The prospect of the market environment in 2013 being more receptive for the possible introduction of SME backed Italian covered bonds has prompted the country’s banking association to renew a request for the central bank to provide an opinion on a proposal for the product.

Alfredo Varrati, senior analyst, credit department, at the Italian Banking Association (ABI), says that the association sent a first proposal for the introduction of SME backed obbligazioni bancarie garantite (OBGs) to the Italian central bank in the middle of 2012. However, because of adverse market conditions preventing Italian banks from accessing the capital markets the issue lost momentum.

Alfredo Varrati

“Attention also dropped as a result of the sovereign debt crisis, which made it difficult to issue OBGs, even for the biggest names in Italy,” said Varrati. “As SME OBGs would price wider than traditional OBGs, we thought they would not be beneficial at that time, so we did not push for it.”

Varrati said that market conditions are expected to improve next year, reopening the possibility of introducing SME OBGs. In November, the ABI therefore renewed its request for an opinion on its proposal in an end of year report it sent to Banca d’Italia.

“The bank has not formally refused the proposal,” said Varrati. “We expect them to get back to us in January.”

He said that SME backed covered bonds could constitute an alternative funding instrument for Italian banks.

“Banks have experienced increasing costs in issuing senior unsecured bonds, especially in international markets,” he said. “Given the shift in market preference towards more secured funding options, and that the availability of good quality collateral for OBGs is by definition limited, SME OBGs could be a viable alternative for our banks.”

Italy, as several other European countries, lacks specific funding instruments to support business lending, he added.

“As mortgage OBGs are useful for the mortgage market, SME OBGs could help fund SME lending,” he said. “Italy could lead the way in this respect.”

In terms of pricing, Varrati expects that SME OBGs would trade between senior unsecured bonds and mortgage backed OBGs.

“SMEs loans don’t offer the same guarantees as residential mortgages, which in Italy traditionally have limited LTV ratios,” he said.

However, Varrati said that SME OBGs could offer viable pricing for banks, because most SME lending is backed by good quality private or public guarantees. Among the latter, he mentioned the Fondo di Garanzia per le Piccole e Medie Imprese, a state guarantee fund backing around 10% of total SME lending.

Varrati stressed that the ABI is looking at introducing a new financial instrument within the OBG framework, but not at modifying OBG asset class eligibility.

“We want to keep different the classic OBGs – which also have the advantage of being recognised by European regulation – from this other kind of covered bond,” he said. “This could be done through an addendum to the law 130/99, which is already well known by markets and proved to be effective.”

If the Banca d’Italia approves the proposal, the following step would be to submit it to the Italian Ministry of Economy and Finance, according to Varrati.

“Putting together an amendment to the law should be relatively simple,” he said.

A change of government scheduled for next spring should not constitute an obstacle, he added, as the officials responsible for the matter should remain the same.