Moody’s relies far less on double-checking of loan-by-loan data for covered bonds than for residential mortgage backed securities, the rating agency highlighted in a report yesterday (Tuesday), given the on-balance sheet nature of covered bonds and the lower importance of collateral analysis as a factor when rating them.

The report, “Identifying key aspects of pool AUP reports in EMEA structured finance and covered bond transactions”, discussed how the rating agency ensures the integrity of data through reports provided by originators and arrangers.

“Third parties usually conduct these data checks on a sample of the underlying asset pool and in compliance with agreed-upon procedures (AUP),” said Moody’s.

The AUP reports assess the integrity of loan-by-loan data provided by originators.

The rating agency said that as loan-by-loan data is the basis for its analysis of the credit quality of portfolios underlying RMBS, “the accuracy and veracity of the information relating to the main risk drivers is vital”. It therefore expects independent third parties to have assessed factual information provided by issuers and their agents that is key to determining ratings.

But Moody’s said that it does not routinely receive pool AUP reports for covered bond transactions. It cited two reasons for this; firstly, the on-balance sheet nature of covered bonds.

“In covered bond transactions, the loans that secure the covered bonds are normally originated by the issuer group and remain on the issuer’s balance sheet,” said the rating agency. “The expectation is that issuers, as regulated and supervised financial institutions, will maintain high standards of quality control over all their loan operations, regardless of whether the loans are in the cover pool or not.”

The second reason relates to the importance of factors aside from collateral quality in Moody’s covered bond rating methodology.

“The amount of losses we model for covered bond transactions are only partly (currently about one-third) derived from the collateral analysis,” said the rating agency. “The remainder are due to market risks that arise due to refinancing risk and interest rate and currency mismatches.”

Moody’s said that it would not expect a pool AUP report to have a “material” impact on its analysis of the majority of covered bond transactions. However, it said that it may consider AUP reports in certain cases and if the issuer is lowly rated or unregulated.