Monday 28th of May 2018

labor's new constituency ....

labor's new constituency ....

It was with a silken touch that the government slipped the bank lobby's ''covered bond'' legislation through the Senate a little more than a year ago.

They are not so keen on covered bonds overseas. And while the prudential regulator APRA had protested that they favoured big creditors to the disadvantage of the mums and dads, the Reserve Bank, Treasury and the big banks won the day.

Now the evidence is in. Covered bonds have brought down bank costs even further. In a confidential note to its institutional clients, Westpac describes the fall in wholesale funding costs over the past year as ''extraordinary''.

No longer can the banks rely on that hoary old chestnut of ''high funding costs'' to pass off their failure to match the successive cuts in the official cash rate.

Margins are fatter than ever, veritably bulging, and there is scant proof that borrowers are getting their grimy fingers on a single cent of it. It's a good thing for shareholders though, some cautious at the listless growth in credit.

The story that the banks spin to their big clients, as opposed to the rest of us, is about as similar as the Chinese and Japanese perspective on who owns the Senkaku Islands.

While the public rhetoric has adamantly clung to the line that ''it's tough out there'', Westpac confides to the institutions that, over the past year ''the spread compression has been an extraordinary performance''.

In this month's missive to institutional clients, called Covered Bonds with the Institutional Bank, the cost of wholesale funding has halved over the past 12 months, from 120 to 60 basis points over the swap rate.

Covered bonds with a five-year maturity are fetching a 30-point premium to others. Yet the frustrating bit for borrowers is that, while all wholesale funding spreads ''continued to grind tighter'', the banks, in their habitual lock-step, recoiled from passing on the full cuts in the cash rate. It's down from 4.25 per cent to 3 per cent.

About $40 billion in covered bonds have been issued since October 2011 when the government bestowed the cartel with its latest legislative leg-up (the last of the sovereign guaranteed bonds, another freebie, are pricing 30 points better than the covered bonds).

Of the big four, the CBA leads the way with $15 billion of the roughly $40 billion on issue.

Looking back, in January 2005 the standard variable rate was 7.05 per cent (now 6.5 per cent) and the cash rate 5.25 per cent (now 3 per cent). Add a 30-point funding margin and you get to 5.55 per cent.

For the sake of comparison, then, there was a 1.5 per cent margin eight years ago. Today, the cash rate is 3 per cent, so the banks are paying 3.6 per cent for their money versus the standard variable of 6.5 per cent. This is the undiscounted rate mind you - most borrowers should be forking out 5.6 per cent - but we are comparing apples with apples here.

This 6.5 per cent minus the 3.6 per cent bond rate plus costs constitutes a margin of 2.9 per cent compared with the 1.5 per cent earlier. It is an increase of more than 90 per cent in eight years.

Another interesting point in the wholesale funding game - and now we refer to another document, the Westpac Institutional Bank Floating Rate MBS Revaluation Sheet - is that what the bank is telling its clients appears to diverge quite considerably from actual market prices.

This revaluation sheet assists institutions to price all fixed-interest products including RMBS (residential mortgage-backed securities) issued by the likes of AIM, Firstmac and Pepper.

Something peculiar is going on. According to contract notes that this reporter has seen, there are mortgage bonds, for instance, which Westpac values at $82 (yielding 9.2 per cent or 650 points over swap) that are actually changing hands at $87.

A Macquarie Bank valuation of the very same bond in January was $92.50.

This may be an extreme example, yet there appears to be a pattern of some banks pricing non-bank paper issued by their rivals below market value. Perhaps it's a matter for the ACCC.

The banks will contend, and plausibly, that the discrepancy comes down to liquidity.

It is quirky, though, that a covered bond of the same duration trades at just 60 points over swap versus 250 for its RMBS equivalent.

Both are covered by mortgages, both regulated by APRA, both enjoy a pristine history of default. The difference is that one is issued by a bank and the other by a non-bank lender, enhanced via a trust and insured by the likes of QBE or Genworth.

The bottom line is that, when it comes to the cost of funding, the non-bank lenders still can't compete as they did before the financial crisis.

And while the big banks have grown their market share to well over 90 per cent of new home loans in the past four years, they still command a margin of 2.85 per cent on that exquisite asset called an Australian mortgage.

Nice work if you can get it - but banking licences don't grow on trees.

Banks Laughing All The Way To The ... Bank


covered bonds...


Covered bonds were created in Prussia in 1769 by Frederick The Great and in Denmark in 1795. Danish covered bond lending emerged after the Great Fire of Copenhagen in 1795, when a quarter of the city burnt to the ground. After the fire, a great need arose for an organized credit market as a large number of new buildings were needed over a short period of time. Today nearly all real estate is financed with covered bonds in Denmark, and Denmark is the 3rd largest issuer in Europe.

In Prussia these Pfandbriefe were sold by estates of the country and regulated under public law. They were secured by real estate and subsidiary by the issuing estate. In about 1850, the first mortgage banks were allowed to sell Pfandbriefe as a means to refinance mortgage loans.With the mortgage banks law of 1900, the whole German Empire was given a standardized legal foundation for the issuance of Pfandbriefe.

Pfandbriefe are quite common in Germany and Europe and are utilized as a financial instrument with great success. In its more than 200 years of history, there was not even a single case of a defaulted Pfandbrief.

For this reason and due to the security provided by the cover pool, covered bonds were one of the first markets to recover following the global financial crisis of late 2008.


On 28 July 2008, US Treasury Secretary Henry Paulson announced that, along with four large US banks, the Treasury would attempt to kick-start a market for these securities in the USA, primarily to provide an alternative form of mortgage-backed securities. The guidelines issued specifically address covered bonds backed by pools of eligible mortgages.

The Federal Reserve also announced that it would potentially consider highly rated covered bonds as acceptable collateral for emergency fund requests. Because the United States has already shown a robust market for other securitized debt products, regulators have been promoting the covered bond market strategy.

[edit]New Zealand

On 3 June 2010, Bank of New Zealand announced that it had launched the first covered bond programme in Australasia. Covered bonds issued by Bank of New Zealandwill be rated 'Aaa' by Moody's Investor Service and 'AAA' by Fitch Ratings. No issuers in New Zealand, Australia or surrounding countries have issued covered bonds previously.


On 12 December 2010, the Treasurer of AustraliaWayne Swan, announced that Australia would change its financial regulations to allow covered bonds.[1] The Australian Securitisation Forum has attempted to get APRA to allow ADI's to issue these bonds for several years - without success. More recently the major Banks have been lobbying for this, stating that Australian Banks would be at a disadvantage to their international counterparts.

Legislation authorizing issuance of covered bonds by Australian financial institutions won support from the minority Labor government and the opposition in the house of representatives on the 12th of October 2011. The bill then passed to the senate where it was passed the next day, 13 October.[2]

In November 2011 ANZ Banking Group released Australia's first Covered Bond issue.[3]


Covered bonds should help banks provide cheaper morgages... 


the game has changed ....

Hi Gus,

Yes, your right ... they should but, as the article points out, they haven't.


Well, the banks are rent-seekers like most from the corporate world these days & they have 'pocketed' the financial windfall that came their way courtesy of new Labor.

There was a time when the Labor Party knew that the banks could not be trusted & wouldn't have a bar of them. Today's Labor is much more concerned with winning the Banks' endorsement & support of its policies ... at a price of course.

How the game has changed Gus.