Regulated. Who cares?

27 May 2014 | Richard Kemmish


Westpac look set to be the first issuer to bring a covered bond under the new(ish) covered bond law from New Zealand. Until now all Kiwi covered bonds have been structured but like the Canadians, Dutch and British before them they are switching from a structured to a regulated framework. 

Like the Canadians but unlike the British there will be no conversion of the existing bonds into the new legislation (technically, not grandfathering. The British bonds weren’t excused registration because they existed before the regulations, they were retrofitted to the new regulations).
 
Does it matter? No and yes. 

No because one of the main reasons for a covered bond law just doesn’t apply in New Zealand. In order to qualify as a real covered bond under EU law you need a “...special regulatory regime designed to protect the interest of covered bond holders...”, which the new New Zealand law now has. But the rest of the definition also specifies that the issuer must be a “credit institution in a member state” (my italics. Member state here means member of the EEA, not just the EU. Nigel Farage would approve). So, short a very major redefinition of Europe, Kiwi covered bonds don’t qualify for preferential treatment for European investors. 

On the other hand, yes. Because a special regulatory regime isn’t just a legal nicety to tick a box, it actually is a special regime that actually does protect the investor. In fact in common with most of the non-European covered bond frameworks that don’t qualify for the treatment, the New Zealanders seem to have taken the ‘more Catholic than the Pope’ approach to regulations. So investors can take very substantial comfort from the regulatory oversight. 

So, if in substance the New Zealand law achieves the same or better credit protection, how defensible is that ‘EEA only’ rule?  Not particularly. It was first drafted many years ago when it was inconceivable that a covered bond would ever be issued outside the EU (I think it was still the EEC in those days. Just like the Euro was then the European Unit of Accounting). It certainly doesn’t make much sense from an investor protection standpoint (leaving aside the current health of the NZ economy, non-EEA covered bonds reduce correlation risk in covered bond portfolios). 

For me the only possible defence of the EEA only rule is reciprocity: we don’t give preferential treatment to their covered bonds because they don’t give it to ours. But New Zealand (Aussie or Canadian) law doesn’t give preferential treatment to any covered bonds, even their own, which brings me to the great asymmetry:

In Europe, if you do all of the things the law asks you to then you have a covered bond. If you have a covered bond, you get all of these benefits as an investor. 

Elsewhere, if you do all of the things the law asks you to then you have a covered bond. And that’s it.

If New Zealand wants European investors to give their covered bonds preferential status, they could start by doing the same thing themselves. 

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