A covered bond is a class of corporate bond which is usually issued by banks and backed by certain assets. They are viewed as high quality debt and normally achieve a high credit rating.
The EU has established a criteria for covered bonds which meet strict quality criteria in the UCITS Directive. Covered bonds that comply with the UCITS Directive benefit from higher prudential investment limits. UCITS can invest up to 25% of their assets in the compliant covered bonds of one issuer. The limit for insurance undertakings is 40%. According to the Capital Requirements Directive, covered bonds will benefit from a preferential credit risk weighting if they are (amongst other things) UCITS compliant.
Currently there is no UK legislative framework for covered bonds. HM Treasury and the FSA have now published a joint Consultation Paper, Proposals for a UK recognised covered bonds legislative framework. In this Consultation Paper HM Treasury sets out a proposed new legislative framework for covered bonds in the UK and the FSA consults on its proposed principles based implementation of the regime and its accompanying guidance. The legislative proposals in the Consultation Paper provide for the 5 requirements of the UCITS Directive in UK law:
The issuer must be a credit institution with its registered office in the UK.
- UK recognised covered bonds will be regulated by the FSA with particular regard to the protection of bond holders.
- The bonds will be supported by an asset pool containing (amongst other things) the sums raised by the issue of the bonds or eligible property of an equivalent value.
- The asset pool must have sufficient collateral to cover bondholder claims throughout the whole term of the covered bond.
- In the event of the issuer’s insolvency, bondholders have a priority claim on those assets.
Comments on the Consultation Paper are due by 15 October 2007. HM Treasury expects to be able to present the final regulations to Parliament in Q4 2007 so that the new regime can come into force on 1 January 2008.
View Proposals for a UK recognised covered bonds legislative framework, (PDF 991KB), 23 July 2007