Standard & Poor’s has cut DZ Bank public sector covered bonds from AAA to AA+ upon implementation of updated criteria, with the rating agency assigning no uplift for collateral support and citing a significant proportion of the cover pool being unsecured loans to related cooperative banks.

Deutsche Zentral-Genossenschaftsbank (DZ Bank) covered bonds (DZ Bank Briefe) are not issued under Germany’s Pfandbrief Act but under a special law unique to the issuer, the Gesetz zur Umwandlung der Deutschen Genossenschaftsbank (or DG Bank-Umwandlungsgesetz).

S&P, which rates DZ Bank AA-, said on Friday that the new rating of the public sector covered bonds reflects a reference rating level (RRL) of aa+, a jurisdiction-supported rating level (JRL) of aa+ and no notches of uplift for collateral support. The rating agency said that the level of overcollateralisation (OC) is below that required to mitigate credit risk at the AAA rating level.

“Should any collateral support uplift become available in the future, it would be limited to two notches of uplift from the JRL under our criteria,” it added. “This is because there is no commitment from the issuer to maintain a level of OC that exceeds the legal minimum and, although covered on a voluntary basis, there is no commitment to cover liquidity risk.”

S&P noted that the issuer has three notches of unused uplift from the jurisdiction-supported rating level under its methodology, which it reflects in the stable outlook.

A significant proportion of the cover pool comprises senior unsecured loans to the German cooperative banking sector, according to the rating agency, while they also exposed to public sector credit risk via loan to German and international sovereigns, states and municipalities.

“We consider that much of the assets’ creditworthiness is closely interrelated with that of the covered bond issuer itself,” said S&P. “Our ratings on DZ Bank and the DZ coop banks reflect solidarity support and a comprehensive protection scheme.

“In order to assign a covered bond rating that is above the long term ICR on the issuer under our covered bonds criteria, we assume that the issuer has defaulted and the DZ coop banks are all close to default. This is because these assets would have a relatively low creditworthiness if DZ Bank were to default as capital invested in DZ Bank would be lost.”

Photo: Frank Gehry’s DZ Bank building, Berlin; Source: Mogadir/Wikimedia Commons