The EC is not prejudging whether it should act to harmonise covered bonds, but has put forward detailed proposals for a European framework so it could move forward with legislation if considered desirable in light of feedback from stakeholders, Kai Spitzer of DG FISMA said yesterday (Thursday).

Spitzer, who works in Financial Stability, Financial Services and Capital Markets Union at DG FISMA in Brussels, was speaking in Tarragona at the 19th Central European Covered Bond Conference organised by the Housing Chair of the Rovira i Virgili University and the Association of German Pfandbrief Banks (vdp).

He was discussing an EC consultation paper released on 30 September that discusses the merits of a European covered bond framework and which presented two main options: voluntary convergence of covered bond laws around Commission recommendations, with the Commission also potentially tightening the requirements for preferential treatment; and direct EU product legislation on covered bonds, either though harmonisation of laws or an alternative framework (29th regime).

“I would like to emphasise that at this point we have not taken a decision as to whether or not there will be action in this area and what the nature of this action will be, but we are really approaching this consultation in an open-minded way,” said Spitzer. “We would like to present what we think are the possible benefits of a European covered bond framework and we would like to hear from market participants if they confirm that these benefits can exist and that they can be reaped by the implementation of a European covered bond framework. And then we also take the opportunity in this consultation paper to already sketch out possible elements of such a European covered bond framework should there be one.

“So we would like to be specific in this consultation paper so if we decide based on positive feedback, should there be such, that regulation is the way to go, then we would hope that based on the feedback from the consultation on the more detailed elements in the third part of the consultation paper we are actually able to move forward. And that’s why the consultation paper already looks very complete, but this is at this point not prejudging what the next steps will be.”

He said that although the Commission sees covered bonds as “a big European success story”, this is composed of 26 different national laws regulating covered bonds. Preferential treatment at a European level in areas such as UCITS has only been tied to two broad criteria: a law ensuring the privileged right of covered bondholders to cover assets; and public supervision to protect bondholders.

Covered bonds have meanwhile risen to greater prominence on the international stage, Spitzer noted.

“In the Basel III framework, so the international standard, we have for the first time very recently in the so-called Liquidity Coverage Requirement been able to also export the idea of preferential treatment for covered bonds into the international sphere,” he said. “That’s a big success, we think, because so far we have often argued for the merits of preferential treatment at the international level but there hasn’t been any appetite, this was seen as a European problem, as a European specificity. But the perception at the international level has clearly changed and there is more interest nowadays in covered bonds.

“I think with all of this, we have certainly also incurred a bit of a liability,” he added. “We are using covered bond, the term, as a hook for preferential treatment, we have sold this to the international community, that these bonds are safe and sound and deserve a privileged status, and that basically means that onus is on us that these instruments now really have to perform.”

Spitzer also highlighted how Europe’s varied covered bond products have not performed uniformly during the crisis, with various reasons possibly contributing to this: the credit profiles of issuers and cover pools; their geographical location; a lack of clarity or doubts about legal frameworks; and pricing based on expected sovereign support. He said the Commission would rather see covered bonds priced based on credit considerations than being tied to sovereigns.

“We would hope that a common framework could foster market integration, could reduce the home bias that we see from investors towards their own local markets, and could maybe also attract more investment from third countries,” he said.

Spitzer said that “there is something really at stake here for the industry” and encouraged market participants to respond in detail to the Commission’s consultation paper given how important the issue is, adding that it would be difficult to take the appropriate decision if only high level feedback is offered.

In response to a question, he acknowledged the need for the Commission to give an indication of what direction it will take relatively quickly after the consultation period has ended. Spitzer said that should it opt for voluntary harmonisation, it could move ahead relatively quickly with this and any tightening of criteria for preferential treatment, for example in CRR. But he said that should the Commission opt for legislation, this would require much more careful reflection and preparation.