Despite Australian issuers mimicking structures in the UK and elsewhere, analysts have identified idiosyncrasies in their programmes with regard to LTV valuations and demand loans, for example. However, they said that these appear to have been mitigated and expect Australian covered bonds to be well received amid the global turmoil.

CBA has joined ANZ and NAB in hitting triple-A for its programme, after its peers were awarded top ratings from Fitch and Moody’s earlier this week.

Covered bond analysts likened the structures of three Australian programmes announced so far to those seen in the UK.

“It seems like a standard guarantee structure,” said Bernd Volk, head of covered bond research at Deutsche Bank, “similar to what the UK, the Netherlands and Italy are using, adjusted for national specifics.”

Jörg Homey, head of covered bond research at DZ Bank, agreed.

“According to NAB, the Australian banks try to have very similar programmes,” he added. “So, from a structural point of view, I would not expect to find many features that would stand out with one Australian issuer.”

Analysts said Australian covered bonds are likely to be well received mainly because of events in the sovereign market, as opposed to their structure.

“At the moment the sovereign market sentiment is probably the main influencing factor,” said Christian Enger, senior credit analyst at LBBW. “If you have a strong currency compared to the euro – which we know Australia does – then investors will buy up the product.”

José Sarafana, head of covered bond strategy at Société Générale, noted that Australian assets have been largely unaffected by the sovereign turmoil, highlighting that non-euro country CDS trade richer or in line with German CDS (see chart).

Sovereign CDS (Source: SG Cross Asset Research)

Volk at Deutsche Bank said most potential investors are not focussing on the structure.

“They are looking at the macro picture,” he said. “And even if they were focussing on the structure of NAB for example, they would find nothing really surprising.”

Homey at DZ Bank nevertheless highlighted elements of the programmes that warranted scrutiny.

“If I were an investor, I would be looking at how the asset coverage tests (ACTs) differ from issuer to issuer,” he said. “Also, I would like to know if LTVs of loans in the cover pool are based on indexed valuation of the property.”

According to Moody’s, out of ANZ, NAB and CBA, only CBA has yet incorporated such ongoing revaluation of LTVs. However, José de Leon, senior vice president at Moody’s, said that even if this could be a concern to some investors, the rating agency would anyway factor potential house price falls into its collateral score and hence the amount of overcollateralisation it requires for a given rating level.

De Leon said that while the powers that the Australian Prudential Regulation Authority might have were much debated when Australia’s framework was being drawn up, the regulator’s powers are not ultimately a cause for concern. Moody’s highlighted this in its ANZ pre-sale report.

“The Covered Bond act precludes APRA from having any direction making power over the assets held by the CB Guarantor for the benefits of the Covered Bondholders and service providers,” said the rating agency. “If the Issuer becomes insolvent, any statutory manager or external administrator has no powers over the assets held by the CB Guarantor for the benefit of the Covered Bondholders and service providers.

“This provision mitigates any potential conflict of interest amongst the unsecured creditors and Covered Bondholders and aims at ensuring the continuity of payments under the Covered Bonds following Issuer Event of Default. This also mitigates against claw-back risk as assets transferred to the Cover Pool are deemed to belong to the CB Guarantor, unless otherwise specified.”

De Leon said that while there is the possibility under Australia’s legislation that APRA could prevent an issuer in financial difficulty from adding assets to the cover pool, any potential erosion of overcollateralisation would be very limited given the short timescale involved.

Claire Heaton, director, covered bonds, at Fitch highlighted the way in which demand loans are used in the Australian programmes as unique.

“The main difference of the Australian programmes – and for New Zealand’s, too – is the use of the demand loan in the structure to manage overcollateralisation,” she said. “This feature has only previously been seen in Canadian programmes – and is not found in any European programmes.”

Covered bond issuers often add collateral above and beyond that required under programme documentation to give themselves flexibility to manage programmes – for example, if they are preparing a new issue. Demand loans typically give issuers the right to demand repayment of this excess collateral in certain circumstances.

In Australian structures so far, issuers have a higher ranking claim than covered bondholders against collateral that has been added to the cover pool above the amount necessary to meet asset coverage tests – although a junior claim exists against the portion necessary to meet the ACT, its repayment ranks below that of covered bondholders.

“Fitch believes such feature reduces the overall liquidity of the covered bond programme should such payments be made in cash,” said the rating agency in its pre-sale report on ANZ’s programme. In the agency’s view the availability of liquid assets for repayment to covered bond holders is greatly reduced depending of the size of the senior demand loan at the time of insolvency.

“Conversely where mortgage assets are required to be sold to repay the senior demand loan, this may negatively impact the market value of mortgage assets should the CBG [covered bond guarantor] also be required to sell mortgage assets in order to repay a covered bond in full. To mitigate these risks the senior demand loan will be repaid through an in-specie distribution of mortgage assets to the demand loan subscriber (ANZ).”