German Landesbanks shifted into a new gear last week as the much-anticipated loss of state guarantees came into effect at the beginning of last week. As of last Tuesday, Landesbanks can no longer issue debt guaranteed by their respective states.

Landesbanks, wholesale banking institutions governed by public law, generally belong to one or more of Germany's 16 federal states. States have historically guaranteed their respective institutions, leading to very high ratings for Landesbanks. The loss of the state guarantee means that Landesbanks will face sharply steeper refinancing costs, but existing bonds are grandfathered, locking in the guarantee until maturity for all the banks' existing senior and tier II paper. "As such the ratings drivers will not be the financial health of the issuing institution, but rather that of the ultimate guarantor states, as well as the likelihood of timely support if needed," explained Ian Centis at Commerzbank.

Standard & Poor's has affirmed all existing ratings on outstanding guaranteed debt obligations based on the grandfathering of state guarantees until maturity but analysts did not rule out the possibility of future credit deterioration of these bonds.

Since the announcement of the abolition of state guarantees in July 2001, S&P has assigned negative outlooks on grandfathered obligations maturing after last Monday. Analysts at the rating agency explained that the terms of the grandfathering does meet the rating agency's requirements for a timely guarantee, which exposes timeliness of payment to an ongoing commitment of the guarantors not to exploit the wording of the laws. S&P said that it would continue to monitor the guarantors' ability and willingness to honor these obligations under the agreement.

Fitch Ratings has only affirmed Bayern LB's public sector pfandbriefe rating at AAA'. Analysts at the rating agency said they had not finalized their review of the sector, adding that the process has been delayed because Fitch only recently received confirmation that the un-guaranteed Landesbank will be allowed to refinance through the pfandbriefe market.

The significantly lower un-guaranteed ratings means Landesbanks will not be able to fund unsecured debt at the levels they were used to in the past, said Claudia Vortmuller at Commerzbank. But July's introduction of the refinancing register in Germany (see ASR 7/18/05) enables Landesbanks to issue pfandbriefe backed by mortgage assets that remain on the balance sheet of a savings bank. If mortgage loans are sold to a Landesbank in the future, no costly amendment in the land charge register is needed. Vortmuller added that six out 11 Landesbanks intend to issue pfandbriefe backed by pooled fiduciary administered mortgages.

Issuing this mortgage pfandbriefe could help the banks fend off rising refinancing costs. The ties between owner savings banks and Landesbanks have strengthened over the years with the aim of establishing stronger regional banking groups. These saving banks have quite a few of the residential mortgages that the corresponding Landesbanks can use to issue pfandbriefe against," said Vortmuller. "It's estimated that savings banks have a market share of 25% to 30% of all residential mortgages in Germany. The majority of these mortgages are expected to be purchased, entered into the refinancing register and used against the issuance of future pfandbriefe."

At the moment most Landesbank Pfandbriefe issues are rated triple-A and Vortmuller does not foresee any deterioration in future asset quality. Analysts at Moody's Investors Service indicated that Landesbanks will be able to maintain their Aaa' Pfandbrief ratings if the senior unsecured rating of the respective Landesbank is at or above Aa3'. At the moment this applies to BayernLB (Aa2'), LBBW (Aa1'), LRP (Aa2'), DekaBank (Aa2'), Helaba (Aa2'), NordLB (Aa3') and Landesbank Saar (Aa2').

The remaining Landesbanks may achieve a Aaa' rating for their Pfandbrief if Moody's views the quality of the assets in the cover pool to be satisfactory. If it is not sufficient, the issuers can achieve a Aaa' rating for its Pfandbrief if the overcollateralization level is sufficient. Vortmuller said that this applies to Bremer Landesbank (A1'), Landesbank Berlin (A1'), HSH Nordbank (A1'), Landesbank Sachsen(A1') und WestLB (A1')."

However the refinancing aspect is a bit of a non-issue for the immediate future of Landesbanks, as they have long since prepared for this day and consequently had stockpiled a significant stock of guaranteed senior debt. "Some market participants expect this to be sufficient to take the Landesbanks over the next three-to-five years," said Vortmuller. "We believe that the cushion is not that big and we expect Landesbanks to enter the market as un-guaranteed issuers after one and a half years."

(c) 2005 Asset Securitization Report and SourceMedia, Inc. All Rights Reserved.

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