Conditional pass-through (CPT) covered bond ratings can be independent of the supporting issuer’s creditworthiness because the structure of the instrument removes the risk of a fire-sale, although other credit risks related to the supporting bank would need to be sufficiently mitigated, Moody’s said on Monday.

The structure was pioneered by Dutch issuer NIBC Bank, which priced a second CPT euro benchmark at the beginning of April. The Eu500m five year deal attracted more than Eu1.5bn of orders.

Commenting on the structure, Moody’s said that in the event of an issuer default, CPT covered bonds provide a maturity extension that allows for an orderly wind-down of the cover pool without any requirement to sell or refinance cover pool assets.

According to Moody’s, such a sale would likely take place in a stressed environment following the issuer default and require a discount to the notional value of the cover pool assets.

A CPT structure removes fire-sale risk, according to the rating agency, which added that if other credit risks linked to the issuer are removed, the credit quality of CPT covered bonds can be independent from the creditworthiness of the issuer.

However, the structure of a CPT covered bond has to be sufficiently robust for a refinancing risk to be removed. The rating agency said that a CPT covered bond would not, for example, succeed in removing refinancing risk solely by switching covered bond payments to a pass-through structure if the covered bonds were expected to accelerate following a default (a covered bond “anchor event”) and, as a result, trigger an asset sale.

As such, the rating agency takes into account structural considerations, including the level of over-collateralisation available to cover any losses that arise following an issuer default, and the protections in place to shield against transaction risks that may lead to losses, such as risks around the performance of services and contractual counterparties and uncertainties in legal enforcement.

Depending on the effectiveness of a CPT covered bond structure in addressing such risks, the credit quality of a CPT covered bond may still be linked to the supporting issuer, according to Moody’s, in which case the covered bond rating will continue to be constrained by the rating agency’s Timely Payment Indicator (TPI) framework.

“However, the rating of the CPT covered bond may be higher than that of an equivalent ‘hard bullet’ or ‘soft bullet’ bond where the maturity date falls before the cover pool assets’ scheduled maturity,” said Moody’s.