Portugal’s Banco BPI has increased overcollateralisation from 24.9% to 66.9% on its public sector covered bonds, allowing them to maintain a BBB rating from Standard & Poor’s, on negative outlook.

S&P viewed this increase in the available credit enhancement in the programme – Banco BPI added Eu112.5m of public sector assets and Eu52m in cash to the cover pool – as sufficient to support a one notch uplift above the issuer’s rating of BBB- and affirmed the programme’s rating yesterday (Tuesday).

S&P’s negative outlook on the covered bond programme is in line with its outlook on Banco BPI and signals that in the event of a downgrade of the issuer, the public sector covered bonds would be automatically downgraded, all other things being equal.

The affirmation of the covered bonds’ BBB rating followed a review of new information from Banco BPI, and the application of S&P’s covered bond criteria and its criteria on non-sovereign ratings that exceed European Monetary Union (EMU) sovereign ratings.

S&P’s non-sovereign ratings criteria stipulate that the maximum uplift from the sovereign rating for a public sector covered bond with a high sensitivity to sovereign risk is one notch. The rating agency said that Banco BPI’s public sector covered bonds “carry considerable exposure to sovereign credit risk”.

Portugal’s sovereign rating is BBB-.

S&P assigns a first notch of uplift above the issuer credit rating if it thinks the programme’s available credit enhancement covers the credit risks related to the default of the cover pool assets – including interest rate risk and foreign exchange risk, but excluding market value risk arising from ongoing asset liability mismatches. The rating agency said Banco BPI’s level of credit enhancement was “commensurate with the first notch of uplift”.

However, S&P said that the issuer’s public sector covered bonds carried considerable exposure to sovereign credit risk, with the bonds being exposed solely to Portuguese public sector entities.

“If the sovereign defaulted,” said S&P, “it is our view that a large amount of the underlying Portuguese local public sector assets would be affected as a result of the high dependence of these assets on the sovereign.”

The rating agency noted that the sovereign downgrade on 29 March and this considerable exposure have contributed to a deterioration of the credit estimates of these assets.

S&P said the default probability had increased to 100% based on its current view on the deterioration of the creditworthiness of the underlying public sector entities. The rating agency said this led to the increase in credit enhancement it considers necessary to cover all asset default risks in the programme.