The Canadian Department of Finance launched a covered bond consultation paper yesterday (Wednesday), delivering on the government’s announcement last year that it was committed to creating a legislative framework for issuance.

The consultation comes after the government committed to introducing legislation in its March 2010 budget. Canada’s Conservative government was re-elected earlier in a general election earlier this month.

Minister of Finance Jim Flaherty

“A legislative framework for covered bonds will benefit Canadians,” said the Department of Finance. “The legislation will create a more robust product that will retain investor confidence in periods of market instability by providing legal certainty and setting minimum standards for covered bonds.

“It will also help financial institutions diversify their sources of funding by increasing investor interest in Canadian covered bonds.”

The volume of Canadian covered bonds outstanding doubled last year, according to the Department of Finance.

“In a relatively short period of time, covered bonds have become a significant funding source for Canadian banks,” it said. “Since the first covered bond issuance by a Canadian financial institution in 2007, total issuances have increased to over C$30bn ($31bn or Eu22bn) and the pace of issuances is increasing.”

Almost all of the growth in the Canadian market has come from the country’s banks selling US dollar denominated covered bonds, mainly to US investors. This year National Bank of Canada and Caisse Centrale Desjardins de Quebec launched their first covered bonds.

The Department of Finance noted that the amount of covered bonds outstanding compares with C$170bn ($178bn or Eu124bn) off the Canada Mortgage & Housing Corporation’s Canada Mortgage Bond programme. With the exception of Royal Bank of Canada, Canadian issuers have restricted their cover pool to mortgages insured by CMHC.

The consultation paper deals with a range of issues including asset segregation, eligible assets, and overcollateralisation, for example. The Department of Finance said that it is specifically seeking feedback on three general questions:

• What are the key aspects the legislative framework should cover? Does the proposed framework strike the appropriate balance between the interests of covered bondholders and other creditors of banks, both secured and unsecured?

• How prescriptive should the legislative framework be? What features of covered bonds should be standardized by the framework to create a robust, deep and liquid market?

• What are the necessary characteristics of the covered bonds registrar and what entity should perform this role?

The consultation ends on 10 June.