A change to property valuation rules proposed by the Bank of Spain is credit positive for banks and covered bonds, according to Moody’s, and will probably encourage more covered bond issuers to update the valuations of properties represented in their cédulas hipotecarias cover pools.

Under proposed modifications to Circular 4/2004, which governs public and confidential financial information standards, banks will need to assess the accuracy of property appraisal at least annually, Moody’s noted yesterday (Monday), and reappraise properties if there is significant deprecation in their value. The requirements will be stricter if a borrower’s credit quality declines and for larger borrowings, and will also depend on the type of property.

“The Bank of Spain’s proposal for the assessment of real estate guarantees is likely to contribute to a more accurate appraisal of property values, a key element in estimating potential loan losses and provisioning requirements for banks,” said Alberto Postigo, credit officer at Moody’s. “In addition, it is likely to lead to a more accurate reflection of the credit quality of the cover pool of assets backing covered bonds.”

For less risky operations, banks will be able to use automated valuation methods (AVMs) rather than doing a full valuation. Moody’s said that AVMs – statistical models that employ techniques such as multiple and logistic regression analysis – provide a more accurate assessment of property valuations than other statistical models like indexation.

“The benefits from the improved property valuation framework are likely to extend to covered bond pools, as issuers currently using indexation to update the property values of their cover pools will likely start using AVMs,” said Miguel Lopez, an analyst at Moody’s, noting that it will improve the accuracy of loan-to-value ratios and hence the transparency of the credit quality of cover pools.

Moody’s also said that the accuracy and efficiency of property revaluations for large mortgage portfolios using AVMs will probably encourage covered bond issuers that do not currently update their property values to do so if they do not want to lose competitiveness in terms of reporting transparency versus those issuers carrying out revaluations.

The lack of mandatory revaluations for properties underlying cédulas hipotecarias has often been highlighted as a weakness of Spain’s covered bond framework. However, some Spanish issuers have voluntarily embarked upon the practice – which is a requirement in most jurisdictions – and the issue was addressed in a Ministry of Economy & Competitiveness covered bond consultation paper in October 2014 that drew on European Banking Authority best practice guidelines.