced primary market issuance.

But the results were almost immediate. In the week following the ECB announcement there was around €7bn of new supply – more than the market had seen in the previous five weeks of trading. The level of supply then balanced out and continued until the end of 2010, setting the scene for the first week of January when €18bn was sold in a record week of issuance.

The revival of the market was underscored by the return of Spanish banks. They had been shut out of the wholesale financing markets since May, but in the first four days of September they issued US$4bn of paper, of which US$2.5bn was in covered bonds. Spanish commercial bank Banco Sabadell issued a two-year €1.000bn Cedulas Hipotecarias at mid-swaps plus 210bp, while La Caixa issued €1bn of three-year covered bonds. In the non-benchmark space, Spanish commercial bank Banco Popular issued a €700m three-year Cedulas Hipotecarias at mid-swaps plus 215bp, while Italian Banca Carige issued a €500m deal at mid-swaps plus 105bp on September 1.

A common criticism is that core countries received more support than the troubled peripheral issuers. “We haven’t seen any supply from Greece, Ireland or Portugal this year. One could argue that the ECB covered bond purchasing programme failed to offer much help to these countries,” said Anhamm.

Helping the big boys

The Deutsche Bundesbank is a case in point. The bank received 25% of the money paid out by the programme, despite the ECB acknowledging in January of this year that the German market had already started recovering when the programme commenced. Banque de France received 18.7%, Banca d’Italia 16.5% and Banco de Espana (10.5%). The ECB itself also received 8%. “Due to the tightening of spreads and performance of a lot of these bonds the ECB has done very well out of this,” said Lord.

However, this criticism is not universally acknowledged. Some have argued the programme was vital in allowing second and third tier issuers to access the market. “Up until the purchase programme was introduced, peripheral issuers were effectively shut out of the market,” said Walsh. “This year we have seen record issuance which is in part a result of the ECB’s backing.”

Others have attacked the way in which the programme was rolled out. The ECB ensured the €60bn was spread out over the course of the year, with perhaps insufficient sensitivity to the changing conditions of the market it was designed to assist. “There were times when the market needed more help than others,” said Lord, who cited this as his only significant criticism of the programme.

The ECB refutes such criticisms by pointing out that Greece has opened up as a covered bond jurisdiction, having seen the first publically placed covered bond since the announcement of the CBPP. Markets such as Italy have seen a significant increase in issuers and outstanding amounts. The programme also had a dampening effect on euro area covered bond yields of around 12bp, the ECB said. However it does assert that in countries affected by the sovereign crisis, “the declines have been offset by the recent upward pressures on yields.”

Last year’s covered bond market was marked by an increase in issuing windows that tended to close and see periods where there was little or no issuance. By the time the programme had come to a close Italian banks were gearing up to sell their first covered bonds. Since the beginning of January Italian issuers have come to the market in droves with €11.05bn sold already from 11 issuers. That means Italian institutions have already surpassed the total OBG issuance from last year, which was just shy of €8bn.

Perhaps the programme’s biggest legacy was attracting a lot of other central banks from around the world to the European covered bond market. “It was basically a nice signal from a fellow club member that this is the market is ok. This encouraged a lot of the global reserve managers getting involved which added to investor demand adding strength to the market,” said Lord.

Twelve months after the conclusion of the ECB purchase programme, it is plain to see the effects on the market. Covered bonds have become an even more important funding tool for banks that have been struggling since the financial crisis. The covered bond market is now the only fixed income market that has grown since the onset of the crisis. “It created a strong foundation of getting the market going again,” said Lord.

“There is now more room available than there was before in the market. The programme cleared up certain books and in many cases we are starting to see issuing levels even return towards pre-crisis levels normal,” said Anhamm.  

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