CI Ratings released a proposed covered bond rating methodology today (Friday), after having flagged its intention to expand into the market in March. Its methodology will in general allow for instruments to be rated up to nine notches higher than their issuers.

Capital Intelligence (CI) Ratings is one of a handful of rating agencies to make a push into covered bonds in recent years to compete with the established players. It signalled its intent to do so in March, when it announced it had joined the European Covered Bond Council and hopes to rate covered bonds in emerging markets, where it is most established, and beyond.

Senior covered bond analyst Kathleen Gamper, who previously worked on RMBS and covered bonds at S&P, is leading CI Ratings’ covered bond analysis.

The proposed methodology will take an issuer’s long term Issuer Credit Rating (ICR) as the floor for covered bond ratings, and then allow for up to six notches of uplift based on the respective Legal & Regulatory Framework (LRF) and additionally up to three notches to reflect Cover Pool Adequacy (CPA). The rating agency will then factor in other risk drivers, notably counterparty risk and sovereign risk, as well as any structural enhancements to mitigate such risks.

CI Ratings analytical pillars and notching

*Subject to consideration of counterparty and sovereign risk, as well as structural enhancements; Source: CI Ratings

The maximum gap between a covered bond rating and the issuer’s ICR will generally be restricted to nine notches, said CI, unless a higher rating is warranted by particularly strong idiosyncratic or mitigating factors.

A German issuer with an ICR of BBB- with a weak cover pool was given as an illustrative example by CI. In this case, the Legal & Regulatory Framework assessment allows an uplift of the maximum six notches (to AA-), but only one additional notch of uplift is possible according to the Cover Pool Adequacy because the cover pool and covered bonds only pass stresses at the AA level – hence the final covered bond rating is AA.

Example: German issuer with a weak cover pool

Source: CI Ratings

The rating agency is seeking feedback by 11 October before publishing the final version.