The covered bond market took a huge leap forward in projected volume last week, when two new issuers tapped the capital markets for about 5.4 billion ($7.9 billion in financing for residential mortgage portfolios.
Last week, Bank of Montreal (BMO) expected to price a 3.9 billion deal, secured by prime residential Canadian mortgages. When the deal prices, BMO will become the second Canadian bank to complete a covered bond deal. Last October, Royal Bank of Canada became the first, with a C$15 billion ($22 billion).
BMO Capital Markets is acting as bookrunner on the transaction, and the investment bank enlisted HSBC, Morgan Stanley, Societe Generale Corporate & Investment Banking and UniCredit Group as bookrunners on the deal. Initial guidance on the notes, which mature in five years, was expected to be at mid-swaps plus 24 basis points, according to people familiar with the transaction.
Similar to the RBC deal, BMO's transaction was established under a combination of Canadian and English securities law, and strongly resembles covered bond programs established in the U.K., although it does not rely on specific covered bond legislation. That is another aspect that it has in common with existing covered bond deals in the U.K. and the U.S., according to Moody's Investors Service, which gave the bonds triple-A ratings.
Canadian banks are newcomers to the covered bond market, but even in Europe, where the product has a strong presence and legislation exists to enable transactions, issuers continue to use the product to tweak their funding plans.
Deutsche Postbank has been making residential mortgages since the turn of the millennium at least, and it is one of Germany's largest retail banks. On Jan. 9, it priced its first jumbo mortgage pfandbrief transaction, shortly after receiving government clearance to do so. The bank received its license to issue pfandbrief in mid-December, and announced a 15 billion debt issuance program the next day.
The German Pfandbrief Act, passed in July 2005, abolished the upper limit of total outstanding pfandbrief, which was limited to 60 times the liable capital previously. Now, the pfandbrief market is sized at about 900 billion, according to estimates from market observers.
Deutsche Postbank jumped at the opportunity to put together the 1.5 billion ($2.2 billion) transaction, on which Citigroup Global Markets is acting as arranger. Its five-year notes will offer a nominal interest rate of 4.25%, and the bank plans to do one or two such transactions every year, according to a company statement.
Fitch Ratings, Moody's and Standard & Poor's all gave triple-A ratings to Postbank's current cover pool assets, which secure the covered bond issuance. Pfandbrief restrictions also convey several benefits to bond holders and help account for the top ratings on the notes, according to Jorg Homey, a Moody's analyst.
Mortgage covered bonds must meet strict criteria under the pfandbrief regulations. The mortgages in the Deutsche Postbank pool have a weighted average LTV at 86%, but the severity of losses is mitigated to 60% of LTV, in accordance with the legislation. Government policies also call for properties to be assessed by lending value, and not market value, according to Homey. The cover pool also has a combined collateral score of just under 2%, and the bonds have an over collateralization of 22%.
"The total cover pool backs all the covered bonds," Homey said. "If they issue new bonds, they would also be backed by the pool."
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