Danmarks Skibskredit (Danish Ship Finance) could sell an inaugural euro benchmark covered bond backed by ship loans in the second half of the year, according to director Per Schnack, with the specialist lender setting up a new cover pool for CRD-compliant issuance to help attract investors.

Danmarks Skibskredit has for over 50 years financed lending to the shipping industry via covered bond issuance in its domestic market, under the same legal framework used for the issuance of Danish mortgage-backed covered bonds. Its benchmark issuance has to date been denominated in Danish kroner and it has some Dkr44.5bn (Eu6bn) of covered bonds outstanding.

Speaking at an LBBW European Covered Bond Forum in Mainz last Thursday (9 March), Per Schnack, director at Danmarks Skibskredit, said the issuer is already in the process of preparing to issue its first euro-denominated benchmark covered bonds.

“We always explore all opportunities, and the only reason that we have only issued in the Danish market is that up to now it has been second to no other markets,” he said. “But if euro investors like our credit story as well and if it can be competitive, we would like to explore the possibilities of the euro market, coming with a benchmark issue if that makes sense.”

Schnack said that as Danmarks Skibskredit already has the option to issue euro-denominated covered bonds under the Danish framework it does not have to make many adjustments to prepare to issue in the euro markets.

“All our covered bonds are issued out of the same capital centre and backed by the one large cover pool, so we have to set up a new separate cover pool to issue in the euro market, and we must also update our base prospectus,” he said. “If everything turns out favourably, we could present a benchmark issue in the second half of this year.”

Danmarks Skibskredit previously set up an EMTN programme in 2001, through which it issued covered bonds in currencies including euros and US dollars, but it closed the programme after a few years because covered bond funding in its domestic market still provided the best medium to long term funding, according to Schnack. Today, all the issuer’s outstanding, listed covered bonds are denominated in Danish kroner.

Only one euro benchmark ship covered bond has been issued since 2008, a Eu500m three year Schiffspfandbrief for Germany’s HSH Nordbank in February 2015.

Marc Just, head of FIG origination at LBBW, noted at the event that the shipping industry has suffered in recent years, with German lenders especially having struggled, but said that Danmarks Skibskredit has in contrast consistently proven that it has a strong business model. Schnack cited the issuer’s loss performance record, noting that over the last 10 years its realised credit losses averaged below 10bp of its loan portfolio.

“What is the magic behind that? Of course, there is no magic,” he said. “But our focus is on the first line of defence and that will always be the ship owners, so we try to pick the best ship owners in the world and then we will have relatively few but top names in the ship industry.

“The benefit we get from that is that these companies are often controlled by families with a long, proven track record in the shipping market and know how to deal with the cyclicality, and often backed by a good balance sheet. That means they have additional collateral they can provide to us in a situation where the ship drops in value and thereby be in compliance with the minimum value clause.”

LBBW’s Just noted that Danmarks Skibskredit’s covered bonds were downgraded when in 2008 and 2009 all ship covered bonds were downgraded, even though the issuer did not face the same challenges as its German peers, which have a different business model. Schnack noted that as far back as 1998 Danmarks Skibskredit was assigned an Aa3 unsecured rating by Moody’s.

“Since then we have shown steady performance no matter the volatility in the capital markets and the financial markets, nor the financial crisis and the shipping crisis,” he said. “Suddenly, Moody’s changed their perception because of the crisis.

“A lot of our peers were having difficulties in finding enough funding and were suffering credit losses. But we were never presented with a company specific analysis that showed we would not be able to make timely payment in a very stressed scenario.”

In February 2016 Danmarks Skibskredit terminated its rating arrangement with Moody’s but since that month its covered bonds have been rated A by Standard & Poor’s. S&P agency assigns two notches of uplift over its BBB+ rating of the issuer because of the strength of the Danish framework and the covered bonds’ exemption from bail-in. Schnack noted that the A rating means the covered bonds are LCR Level 2A eligible.

The covered bonds are issued under the Danish specific balance principle (rather than the general balance principle), and Schnack told The Covered Bond Report that he expects the issuer to continue to follow the specific balance principle in the foreseeable future.

“Under this principle there is no direct interest rate or currency risk and we do not have refinancing risk that cannot be covered by our own funds,” he said. “Generally speaking, our funding has longer maturity than our lending.

“We do not provide short term bullet loans with short term refinancing risk for the borrower and we do not have the same pass-through system as is normally the case for the issuance of Danish covered bonds backed by real estate. Hence we have the opportunity to do prefunding.”

Outstanding Danmarks Skibskredit covered bonds issued before 1 January 2008 are CRD-eligible until maturity, even though there is no requirement for regular compliance regarding loan to value ratios (LTVs). Those issued after 1 January 2008 are defined as ship mortgage bonds and – as with realkreditobligationer (ROs) issued by Danish mortgage credit institution – do not qualify for CRD covered bond designation, but they are on the European Commission’s list of bonds meeting the requirements of Article 52(4) of the UCITS directive.

Danmarks Skibskredit now has the authorisation to issue CRD-eligible covered bonds (særligt dækkede obligationer, or SDOs), which meet ongoing LTV requirements, and it is these that the issuer plans to offer to euro investors.

“All our existing bonds issued are UCITS-compliant whereof some are ‘grandfathered CRD’,” Schnack said. “In the Danish market it has worked fine and we have subsequently saved the issuance of CRD-compliant bonds as an option.

“We are advised that in the euro market the preference will be for CRD-compliant bonds so we continue to work on that assumption.”

Danmarks Skibskredit is the only specialist ship lender issuing covered bonds in Denmark.

Photo: Per Schnack (centre), speaking at the LBBW European Covered Bond Forum