Covered bonds look set to be treated more favourably as investments in the EU than under Basel NSFR proposals, according to plans in a wide-ranging package of measures announced by the EC today (Wednesday), with issuers of certain pass-through covered bonds possibly benefiting.

The European Commission this morning announced changes to major existing parts of the EU’s post-crisis financial framework – such as CRR/CRD IV and BRRD – alongside introducing new measures in a Directive and a Regulation, dubbed CRR II/CRD V by some. Market participants said that due to the volume of the proposals, fully understanding their implications will take some time.

However, among changes affecting covered bonds identified in early reviews of the proposals is more favourable treatment of the asset class as an investment by bank treasuries under the EU version of the Basel Committee on Banking Supervision’s Net Stable Funding Ratio (NSFR). Their Required Stable Funding (RSF) factors have been cut from those proposed by the Basel Committee to bring them into line with their haircuts under Liquidity Coverage Ratio (LCR) treatment in the EU – something the European Covered Bond Council had lobbied for.

Covered bonds qualifying for Level 1 under LCR have had their RSF factor cut from 15% to 7%, while those qualifying for Level 2A would have a RSF factor of 15% and 2B 30%. Government bonds’ RSF factor will meanwhile fall from 5% to 0%.

“This approach would make a lot of sense,” said Florian Eichert, head of covered bond and SSA research at Crédit Agricole.

The treatment from a funding perspective of certain pass-through or match-funded covered bonds could also improve under the proposals, with the Commission having drafted a description of covered bonds that would benefit from being deemed “interdependent” that an analyst said is more accommodating than that proposed by the Basel Committee. It reads:

“where the underlying loans are fully matched funded with the covered bonds issued or where there exists non-discretionary extendable maturity triggers on the covered bonds of one year or more until the term of the underlying loans in the event of refinancing failure at the maturity date of the covered bond”

Market participants said that it is too early to conclude how broad a range of extendible maturity structure covered bonds could benefit from this, although one noted that the “refinancing failure” trigger most closely resembles practices in Denmark – which has previously successfully lobbied for its unique model to be taken into account.

The Commission said that it is faithfully implementing the Basel standard on NSFR, but noted that “some adjustments recommended by the European Banking Authority’s NSFR report proved to be necessary in order to ensure that the NSFR does not hinder the financing of the European real economy”. It said that the treatment of “pass-through models in general and covered bonds issuance in particular” was one such adjustment, noting that “funding risk can be considered as low when assets and liabilities are matched funded”.

Key other concerns of the covered bond industry have not been addressed in the proposed amendments, but Luca Bertalot, secretary general of the EMF-ECBC, said that the moves are encouraging.

“We are glad to see that the European Commission have has succeeded in formulating a proposal for the implementation of the Basel parameters that takes into account some key characteristics of the European market, especially recognising the importance of covered bonds as long term stable funding tools,” he told The CBR. “But this is just a starting point and there is still a lot to be done.”

The Commission’s proposals will be negotiated with the European Parliament and Council, and possibly finalised later next year.