The ICMA Covered Bond Investor Council is disappointed with the response to its transparency initiative. The ECBC argues transparency is improving as a result of the national templates developed under the Covered Bond Label. The EBA has looked at both, and said it’s time for the next step. Susanna Rust reports.

“A milestone in the roadmap towards a better transparency regime in Europe.”

This is how the ICMA Covered Bond Investor Council (CBIC) referred to transparency standards in covered bonds when it in April 2011 released data lists detailing information it believed issuers should provide investors with.

The voluntary transparency standards set out three categories of information the CBIC expected issuers to provide and formed the basis of a consultation. That, belatedly, resulted in the investor body releasing its finalised transparency template in May 2012, on the occasion of the inaugural ICMA CBIC & The Covered Bond Report Covered Bond Investor Conference in Frankfurt.

Two years later, at the same annual event in May this year, red sad faces peppered a presentation used by Andreas Denger, acting chairman of the CBIC and senior portfolio manager and covered bond analyst at MEAG, to give a downbeat assessment of the response to the CBIC’s transparency initiative.

Hardly any issuer is actively or properly using the CBIC transparency template, said Denger, even though leaving fields blank is allowed, and only three of the CBIC’s “7 C-List” of key transparency requirements are being delivered on even a mediocre level (as illustrated with yellow neutral-faced emoticons).

This situation needs to improve, he said, calling on the market to work harder or risk being kicked out of the driving seat and having transparency requirements imposed that do not reflect the specificities of the asset class.

For example, the CBIC’s template does not ask for loan-by-loan data, said Denger, but “talks with some regulators suggest this is not off the table”.

“If it takes too long to achieve an acceptable level of transparency on a harmonised basis, covered bonds may lose the positive reputation they earned during the crisis,” he further warned.

A parallel development in the field of data transparency has been the ECBC Covered Bond Label initiative, under which issuers claiming Label status must commit to disclose cover pool information in accordance with National Transparency Templates, but some investors are not that impressed by these.

Daniel Rauch, fund manager at Union Investment in Frankfurt, says that the level of transparency provided by issuers in connection with the Covered Bond Label still falls well short of investors’ expectations for disclosure, as captured in the ICMA CBIC transparency template.

“If you compare the data fields in the CBIC template with the requirements under the Label, you can see that fewer data points are covered under the Label, which isn’t comprehensive,” he says.

The timeliness of data is another problem, according to Rauch.

“It bothers me that the cover pool data issuers have delivered to the ECBC under the Label has been up to six months old in occasional cases, depending how quickly the issuers deliver the data due to the rather voluntary character,” he says, noting that at one point this was true of a Spanish issuer, for example.

“Even though cover pool assets are typically of high quality and don’t change that dramatically,” he adds, “I still think the data should be more current and it would be nice if issuers had an incentive or pressure to maintain more consistent data disclosure.”

Rauch says that the focus should now be on increasing the degree of convergence between the national transparency templates under the Label and the CBIC’s transparency template.

“That’s a task that needs to be tackled,” he says. “The market has been talking about the importance of transparency for seven years now and we have the Label, but at the end of the day it’s not really all that much.”

The case for the defence

But others see good reason for a positive assessment of developments on the transparency front, typically citing the ECBC Covered Bond Label initiative and the National Transparency Templates that are a part of it.

Luca Bertalot, secretary general of the European Covered Bond Council (ECBC), says that there have been clear improvements in transparency over the past few years.

“We should acknowledge that there is always room for improvement and still some significant work to be done,” he says, “but at the same time we should also recognise the impressive efforts made by the covered bond community in enhancing and harmonising data disclosure policies after the crisis.

“There has been massive progress in terms of quality and comparability, especially when it comes to definitions, format and frequency of the disclosed information.”

The CBIC’s template is considered a benchmark when a national issuer group designs and updates its National Transparency Templates, he says, and although there is room for improvement there has been considerable progress already, particularly if one considers that before 2013 there were no agreed templates at national level.

Chris Fielding, executive director at the UK Regulated Covered Bond Council (RCBC), was at the investor conference in May and says that he listened to Denger’s presentation with interest as UK issuers are keen to do their utmost to satisfy investors’ expectations for transparency. He also strongly endorses the level of information available about UK covered bonds, and the industry’s efforts to deliver on investor requests for transparency.

