Standard & Poor’s expects new issuance to be challenging in 2012 despite a good start to the year, noting that a poor economic backdrop may hurt peripheral covered bond prospects and that pricing is significantly wider than 12 months ago.

With respect to ratings S&P said that implementation of its updated bank criteria has prompted some changes for issuer credit ratings, but that the majority of covered bond programmes can withstand a one notch downgrade of the issuer without the covered bond ratings being affected.

In a report released on Tuesday it said that new issuance could be “bumpy” in 2012, despite a recent rush of supply.

“The bleak economic backdrop may hurt covered bond prospects,” said S&P, “especially for countries such as Spain, Greece, Portugal, and Italy, where originators will likely retain issuance for use as collateral in ECB refinancing.”

There has been no benchmark covered bond issuance this year from peripheral issuers, unlike in the early weeks of 2011.

About Eu100bn in benchmark covered bond issuance is set to redeem in 2012, less than last year, according to S&P. The rating agency said that even if new covered bond issuance funds all these redemptions, volumes may therefore decrease. It said overall outstanding balances globally are likely to remain broadly flat for 2012.

S&P said that it expects covered bond markets in Germany, Scandinavia, the UK, and France to be more resilient, but that spreads are likely to be higher than observed one year ago.

Germany has the largest covered bond market by outstanding balance, but 2012 could be another year where net issuance is negative. S&P anticipates that the total outstanding balances will fall, particularly on the back of shrinking public sector programmes.

“With some of the largest Pfandbrief issuers downsizing and reshaping their businesses and lending strategies, the German covered bond market is likely to shrink further,” it said.

The rating agency said it is difficult to predict whether other European countries might pick up the slack, adding that last year’s turbulence did not help new covered bond jurisdictions establish themselves.

The rating agency was also not optimistic about the chances of the US market contributing significantly to new issuance volumes in 2012 because preliminaries to the upcoming presidential election mean US lawmakers may not establish a covered bond legal framework until 2013.

It considers changes in sovereign and bank credit ratings as more likely than collateral performance to spur covered bond rating changes in the near future.

S&P’s covered bond ratings are strongly linked to its issuer credit rating on the programme sponsor. The sponsor rating could be affected in the short term by a recently updated rating methodology for financial institutions, as well as by the rating agency’s recent changes in sovereign ratings.

“Given the current focus on public sector indebtedness in many countries,” said the rating agency, “the picture for public sector covered bonds may be a little gloomier, especially for programmes that are exposed to peripheral European countries.

“Covered bond issuers have almost completely reduced their exposure to Greek assets in public sector cover pools, but some programmes remain exposed to assets in Spain, Portugal, and Italy, as well as the issuers’ home markets.”