Banking Amendment Bill positive for Australian banks: Moody’s

"For covered bonds, it would ensure the ring-fencing of a cover pool, support the segregation of the pool following an issuer default, and require an independent cover pool monitor, and minimum overcollateralization," says Jennifer Wu, a Moody's Vice President and Senior Credit Officer within the Structured Finance Group.

Wu was speaking on the release of a Moody's special comment -- which she co-authored -- on the proposal.

On 15 September, 2011, the Australian Deputy Prime Minister and Treasurer introduced the Banking Amendment (Covered Bonds) Bill 2011 to Parliament. Its amendments to the Banking Act would allow banks, credit unions and building societies to issue covered bonds in the Australian market.

"Moody's also notes that the bill does not address operation, substitution and servicer-disruption risks. At the same time, contractual arrangements may address these risks as well as the allowance of aggregating issuance," adds Wu.

The Moody's report continues to discuss a wide range of issues, including ring-fencing of a cover pool; an independent cover pool monitor; minimum overcollateralization; cover pool substitution; operational risk; servicing disruption, and aggregate issuance.

For the banks, while the bill would allow them to diversify their wholesale funding profiles, its 8% issuance cap would also limit the negative impact on unsecured creditors of the effective subordination created by covered bonds.

"In summary, Moody's views proposed covered bond issuance by Australian banks as credit positive for the banking sector, assuming it is used to replace existing wholesale funding issuance, particularly other forms of secured funding," says Marina Ip, a Moody's Assistant Vice President within the Financial Institutions Group, and co-author of the report.

"Furthermore, the banks will be able to use such bonds to lengthen the average tenor of their debt funding maturity profiles, as well as bring diversification to their wholesale funding profiles by allowing them to tap into a new investor base," says Ip.

Covered bonds represent a form of secured funding for banks. Such funding involves the pledging of assets to support a debt issuance, and includes instruments such as covered bonds, traditional forms of securitization (e.g. residential mortgage-backed securities or RMBS), and repos with the central bank.