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Brexit, securitisation and covered bonds

24 June 2016
Richard Kemmish

I’ve commented here before on the possible implications for the covered bond market of the UK’s decision to leave the European Union (when it was just a possibility). Now that we know the result though one more comment, this time about its impact on our cousins in the securitisation market. What happens in the glamorous world of securitisations is more relevant to covered bonds than it used to be for several reasons.

Firstly, the ECB purchase programme that has so dominated spreads in our market has had relatively little impact on the securitisation market as volumes there have been so disappointing. The purchase programme volumes are top down, not bottom up so for any given amount of bonds to purchase, someone in Frankfurt has to make a decision where to buy them. For all of their protestations of market neutrality and being a price taker, it is clear that in both the covered bond and agency sectors this is far from the case. The ability to buy corporates might release some of the buying pressure but if the ECB felt comfortable purchasing ABS the covered bond market would be the main beneficiary.

Secondly, from the issuer side. Are securitisations and covered bonds substitutes for one another? I would argue that in the past: no. Now: increasingly.

When securitisations freed up lots of bank capital, released risk associated with assets and funded very specific and often idiosyncratic assets, they were primarily an asset funding tool. All of that has changed. Securitisations are required to have much higher levels of risk retention (both by the 5% rule and by the diminished market for the bonds that serve as credit support). That makes them less effective tools of capital management but better funding tools.

Also, lending volumes are low – money raised in a securitisation is less likely to be recycled to new assets (that is, the real economy) and more likely to be used as a substitute for other funding sources.

Finally, partly as a consequence of this, partly for regulatory reasons and partly for diminished risk appetite, bank securitisations are increasingly dominated by the same type of asset that are eligible for covered bonds. As the market for securitisations such as CDOs remains moribund, the fuel of choice for securitisation structures is increasingly prime residential mortgages.

Arguments about the relative collateral and cost efficiency of securitisations and covered bonds were always a little academic when banks could easily use their non-covered bond eligible assets for their securitisations. Now that this isn’t the case, that the two products are fulfilling the same role for the bank treasurer and that the two are good substitutes for the buy-side (at least for the biggest buyer in town), the two markets are more inextricably linked than previously.

But what has this got to do with Brexit? Was that just a cynical title to get you to read the post? No. But I’ve hit my word it will have to wait for next time.

To hear more about this topic, make sure to register for the Euromoney UK Conference this September. 

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