“We are looking at our national transparency template to see if there are further improvements we can make,” he says, “but our starting position is that we believe the UK template provides for one of the highest degrees of transparency, even though it does not reflect everything the CBIC asks for.”

It is important to distinguish between, on the one hand, the format of information, and, on the other hand, information that is simply unavailable, he adds, suggesting that rectifying the latter would be more of a priority for the UK RCBC at present than focussing on the format or layout of the information.

“There are considerable difficulties involved in just taking a report generated by others and there are legitimate questions about whose responsibility it is to get the data in the desired order or layout,” says Fielding. “In our view in its entirety the information provided by UK issuers complies with regulatory requirements.”

Spain has frequently been cited as a jurisdiction where disclosure has been below par, but recent efforts to improve transparency have resulted in an update of the National Transparency Templates for covered bonds carrying the Label.

Lorena Mullor, manager at the Spanish Mortgage Association (AHE), says that the Spanish National Transparency Template was modified with the initial objective of making the necessary changes to ensure it satisfies disclosure requirements under the Capital Requirements Regulation (CRR), but that the issuer body took the opportunity to voluntarily make other amendments to boost transparency and clarity of information about cédulas hipotecarias.

“The update of the national template was a pending issue for our market and, due to the deep restructuring process of the financial system and banks’ integration, we had to start off with a minimum level of information that any issuer could easily deliver,” she told The Covered Bond Report. “During the last two years Spanish banks have, for different reasons — including as a result of the sovereign financial assistance programme — got used to complying with strong information and transparency requirements.

“The new CRR requirements are minimum requirements that help to clarify by pointing out those information items that need to be disclosed, and Spanish issuers will continue to work to enhance the information provided to the market.”

CBIC reviewing initiative

For its part, the ICMA CBIC is working to review the template initiative to make it relevant to regulatory changes and to build on the work of the National Transparency Templates, it says.

“Although this is work in progress, it is safe to say that its objectives will include better cross-border comparability of data, voluntary disclosure of relevant information over and above what is required by the National Transparency Templates and potentially the ability to perform simple portfolio analytics on cover pools,” it said in a third quarter update.

Richard Kemmish, an independent covered bond consultant, is working with the investor council.

“The CBIC wants to look at what it can do to further the investor transparency agenda, starting from the premise that the Covered Bond Label and the national transparency templates are an excellent initiative because they set minimum standards,” says Kemmish. “However, the intention is to find out what the impediments are to issuers aligning their disclosure more fully with the CBIC template, and to encourage issuers to use it to disclose information that is not required for the Label but could be beneficial to provide from a competitive advantage point of view.

“The CBIC has also always wanted cross-border comparable data, which by definition is not a focus for the national transparency templates.”

Another way in which the CBIC believes its transparency template could gain more traction, according to Kemmish, is by issuers taking more advantage of a practice the investor council has always said would be acceptable: leaving fields blank. Indeed, the investor council has consistently and regularly acknowledged the challenge of issuers fully delivering on the CBIC transparency template, and been generous in its expectations.

For example, in April 2011, upon releasing its transparency standards, it said: “The CBIC is well aware that not all jurisdictions or issuers will be in a position to provide all of the requested data. Nonetheless, the CBIC invites all issuers to be as accurate and comprehensive as possible in filling in the data list.”

Article 129 §7: what value?

The regulatory changes and CRR requirements referred to above represent one of the most important developments on the transparency front for covered bonds: the addition of disclosure requirements to the CRR. Article 129 §7 makes preferential risk weight treatment contingent upon, inter alia, certain information being made available to investors — although it places the onus on the buy-side to carry out due diligence.

It requires that the investing institution “can demonstrate to the competent authorities that it receives portfolio information at least on: (i) the value of the cover pool and outstanding covered bonds; (ii) the geographical distribution and type of cover assets, loan size, interest rate and currency risks; (iii) the maturity structure of cover assets and covered bonds; and (iv) the percentage of loans more than 90 days past due”.

In addition, the investor must be able to demonstrate that the issuer makes available the aforementioned information at least half-yearly.

