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European Secured Notes: one or both?

01 June 2015
Richard Kemmish


There is a lot of debate in the UK currently about whether Gatwick or Heathrow airport should be allowed a new runway. The correct answer, as every long delayed frequent flyer into or out of London knows, is of course both.

Much the same could be said for the ECBC’s dual proposals for European secured notes. One is a covered bond lookalike with a different asset class, the other a securitisation lookalike with the benefits of covered bond market technology. Both are very valid proposals; the former is the easier, the latter more useful.

What are the prerequisites for having both?

Firstly, we need clear differentiation, not just a slightly different acronym. The common DNA between the products should end here and both products be developed separately. In the next couple of posts I’m hoping to cover a few of the reasons for this. 

In an ideal world the securitisation lobby would be more engaged with the second structure but their preoccupation with their own victimhood and inability to engage constructively with Brussels seems to preclude that.

Then we need to have enough investors to justify the growth of two, not one new asset class. The negligible overlap between the covered bond and securitisation investor bases suggests that this should not be a problem. Certainly there is enough frustrated demand for covered bonds currently that ‘covered bond lookalikes’ should be pretty easy to sell at a pretty miniscule spread over ‘proper’ covered bonds.

But the same probably can’t be said of the securitisation investor base, yet.  I’ve always argued that it was a collapse of the investor base not an inherent flaw in the concept that was the real problem of the securitisation market. But the pre-crisis investor base is clearly never going to return. Is there a new investor base with a preference for floating rate, amortising structures with shorter maturities? Bank treasury liquidity portfolios are the obvious candidate, but they won’t come in until the product is approved under the liquidity cover ratio rules.  

This is where the ‘it’s not fair’ attitude from the securitisation lobby is a problem. Rather than tell Commission that they’ve got it wrong by not allowing existing securitisation structures into LCR tier 1, surely it would be more constructive to work on a new product and investor base that would actually justify the treatment they crave?

The final prerequisite to having both markets is perhaps the most difficult – a need for funding which simply isn’t there in the banking system currently. To some extent this is a chicken/egg situation, banks will need more wholesale funding when the real economy grows. But it is also thanks to the actions of the European Central Bank. Slowly wean the banks off the drug of cheap liquidity and you can create a genuine push for both of these funding tools.

It is the number of planes landing in London that makes two new runways necessary – not the interests of runway builders.

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