The EBA is set to lay out plans in a public hearing tomorrow (Tuesday) to recommend that eligibility for preferential risk-weight treatment for covered bonds be tightened by adding more qualifying criteria, which overlap with best practices it has identified.

The recommendations would be made to the European Commission (EC), which in December tasked the European Banking Authority (EBA) to look into the appropriateness of preferential risk-weight treatment under the Capital Requirements Regulation (CRR) and the associated qualifying criteria. They also come as the topic of harmonisation is being considered in light of a Commission green paper on long term finance.

The EBA is tomorrow hosting a public hearing to discuss the recommendations before it finalises a report to be submitted to the Commission and the European Systemic Risk Board (ESRB), which separately asked the EBA to identify best practices in covered bonds.

According to a presentation for tomorrow’s hearing, the EBA considers the present preferential risk-weight treatment of covered bonds to be appropriate, but intends to propose that the Commission consider adding criteria for covered bonds to qualify for preferential treatment under CRR.

These are four: legal/regulatory minimum overcollateralisation (OC); a liquid assets buffer; provisions for the role of the national authority in supervising covered bonds – before issuance, on an ongoing basis, and after an issuer default or resolution; and disclosure requirements. The latter would be the requirements already included in CRR Article 129, but would be clarified in the form of EBA binding technical standards.

The EBA is also planning to recommend that aircraft loans continue to not be deemed an acceptable asset class eligible for preferential risk-weight treatment, and that a waiver from a 10% limit on the inclusion of senior securitisation tranches in cover pools expire at the end of 2017.

The recommendations for fleshing out CRR-compliance overlap with best practices that the EBA identified as part of its work for the ESRB, although there are more best practices than there are recommendations to the EC. The best practices the EBA identified in relation to disclosure give clues as to what the technical standards would be if the EC takes up that recommendation, in that the EBA said that the required information should be disclosed at least on a quarterly basis. This is a tighter requirement than under Article 129 (7) in the CRR, which requires disclosure on at least a semi-annual basis.

The best practices identified by the EBA are ones toward which the authority believes covered bond frameworks in the European Union should converge, with the ESRB having asked that the EBA focus its work on four areas: the quality and segregation of cover pools, insolvency remoteness of covered bonds, the asset and liability risk affecting cover pools, and disclosure of the composition of cover pools.

Within these four areas the EBA has come up with 17 best practice recommendations, for example on: dual recourse; segregation of assets; LTV limits, measurement and frequency of re-valuation; coverage principles and OC; supervision of covered bond issuers; and scope and frequency of disclosure of aggregate data to investors.

Covered bond analysts said that they have questions about some of the specific aspects of the recommendations – such as the implications of a CRR liquid asset buffer criterion for soft bullet and conditional pass-through structures, and the extent to which the provisions for national authority supervision will be stipulated – but they said that overall the EBA’s thinking did not contain any real surprises.

“It’s what I would have identified as something they could realistically tackle,” said one. “They can’t force insolvency regimes to be migrated to one standard, but what they can do is tackle liquidity risk, they can tackle disclosure, they can tackle OC, they can tackle re-valuation of assets.

“All those things are pretty de-linked from the underlying legal systems and they’ve tackled every single one of them.”

Another analyst echoed this perspective, saying that the recommendation for legal/regulatory minimum OC is not surprising as it is an aspect of covered bonds where it is easier to achieve harmonisation, and that it is in line with the direction other regulation, such as on large exposures and swaps, is taking.