DBRS has completed an assessment of the legal and structuring framework (LSF) of Italy’s OBGs, allowing the rating agency to rate Italian covered bonds, with the rating agency assigning OBGs to its second highest LSF category.

The assessment was published yesterday (Tuesday), with DBRS saying that the OBG regulation offers sufficient guarantees to covered bond-holders, although some aspects of it could hinder timely payments immediately after the insolvency of an OBG issuer.

The overview of the Italian framework will be included as an addendum in DBRS’s European covered bond methodology, allowing the rating agency to rate OBGs in future. Aside from all the programmes in its home market of Canada, DBRS rates several Portuguese covered bonds and Bank of Ireland Mortgage Bank’s issuance, and has also completed an LSF assessment of the Spanish cédulas regime.

DBRS has categorised the Italian OBG LSF as “strong”, the second highest of four LSF categories, for several reasons.

It considers that the law provides effective segregation of the cover pool and of its overcollateralisation (OC). DBRS noted that despite the OBG regulation not setting any specific OC requirements, some mandatory tests included in the regulation are sufficient to maintain adequate cover pool quality. These tests include a nominal value test prescribing that the total nominal value of the cover pool must be equal to or greater than the nominal value of the covered bond, and a contractual asset coverage test that issuers undertake to maintain the ratio between covered bonds and the cover pool at certain percentage, usually 90%.

DBRS also highlighted that in case of an issuer default, OBG holders have priority rights over the cover pool, and that the law mandates banks to maintain cash reserves to meet temporary liquidity needs.

Other aspects contributing to the rating agency assessing the legal framework as “strong” are the possible extension of an OBG’s maturity following an issuer default, and the appointment of a back-up servicer and a portfolio manager upon certain triggers.

Despite these positive elements, Italian OBG programmes are not assigned to the highest LSF category under DBRS’ methodology, which is “very strong”, because of concerns over timeliness of payments after an issuer default.

The OBG framework does not prescribe the appointment of a cover pool administrator or replacement servicer default that could “take care of the exclusive interest of covered bond holders” before an issuer insolvency, said the rating agency.

DBRS also said that although the Bank of Italy supervises the issuance of covered bonds, asset monitors, a third party entity appointed by the issuer to oversees the activity of the SPV, only report to the issuer and not to the Bank of Italy directly.

DBRS added that its concerns about timely payment are also due to asset and liability management requirements not being sufficiently prescriptive, combined with possible deterioration of the liquidity environment for Italian banks.