Covered bond legislation introduced in Senate
A complete legislative framework for a future system for covered bond financing of mortgages made another step Wednesday when a bill was introduced in the Senate. Meanwhile, European covered bond issuers continue to reap the lion's share of the U.S. dollar-dominated covered bond market in the absence of any solid federal guidance. Sens. Kay Hagan (D-N.C.), Bob Corker (R-Tenn.), Chuck Schumer (D-N.Y.) and Mike Crapo (R-Idaho) introduced the United States Covered Bond Act of 2011. A House committee passed a similar bill from Reps. Scott Garrett (R-N.J.) and Carolyn Maloney (D-N.Y.). The Hagan-Corker bill would create a regulatory and oversight framework for U.S. covered bonds and clarifies the rights of investors in case of an issuer's insolvency. The key difference with Garrett's proposal would change who could issue covered bonds and moves nonbanks to the Federal Reserve's jurisdiction. Both bills would allow a U.S. covered bond market to pool residential and commercial mortgages into debt securities. At the end of 2009, the total outstanding volume of covered bonds reached $3.2 trillion and this year foreign banks have issued $32 billion of covered bond to U.S. dollar investors. Issuers of covered bonds are on the hook against losses. Payment to investors is via swap agreements and are meant to cover the scheduled payments should the issuer become insolvent or there is a discrepancy in timing, where the interest being paid on the loans does not align with payments due to investors. Nonetheless, regulatory insurers of the institutions themselves are concerned about recourse to assets in the case the issuer fails. A third party trustee represents covered bondholders. Adding these layers of additional recourse, as it compares to securitization, makes it pricier by comparison. Therefore, covered bonds often attract more institutional investors who tend to be huge sticklers for rules. "The U.S. lags behind its global peers in the development of a covered bond market because we lack a legislative framework for issuers and investors," Hagan said. "With a legislative framework in place, U.S. financial institutions will have a powerful tool that can be used to fund loans to small businesses and households." Issuers say covered bond legislation is necessary to garner confidence in the investor base. The U.S. Covered Bond Council, an organization under the Securities Industry and Financial Markets Association, said its members including major banks and pension funds would invest if legislation passes. Several European countries revised their covered bond regulations to breakdown barriers in order to access the American investor base. This includes easing restrictions on the U.S. dollar-derivative covered bonds. "Foreign financial institutions have more recently ignited domestic U.S. investor interest through issuance of U.S. dollar denominated covered bonds," Kenneth Bentsen, an executive vice president of SIFMA said Tuesday, as HousingWire reported in February. "U.S. financial institutions have not, however, been able to tap that same investor demand. We believe a dedicated legislative covered bond framework will provide investors with the certainty necessary for a robust covered bond market to develop in the U.S." While the Federal Deposit Insurance Corp. has not come out with either way on a covered bond framework, it has expressed unease. The House committee denied two amendments introduced by Rep. Barney Frank (D-Mass.) that would grant the FDIC powers to establish a covered bond oversight program and veto power for any program submitted by an eligible issuer. Frank said the FDIC was worried the covered bond program would put the still recovering deposit insurance fund at risk. "The FDIC has concerns not with the concept but with the extent to which the FDIC will be protected," Frank said during a previous House committee hearing. Still, investors continue to push on for a developed U.S. covered bond system. BNY Mellon, BlackRock, Goldman Sachs and TIAA-CREF are investors committed to the passage of a Covered Bond Act. "Covered bonds have demonstrated over a long period of time in Europe that they can play an instrumental role in getting credit flowing to consumers and small businesses, while simultaneously improving the financial stability of the institutions which issue covered bonds," said Ralph Daloisio, managing director of Natixis, an investment firm and member of the American Securitization Forum. Jacob Gaffney contributed to this report. Write to Jon Prior. Follow him on Twitter @JonAPrior.