CRD IV proposals released last Wednesday are credit positive for Danish financial institutions, according to Moody’s, because they do not mention restrictions on the use of covered bonds in liquidity buffers, raising the prospect of Basel III rules being favourably tailored to unique aspects of EU markets.

The rating agency yesterday (Monday) noted that the European Commission’s proposals, unlike Basel III rules set out in December, do not restrict banks’ ability to hold covered bonds as part of liquidity coverage ratio (LCR) requirements. Instead, the proposal for transposing Basel III into EU law listed a set of criteria to be used by the European Banking Authority (EBA) to determine how assets should be considered in the LCR.

“The proposal is credit positive for Danish financial institutions, which hold large portfolios of covered bonds, because it eases the fulfillment of liquidity requirements in a country where other top-tier assets such as sovereign bonds are not plentiful,” said the rating agency. “At the same time, covered bonds ensure that liquidity buffers consist of high quality assets.”

Moody’s said that it is possible that for countries such as Denmark the EBA will determine that covered bonds should be considered eligible for a top category of liquid assets for the purposes of fulfilling the LCR.

Some traditional covered bonds with matching asset and liability maturities would fulfil at least some of the criteria that the EBA will take into consideration in determining whether there should be any restrictions on covered bonds’ use in liquidity buffers, said Moody’s.

“The extent to which covered bonds can be used as a liquidity buffer is especially relevant for Danish financial institutions because in Denmark, unlike in other countries, the mortgage debt market far exceeds the government debt market,” it noted.