With the Covered Bond Label Committee having in October 2013 voted to make CRR-compliance a qualifying criterion for Label status, the working notion is that the National Transparency Templates linked to the Label can be held up as satisfying the new disclosure requirements in the CRR.

“The most important thing that the national transparency templates do is say that if you comply with the template it is evidence that you meet Article 129 §7,” says a covered bond market participant, “although in Germany’s case that box is ticked because there are strict transparency criteria in the Pfandbrief legislation.”

The ECBC’s Bertalot says that although the ICMA CBIC transparency template is considered a benchmark when national issuer communities design and update their Label transparency templates “the priority now is to ensure that investors have access to all the items requested in Article 129 §7 of the CRR in the Label National Transparency Templates in order to secure the preferential risk weighting under the CRR treatment”.

“The Covered Bond Label remains the only source where market participants can understand if a single ISIN is CRR-compliant or not and have access to cover asset data and key data on issuer and legislative framework,” he says.

But what does all this really mean for investors, especially if, as analysts and other market participants have commented, the disclosure requirements in the CRR are vague and therefore preclude a clear-cut assessment of whether they are satisfied or not?

Covered bond analysts at Barclays and UniCredit, for example, earlier this year took a closer look at the CRR transparency requirements and came up with rather contradictory assessments of whether they were being met.

Writing in February, the Barclays analysts said that none of the National Transparency Templates at the time fulfilled the disclosure requirements under CRR, although amendments were underway.

“Because covered bond issuers have an incentive to ensure their products fulfil the requirements of Article 129 §7, we believe that a number of the missing pieces will be addressed in the near future,” they said. “Bank covered bond investors should watch this space in order to gauge the capital treatment of their covered bond holdings.”

A few months later, meanwhile, Florian Hillenbrand, senior credit analyst at UniCredit, said that he does not see why some covered bonds would not be CRR-compliant, although this is largely because the disclosure requirements are too vague to allow for a clear measure of whether they are being met. This is problematic, in that it provides for a false sense of security, he said.

“Setting up a covered bond disclosure list is actually supposed to lead investors to better understand the risk they are bearing,” said Hillenbrand. “However, the regulation’s current configuration turns the whole collection of facts into a meaningless exercise.

“Possible solutions for this deficit could either come in the form of an extremely detailed disclosure requirement, worked out by the European Commission, which will, sooner or later, encounter similar problems to those experienced when discussing the ECBC’s national templates, or in the form of an adoption of an updated and amended form of the ECBC templates.”

Both have their drawbacks, however, added Hillenbrand, arguing that only loan level data of representative portfolio samples allows investors to know the risks in a given cover pool.

“This would pass on the analytical challenge to investors — for better or for worse, but it certainly is fair,” he said.

EBA pitches in

The lack of clarity surrounding the disclosure requirements in the CRR has also been noted by the European Banking Authority (EBA), which analysed the state of transparency in covered bonds as part of work it carried out to fulfil two mandates, one from the European Systemic Risk Board (ESRB) to identify principles of best practice in relation to covered bonds, and another from the European Commission to assess the appropriateness of the preferential risk weights for covered bonds and the associated qualifying criteria.

In a final report published on 1 July, the EBA said that Article 129 §7 “may leave excessive room for interpretation to both issuers and competent authorities”, adding that there is also uncertainty among investors about the compliance of certain covered bond programmes with that part of the CRR.

Fourteen jurisdictions have developed National Transparency Templates under the ECBC Label and these differ substantially, according to the EBA.

This is partly a reflection of national specificities, such as the type of issuer model, the type of cover pools and covered bonds that have historically developed, and the regulatory framework in force.

The National Transparency Templates “constitute a valuable starting point for the harmonisation of covered bond disclosure standards”, but there are shortcomings, said the EBA.

“The national templates differ and are not always aligned in terms of the type and amount of information disclosed, with the disclosure template elaborated by the investors’ association as well as with the disclosure requirements imposed on covered bonds for the purposes of preferential risk weight treatment,” it said.

“Not all the national transparency templates seem to align with the disclosure requirements provided for in Article 129 of the CRR,” it added.

