Estonia’s LHV Pank is planning to enter the covered bond market after having gained regulatory approval earlier this month. Head of treasury Kadri Haldre told The CBR how it is planning sub-benchmark issuance after the acquisition of a Danske portfolio gave it the appropriate critical mass.

On 19 March, LHV announced it had been granted permission by the European Central Bank to issue covered bonds. It is now set to become only the second Baltic covered bond issuer, after compatriot Luminor Bank opened the market with a €500m no-grow five year in early March initially backed by Estonian mortgages but with plans to add pan-Baltic collateral to its cover pool.

With its leading competitors foreign-owned, LHV is the largest domestic financial group and capital provider in Estonia, as well as being the third largest bank overall.

In November 2019, LHV finalised the acquisition of a private loan portfolio of around €470m from Danske Bank’s Estonian branch, 97% of which is comprised of home loans. The acquisition increased LHV’s loan portfolio by some 40%.

The bank – which is rated Baa1 by Moody’s, with a stable outlook – is now acquiring a rating for its planned covered bond issuance. In a statement accompanying the announcement of the regulatory approval, LHV noted that covered bonds will also allow it to use ECB facilities in difficult times.

The Covered Bond Report: Why is LHV planning to issue covered bonds?

Kadri Haldre, LHV: LHV is planning to issue covered bonds in order to diversify its funding structure. LHV’s funding has so far been mostly based on deposits from its Estonian customers. Additionally, in order to fund the acquisition of the portfolio of mortgages from Danske Bank Estonia (the acquisition was closed in November 2019), LHV raised funding from deposit intermediation platforms. These platform deposits come at a relatively high cost so the more immediate purpose for issuing covered bonds is lowering the cost of funding for the bank.

The CBR: When did you first consider issuing covered bonds? Was LHV involved in the work on introducing legislation?

Haldre, LHV: Covered bonds have been on our radar but we started seriously considering them after the legislative framework was adopted in Estonia in March 2019 and once we knew that the acquisition of the Danske mortgage book would happen. Our people participated in the banking association work group that was involved in the drafting of the Estonian Covered Bonds Act so we already had good knowledge of how the set-up works.

The CBR: How integral was the acquisition of the Danske private customer loan portfolio to your strategy and issuance plans?

Haldre, LHV: The acquisition of this portfolio certainly made us move a lot faster than we would have otherwise. The acquisition has given us sufficient scale to issue covered bonds as it substantially grew our mortgage loan book.

The CBR: What are the next steps LHV is planning to take to prepare for issuance? When are you hoping to launch the covered bond? Has the coronavirus crisis affected this?

Haldre, LHV: As has been announced, we recently received the authorisation from the regulator to issue covered bonds. We have in fact been in preparations for setting up the covered bond programme and getting it rated for quite some time now. Our plan has been to come to the market some time before the Nordic summer holidays. Now with the coronavirus situation we will of course be monitoring the markets to see what is feasible.

The CBR: Around what size will the issue be?

Haldre, LHV: Given the size of the bank, we are targeting a sub-benchmark issue, up to €300m. We want to spread out maturities over time and also the sub-benchmark size would enable us to be back in the market in 12 to 18 months.

The CBR: How do you feel the Baltic market is positioned with Luminor having launched the first deal?

Haldre, LHV: Luminor’s transaction was very well received and we certainly hope that there is appetite among investors for more issuers from the region.

The CBR: How is your cover pool shaping up?

Haldre, LHV: LHV’s cover pool will include Estonian residential mortgages only, so from this perspective it will be different from Luminor’s. Our cover pool is a combination of mortgage loans provided over the past few years by LHV and a back-book that we acquired from Danske. Overall, it is a very well-seasoned cover pool with very reasonable LTVs.

The CBR: Do you expect covered bonds to play a prominent role in your funding?

Haldre, LHV: We certainly expect that covered bonds will be a permanent part of our funding mix in the future. In terms of absolute amounts, we still expect that deposits will provide a significant share of total funding. However, we want to grow our presence in the capital markets and build relationships with the investor community. We are now the third largest bank in Estonia and we think we need to build access to capital markets-based funding as well.

The CBR: What does the future hold for the Estonian and Baltic covered bond markets?

Haldre, LHV: Now that the opportunity to issue covered bonds has been created, I absolutely see more issuers coming to the market over the next years.