Canadian banks see potential for an expansion of Canadian dollar covered bond issuance, after TD sold a C$1.5bn debut last month, with its LCR status and new bail-in legislation potentially increasing demand, and pricing levels more attractive after a widening of the spread to domestic senior.

Before Toronto-Dominion’s debut on 8 June, Royal Bank of Canada had been the only Canadian to sell covered bonds in the local currency, having pioneered Canadian dollar issuance with an inaugural C$750m (Eu522m, $580m) five year issue in October 2009. RBC has returned to the market periodically since then, with its most recent deal a C$2bn three year on 26 April.

“This is a nascent market,” said Christina Wang, head of funding management, treasury and balance sheet management at Toronto-Dominion Bank. “There’s a limited number of buyers that actually have a Canadian dollar portfolio, but this is a rare opportunity, too.

“It’s the first time that a Canadian dollar-denominated covered bond was marketed in a global way.”

Wang said that although TD’s deal was in private placement format, it was also UKLA registered.

“It is quite an innovative way in which we structured the documents, and that is what allows us to market the bonds to investors beyond Canada,” she said.

TD’s new five year Reg S issue was priced at 95bp over Treasuries, down from initial price thoughts of 97bp plus or minus 3bp. The size was eventually fixed at C$1.5bn (Eu1.04bn) on the back of books over C$3bn – attracting “very strong” demand from accounts in Asia and Europe, according to Wang.

“The deal was very successful, being more than two times oversubscribed,” she said. “We’re very pleased with the outcome.”

Wang said that the pricing of the deal was similar to what TD could have achieved in the euro and US dollar covered bond markets, with the deal coming a few basis points tighter than would have been possible in these markets.

“TD Securities had been watching the market closely,” said Wang. “It was not so much about where we track from RBC’s secondary, but the team has been in the field and there’s a lot of feedback from the investor community, so we had a pretty good sense of how to determine the launching point.

“At 95bp, we paid arguably zero to 2bp new issue concession over RBC’s curve.”

Wang noted that with TD having issued euro, US dollar and sterling benchmark covered bonds already this year, the levels available on the domestic market looked especially attractive.

“To us it makes sense to access this market now while there is good pricing available, and knowing that there are investors interested in this product,” she said. “Pricing is important, and it was a good opportunity.”

Besides this, Wang said that TD decided to issue a first Canadian dollar benchmark as it hopes to participate in the development of the market.

“We think that by joining forces with other issuers, we will help to develop the Canadian dollar-denominated covered bond market,” she said. “It remains to be seen, but with the imminent implementation of bail-in legislation, we expect there will be a stronger incentive for some investors to participate in the covered bond market, when they consider the bail-in risk and the capital conversion risk.”

Canada’s bail-in legislation entered into force last month.

An official at another Canadian covered bond issuer said their opinion on the merits of Canadian dollar-denominated issuance has become more positive.

“We are open to it,” he said. “Initially, and for a number of years, we thought there was a fairly high likelihood that if we issued covered bonds in Canadian dollars it would cannibalise our lines for domestic senior unsecured – which is of course the cheapest senior market we can issue in.”

The official said another reason that Canadian issuers have been hesitant is a 4% cap on covered bond issuance relative to total assets, which is imposed by the Office of the Superintendent of Financial Institutions (OSFI). However, he said his bank’s view had changed after Canadian dollar-denominated covered bonds were in Canada made eligible for Level 2A under LCR.

“Effectively Canadian bank treasuries became a new class of investors that would be interested in Canadian dollar covered bonds, and would not otherwise be buying Canadian dollar senior unsecured,” he said.

“But given the 4% limit,” he added, “there is still a question of where is the best place to use this limited funding resource – whether in a very nascent domestic market, or elsewhere.”

Bankers also noted that the differential between Canadian dollar senior and Canadian dollar covered bonds is tighter than in other currencies, but that the gap is widening.

“In the last couple of Canadian dollar covered trades the pick-up versus senior has been in the low 10s, whereas for all of the prior issuance it was only in the low single-digits,” said the official. “This has generally been a function of domestic investors always feeling very comfortable with domestic banks senior paper, and not seeing the value in paying something meaningful to go from double-A to triple-A products.

“This development is also clearly supportive, as Canadian issuers can now get more value for the collateral being assigned.”

He said he would not be surprised to see other Canadian banks issuing in their local currency.

“However, even if all Canadian bank treasuries start buying Canadian dollar covereds, they will eventually fill their buckets,” he said. “Without further development of other investor demand for the asset, I think it can only be a limited market.”

Nonetheless, the volume of Canadian covered bond supply in foreign currencies could be affected should other issuers join the market, bankers said.

Canadian banks last year issued Eu14.25bn in euro benchmark covered bonds, $9bn in US dollars and £2.425bn in sterling. Canada is this year forecast to be one of the most active jurisdictions in euros, with Canadian banks having so far issued Eu8.75bn in euros, $7.5bn in US dollars and £1.4bn in sterling, totalling some C$24.5bn equivalent.

“If we suddenly have C$5bn-C$6bn of issuance a year, it’s possible that will reduce Canadian supply in other currencies,” said the senior official. “But then again, funding is fungible.

“Canadian dollar covered issuance could simply replace Canadian dollar senior, instead.”

Wang said that Toronto-Dominion will consider further Canadian dollar-denominated covered bonds as long as there is sufficient demand.

“I don’t think the market is ready to support many multiple transactions, but we can start thinking about launching one deal per year,” she added. “And we’re talking about benchmark transactions, but TD could also entertain private placements if the demand is there.

“We will be flexible in how we utilise this channel.”