The European Commission has followed EBA recommendations that risk weightings of covered bonds are adequate in a report to the European Parliament, pending the outcome of its consultation on harmonisation but holding out the prospect of preferential treatment for covered bond-like instruments.

The report from the Commission, on Article 503 of Regulation (EU) No 575/2013 on capital requirements for covered bonds, was published last week and follows a European Banking Authority (EBA) report in July 2014 on the appropriateness of current risk weightings for covered bonds.

Market participants said that the Commission has adopted a similar stance to the EBA, deeming that the preferential risk weightings should continue.

“As expected, and as was suggested by the EBA, the Commission agrees with the EBA’s recommendation that the preferential risk weights currently laid down in Article 129 and the own fund requirements for specific risk in Article 336(3) of the CRR ‘remain an adequate prudential treatment for qualifying covered bonds’,” said analysts at BBVA.

The Commission in its report noted that it had launched its dedicated covered bond consultation paper and said that issues such as convergence of national laws will be dealt with therein.

“The Commission does not propose amending Article 129 of the CRR at this stage in relation to the matters referred to by items no. 1 to 3,” it said. “There would be little merit in engaging in such an amendment before stakeholders have had the opportunity to comment on the relative merits of each of the relevant policy options presented in the CP.

“Following the review of feedback received, the Commission may submit legislative proposals which may consist in targeted amendments to Article 129 of the CRR or its repeal if replaced by a covered bond framework.”

The Commission said that it will seek feedback from stakeholders on the appropriate treatment of securities backed by loans funding non-financial activities – such as aircraft, ship and SME loans.

“The Commission is very keen on striking the right balance between an adequate prudential treatment for covered bonds and other forms of secured lending and the potential benefit in terms of economic growth that may result from encouraging sound lending to the real economy on the back of covered bond-like technology using these assets as collateral,” it said.

The BBVA analyst said that the report offers some implicit support for dual recourse bonds such as the European Secured Notes (ESNs) backed by SME loans that have been proposed by the European Covered Bond Council (ECBC). Florian Eichert, head of covered bond and SSA research at Crédit Agricole CIB, echoed this.

“The document does give a bit of a hint as to what the Commission seems to be aiming for,” he added, “stricter eligibility criteria for traditional covered bonds, a two-tier preferential treatment system to also give benefit to non-traditional covered-bond-like products that help to fund the real economy, further promoting simple and transparent securitisation and pushing for broader use of pooling models for smaller issuers (even pooling across groups and countries), enabling them to access markets and thus support economic growth.”

In the meantime the Commission said that it will not change the treatment of aircraft loans, which are not eligible for preferential treatment. Guaranteed residential loans will meanwhile remain eligible for preferential risk weights.

Regarding the inclusion of securitisations in cover pools, the Commission noted that the EBA backed the removal of a derogation at the end of 2017 and acknowledged certain concerns, but said that some of these might be addressed by the use of simple and transparent structures, and that it will therefore seek feedback from stakeholders in conjunction with the Commission’s initiative on Simple, Transparent and Standard securitisations in the context of the Capital Markets Union (CMU) project. The Commission said it will wait until receiving feedback on the consultation paper before deciding if it is appropriate to allow the derogation to lapse or what other action to take, with the same applying to a derogation on pooled covered bonds (“covered bonds backed by other covered bonds”).