The European Commission today (Monday) proposed harmonised rules for covered bonds, via a Directive and associated Regulation, with no major surprises immediately apparent. Adoption of the rules is sought by 2019, with a 12 month phase-in period expected.

Valdis Dombrovskis, vice president responsible for financial stability, financial services and Capital Markets Union (CMU), introducing the package in a press conference in Brussels today, amid other CMU measures.

“Covered bonds are a stable and cost-effective source of financing that fared well during the crisis,” he said. “They are very popular in some member states, but in others they are barely in use.

“Our proposal seeks to develop this market further by drawing on the high standards and best practices of national systems. This will provide new, safer investment opportunities for investors and will help reduce borrowing costs for bank loans, with up to EUR1.9bn in potential annual savings for EU borrowers.”

As had been expected, the proposal consists of a Directive and a Regulation.

In the Commission’s words, the proposed Directive:

●      provides a common definition of covered bonds, which will represent a consistent reference for prudential regulation purposes;

●      defines the structural features of the instrument (dual recourse, quality of the assets backing the covered bond, liquidity and transparency requirements, etc.);

●      defines the tasks and responsibilities for the supervision of covered bonds; and

●      sets out the rules allowing the use of the “European Covered Bonds” label.

Issuers will be allowed to use the label European Covered Bonds for covered bonds that meet the requirements set out in the Directive, alongside national denominations and labels.

The proposed regulation principally amends Article 129 of the Capital Requirements Regulation (CRR), with the aim of strengthening conditions for granting preferential capital treatment for covered bonds, adding further requirements on minimum overcollateralisation (OC) and substitution assets.

Market participants and analysts were still poring over the details of the documents at the time The CBR went to press, but several said the proposals contained no major surprises.

“The wording is quite enigmatic,” said one market participant.

Some bankers highlighted as being notable that the amendments to the CRR include the introduction of a new minimum OC requirement of 2% or 5%, depending on the assets’ valuation model, whereas an earlier draft of the regulation had suggested the 5% minimum would generally apply to covered bonds backed by ship and commercial real estate loans and the 2% minimum would apply to other assets.

“This is more in line with current market practices, and should therefore be welcomed by individual countries,” said Ted Packmohr, head of financials and covered bond research at Commerzbank.

The proposal is now to be discussed by the European Parliament and the Council. Once adopted, the Commission expects an implementation period of 12 months before the new regime starts to apply.

The Commission has called for the adoption of all legislative proposals relating to the CMU by 2019, ahead of the next European elections.

“Personally, I had expected a longer transition period,” said Packmohr. “A one year period might not be very long if you consider, for example, a country where major elections have just taken place or are about to take place.”

The European Mortgage Federation-European Covered Bond Council (EMF-ECBC) today welcomed the adoption of the Commission’s covered bond package. The industry body stressed the importance of the final outcome striking the right balance between safeguarding the smooth functioning of the market and upholding the product’s clear qualitative standards.

“We greatly appreciate the constructive dialogue that has taken place to date between the Industry and the EU Institutions on this crucial topic for the Union, as well as the proposal’s recognition of the fundamental role played by the Covered Bond Label as a globally recognised benchmark in improving transparency, harmonisation and setting high qualitative standards,” said Luca Bertalot, secretary general of the EMF-ECBC.

“As we move forward with the implementation of the Directive, the industry stands ready to continue its key role in supporting the European institutions’ push for a strong EU covered bond framework to improve the efficient funding of the real economy and to contribute to the further development of covered bonds across the whole EU.”

Bertalot told The CBR that the ECBC has activated a taskforce on the legislative package, asking legal experts in each of its constituent markets to review the documents and identify any potential problems – either on a national level or at the European level. Any such issues will then be discussed by the ECBC steering committee in its next meeting in Vancouver next month.

The Association of German Pfandbrief Banks (vdp) also welcomed the proposals, stating in particular that they leave room for national specificities and are compatible with the existing standards of the Pfandbrief Act, leaving room for qualitative further development of national products such as the Pfandbrief.

The Commission said its proposals are largely based on recommendations from the European Banking Authority (EBA), which proposed a three-step approach to harmonisation in December, and also builds on best practices defined by the EBA.

The Commission notes that its proposals deviate from the EBA recommendations only in minor areas, “e.g. as regards the level of detail concerning derivatives belonging to the cover pool; in the cover pool monitor not being mandatory; and, in the level of overcollateralisation”.

In July, the European Parliament also voted through an own-initiative report from the Committee on Economic & Monetary Affairs (ECON), in which the Parliament gave its support for legislative action to harmonise EU covered bonds. Commission representatives have said that EU member states also approve of principles-based EU legislation.

Finer points of the Directive and Regulation proposed will be covered in further articles.