The Consultation Document on Covered Bonds in the EU seeks views on a reform agenda for the European covered bond market that would promote a more integrated EU framework for covered bonds based on high quality standards and best market practices (taking into account an EBA Report of July 2014 on EU Covered Bond Frameworks and Capital Treatment), with the ultimate aim of improving funding conditions and facilitating cross-border investment and issuance. Two possible options for the introduction of an EU-wide covered bond regime are provided:
- Voluntary convergence of Member States' existing covered bond laws in accordance with non-legislative coordination measures (such as a Commission Recommendation based on EBA best practices); or
- The introduction of EU-wide product legislation on covered bonds that would either harmonise existing frameworks or provide an alternative, "29th" framework (encompassing a definition of "covered bond" and establishing standards for issuer models and licensing requirements, ongoing supervision and cover pool monitoring, the dual-recourse principle, segregation of the cover pool and its administration, issuer insolvency issues, eligible cover pool assets, the coverage requirement and over-collateralisation, risk mitigation and transparency requirements, as well as setting out the interaction between covered bonds and the Single Supervisory Mechanism).
The Consultation Document goes even further by setting out a hypothetical yet comprehensive EU-wide covered bond framework based on the EBA's Report, that includes a new definition of "covered bond" that would expand on the current definition in the UCITS Directive, revised prudential requirements, the identification (and, crucially, recognition) of "equivalent covered bonds" from third countries, a system of public supervision, licensing requirements, the use of special purpose vehicles (SPVs) to ring-fence cover pools, a new dual-recourse principle, the incorporation of the cover pool as a regulated entity, the appointment of a cover pool special administrator, the ranking of cover pool liabilities, insolvency rules, and qualifying criteria for eligible cover pool assets. Highlighting the challenge posed by the increasing encumbrance of assets on bank balance sheets, the Commission notes that a more integrated EU framework could help mitigate asset encumbrance, partly through a narrowly-drafted definition of eligible cover pool assets that a single, EU framework could deliver.
Providing a useful, in-depth analysis of covered bond market data from across the EU and considering the disparity between legal frameworks and supervisory practices, the Consultation Document seeks input on questions relating to pricing conditions, operational costs, whether there is misalignment of the regulatory treatment between covered bonds and other collateralised instruments (such as asset-backed securities), whether there are legal or practical obstacles to cross-border investment in covered bonds, the benefits of an integrated framework, the efficacy of the existing (voluntary) covered bond "Label", whether a Commission Recommendation would be sufficient to achieve the aims of the consultation, whether the Commission's list of areas to be covered by an alternative framework are sufficient, the merits overall of developing an EU-wide framework (given that national regimes differ considerably in some ways), how legacy transactions should best be dealt with, the most appropriate approach to pooling and segregation, supervision issues, specific issues with regard to the definition of certain assets as cover pool assets, the inclusion of other assets (such as aircraft, ship and SME loans) in cover pools and whether mixed pools should be allowed, how the coverage requirement should work, whether a mandatory level of over-collateralisation should be introduced and at what level, whether the proposals would sufficiently mitigate market and liquidity risks, and whether more detailed transparency and disclosure requirements should be introduced for covered bonds. Responses to the Consultation Document (via an online questionnaire) are requested by 6 January 2016. There is a great deal of material on which to respond, and market participants are expected to provide comprehensive responses to the Consultation Document, not least since detailed, national covered bond frameworks have been long-established in some EU jurisdictions.