Covered Bond Wars: US vs. Canada

There’s an interesting dichotomy playing out in the markets over the past couple of weeks over the support that the US and Canadian governments are prepared to provide to the future development of Covered Bonds  in each of their respective markets.

In the US, the FDIC is throwing a fit over recently proposed legislation that would seemingly align US covered bond structures with the same types of investor protections that covered bond investors have come to expect in Europe and other active covered bond markets.  The FDIC’s central bone of contention seems to be that any sniff of preference for covered bond investors when it comes to issuer bankruptcy or liquidation is bad legislation.

This reaction by the FDIC is perhaps the best evidence about what their “real position” is in connection with the “Orderly Liquidation Authority” recently granted to the Corporation under Dodd-Frank.  While the FDIC has recently indicated that it would not be their intention to void claims made by holders of securitized bonds of an issuer in receivership, certainly this reaction to the covered bond legislation would seem to indicate that they at least want to keep their options open, if not worse.

The Canadian government, on the other hand, seems to be fast tracking legislation that will make it even more clear that covered bond holders should be able to expect that their lien against certain pledged cash flows from mortgages or other pledged assets, will be protected under Canadian law.

We have always felt that the covered bond market was mostly a novelty, attractive to certain types of issuers and we don’t really feel that the purported issuer benefits associated with the structure when applied under a Basel III regimen are that meaningful.  The real issue here is the viability of the tested concepts of “non-recourse” and “true sale treatment”.  Without one or probably both, you can’t have a securitization marketplace.

You can argue that Covered Bonds aren’t really a securitization and we would be the first to agree.  However, the fact that they are being pitched to structured finance investors as a replacement for securitized instruments, is telling in its own right.  What covered bonds have really become is a more “politically correct” alternative to traditional securitizations; nothing more and nothing less.

As they say….. It is what it is!  If this is what we have to look forward to then it seems pretty clear that the Canadians get it, while US regulators continue to lag behind.

About markferraris
Managing Principal Orchard Street Partners LLC

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