In addition, “very few transparency templates are particularly developed in certain areas of information disclosure,” said the EBA.

Lars Overby, head of unit, regulation, at the EBA, says that raising disclosure standards in covered bonds is also important to ensure the asset class is treated roughly equivalent to securitisation, where disclosure requirements are very granular.

“Applying granular disclosure requirements to covered bonds seems like a logical next step,” he says. “If we don’t, there may be a skew between the two asset classes.”

Overall, the banking regulator said that, in principle, the preferential risk weight treatment for covered bonds is appropriate, but recommended tightening the eligibility criteria, including with respect to disclosure.

Overby sets out the EBA’s body’s thinking thus: “No investor has ever lost any money on a covered bond but there have been bail-outs of covered bond issuers as documented in the report, and what we are trying to do is protect investors in the event that an issuer fails. We support the low risk weighting for covered bonds but at the same time there have to be certain safeguards.”

With respect to disclosure, the EBA has therefore recommended to the Commission that the disclosure requirements under Article 129 §7 be further clarified by means of binding technical standards — to be drawn up by the EBA — and that provision also be made for the possibility of extending the disclosure criteria under that article.

However, the EBA’s disclosure recommendations “should not be heard as criticism against industry proposals”, according to Overby.

“We fully praise the industry for taking the first steps to improve disclosure, but what is missing is common definitions and fully aligned templates that allow comparisons across frameworks,” he says. “We believe this is the final step that needs to be taken and that is one of the reasons we have recommended that the EBA is mandated to develop technical standards in this field.

“If the Commission provides the EBA with a mandate, clearly we will look at already existing templates, such as ECBC and CBIC template initiatives, which are very useful starting points.”

Time for action?

Notwithstanding the uncertainty about what any EBA technical standards on disclosure would look like, market participants have largely reacted positively to the authority’s intervention.

“We consider the precise and detailed formulation of the [CRR] transparency requirements to be a vital necessity,” said Thorsten Euler, covered bond analyst at DZ Bank, “since any non-compliance or misinterpretation on the part of issuers will jeopardise the capital privileging of covered bonds enjoyed by EU banking sector investors.

“Our perception is that the often very general formulation of these requirements currently leaves both issuers and investors uncertain about their implementation.”

Asked to what extent the EBA’s call for binding technical standards can be seen as reflection of industry transparency efforts falling short, Mullor at the Spanish Mortgage Association says that it is important for regulation or laws to set minimum standards, but that there is a role for industry initiatives, too.

“In fact, the initiatives of industry self-regulation, and especially the Covered Bond Label, have been supported by regulators, including the ECB, from the beginning,” she says. “From this point of view, the EBA disclosure best practices are welcome.”

Bertalot at the ECBC also welcomes the EBA’s comments and recommendations, in particular what he says is the recognition of the macro-prudential role played by the asset class during the crisis and the adequacy of preferential risk weights for covered bonds.

He, too, says that the disclosure requirements in the CRR are vague, and notes that the EBA’s recommendations on how to address this, as well as for qualifying criteria to be added to Article 129, will be discussed at European and national level over the coming months.

“The covered bond community has been working together in order to disclose the information in the most clear and harmonised way across the different jurisdictions,” says Bertalot.

“This discussion is still ongoing, therefore the ECBC believes that a dialogue between the issuers, investors, the EBA and the European Commission with regard to the next steps would be the most constructive way to move forward.”

The ICMA CBIC, meanwhile, has welcomed the EBA’s interest in its transparency standards.

“The EBA has noted the ECBC and CBIC efforts on transparency standards,” says Nathalie Aubry-Stacey, director, market practice and regulatory policy at the International Capital Market Association, “and the CBIC hopes that investors’ needs, as stated in the CBIC European Transparency standards, will be recognised, in particular concerning format standardisation and easily accessible information, and that progress will be delivered faster.”

No-one ever said this was going to be easy. Indeed, at an ECBC plenary in September 2011 a panellist warned that bringing the CBIC’s initiative to fruition would be like turning around a supertanker.

But the EBA has delivered what must surely be the most comprehensive and definitive analysis of the state of disclosure in covered bonds and maybe, just maybe, it can help take transparency to the next level.

And turn those frowns upside down.