UK Regulated Covered Bond issuers will have to meet new loan level data reporting requirements on a “comply or explain” basis, according to recently released minutes of a second meeting of the FSA UK Covered Bond Forum, with issuers appearing keen to gain a better understanding of what the approach will entail.

The meeting was held on 14 December, less than a week after the Financial Services Authority (FSA) released a Policy Statement updating the UK’s Regulated Covered Bond framework, which in turn followed an announcement on measures to tighten the regime by HM Treasury at the end of November. Loan level data reporting and a minimum overcollateralisation level were two key changes introduced.

In an overview of changes to the UK Regulated Covered Bond framework, Stephanie Tetu, capital markets team, FSA, said that the introduction of enhanced standards of investor reporting triggered a significant number of comments, and that while generally perceived as positive it also raised concerns about data protection, additional costs, and whether investors would in practice use the information.

Anna Simons, manager, chair of the capital markets team at the FSA, had earlier during the meeting said that the FSA is looking to lead the way on transparency. She described loan level data reporting as “a tall order to implement” and requiring careful management of data protection issues, but said that she expects “this to be the direction of travel for other jurisdictions across Europe”.

Touching on the topic of additional costs linked to loan level data reporting, Tetu noted that issuers will only be requested to provide such data for bonds issued as of 1 January 2013, and that the loan level template will have to be completed on a “comply or explain” basis.

The “comply or explain” principle is not new to UK financial supervisory practice, having, for example, been applied for many years in relation to UK corporate governance guidelines.

This aspect of the covered bond reporting regime later became a focus of some discussion at the December meeting, according to the minutes, with issuer representatives seeking clarification of the “comply or explain” approach, for example about its regulatory consequences.

Simons said that the FSA would want issuers to explain any failure to comply and how they intend to remedy this, and said that if the reasons for non-compliance are insufficient, the FSA would consider other supervisory or enforcement measures.

Tetu had earlier said that the extent to which issuers fail to fill in data fields and any penalty attached to non-compliance will be a matter of “supervisory judgement”, with the FSA appreciating the challenges that could be involved in completing the loan level data template. This could, for example, be because data may not have been captured for loans underwritten decades ago. Issuers were therefore encouraged to approach the FSA as soon as possible to explain how they intend to implement the loan level data requirements and whether they expect any difficulties in providing the information.

An issuer representative noted that issuers are in parallel discussions with the Bank of England about the “comply or explain” approach. Simons said that the FSA engages closely with the central bank and endeavours to align its approach as closely as possible “given both organisations operate within different frameworks”. She said that loan level reporting “won’t always be identical” and that the FSA will monitor developments.

The Bank of England has mandated loan level data disclosure for covered bonds used in its repo operations. The Covered Bond Report understands that UK issuers are in touch with the central bank and the FSA about aligning their requirements to remove what are said to be “slight” mismatches, and that both sides are being helpful in ongoing discussions.

In response to a question from an issuer representative about whether the FSA has room to manoeuvre if the investment community is only interested in specific data fields, Simons said that investors have differing levels of appetite to use loan level data, and that the FSA will over the coming year aim to hold forums between the buy and sell sides “to ensure the introduction of loan level reporting runs smoothly and is effective”.

Investors’ use of loan level data was also discussed at the meeting. The FSA’s Tetu said that it is essential for investors to conduct their own due diligence to preserve confidence in the covered bond product, and referred to regulatory proposals on credit rating agencies from the EU Commission in November 2011 as requiring institutions, including asset managers, to carry out their own credit assessments and “not to solely or mechanistically rely on credit ratings for assessing credit worthiness on an entity or financial instrument”.

An investor noted that the loan level data requirement has been put in place so that investors are able to make informed choices, and asked how the FSA intends to monitor whether investors adequately use the data. Simons referred to the credit rating agency proposals previously mentioned by Tetu, and said that these would require affected institutions to undertake their own credit assessments. She said that the proposals are still under negotiation and are not yet law, and that it is too early to comment on how the FSA would propose to supervise compliance.

An investor noted that loan level data reporting is a positive step, particularly when assessing a pool of revolving mortgages, and appreciated that it has been burdensome for issuers to “resist breaching confidentiality clauses”.

With respect to data protection, the FSA’s capital markets team has worked with colleagues from its financial crime division to consider risks inherent to the provision of loan level data, and has factored in these discussions into the nature of the information requested and the channel through which it will be made available to the market.

Other topics addressed at the meeting included how bail-in provisions might affect Regulated Covered Bonds, an issue about which the Investment Management Association (IMA) had previously raised concerns, asset encumbrance, and liquidity policy.

A survey of asset encumbrance at British financial institutions was carried out at the beginning of 2011, with the minutes showing that a report should be released in due course. FSA asset encumbrance specialists Gurmaj Dhillon and Pavel Izmaylov were not present at the meeting and the FSA representatives present said they could not disclose anything further. The minutes of the meeting also refer to liquidity policy being finalised to determine whether Regulated Covered Bonds will be included in liquid asset buffers.