Moody's: Development of Asian covered bond market would benefit from additional regulatory support

Moody's Investors Service says that additional regulatory support can help further the development of the region's covered bond markets.

Furthermore, such supports -- as identified by market participants -- would include increasing the percentage of assets that the banks can use to issue covered bonds and allowing them to become eligible for repurchase transactions with central banks.

In the case of Singapore, for example, increase in issuance percentage may provide more incentive for foreign banks incorporated in Singapore -- which have smaller mortgage portfolios, when compared to the country's three largest banks -- to issue covered bonds, because greater issuance amount would increase the cost effectiveness of covered bond programs.

 

"Being eligible for repurchase transactions with central banks would be credit positive for Asian covered bonds because of the potential reduction in refinancing risk, which refers to the market-value risk in selling the cover pool to repay investors when the issuer is in default," says Joe Wong, a Moody's Vice President -- Senior Analyst.

"It will be more attractive for banks to purchase cover pools if they can be funded by central banks via repo transactions, and the discount in selling the cover pools would be reduced accordingly," adds Wong.

"Covered bonds are a viable funding option for financial institutions in some Asian common law countries," adds Jerome Cheng, a Moody's Senior Vice President.

"Although currently Asian covered bond funding costs may only be marginally cheaper than unsecured debt in some countries, the cost savings offered by such bonds can be more significant in the case of a financial crisis," says Cheng.

At the same time, market participants at the March meeting also noted hurdles to large-scale issuance of covered bonds in Asian countries where they are not currently issued.

These include the lack of covered bond legal frameworks, uncertainty over the cost savings provided by cross-border covered bonds, and the prohibitive cost of currency hedging that is required for cross-border covered bonds.

Market participants also discussed the prospect of Asian cover pools including assets other than residential mortgage loans, including green bonds, green mortgages, credit card receivables and auto loans.

In Moody's view, different asset types may introduce additional risks for covered bonds, such as credit and refinancing risks, though these risks can be mitigated by additional over-collateralization. Residential mortgage loans have higher credit quality than many other asset types because they are secured by high quality assets.

Moody's also notes that it has rated transactions backed by corporate bonds and credit card receivables and that while these deals posed additional risks, they also included additional over-collateralization compared to standard covered bonds.

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