SEP 20, 2013 2:54pm ET

Moody’s to Adjust Covered Bond Ratings Due to New European Rules

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Moody’s Investor Service is considering changing the way it rates covered bonds to take into account the additional support they would receive in the event of a bank failure.

The European Union has agreed to rules that would require certain bank creditors to forfeit part of their investment, or “bail in” the bank before taxpayers are called on bail it out. The rules specifically exempt covered bonds, which are securities backed by a pool of mortgages.

As a result of this preferential treatment, Moody’s is proposing to adjust upward the “anchor point,” or baseline it uses to rate covered bonds before taking into account the quality of the collateral. This anchor would be based on either the issuer’s senior secured credit rating or its “baseline credit assessment,” which is an assessment of its intrinsic financial strength, plus some uplift that takes into account the amount of benefit a covered bond would derive from a bail-in.

While the EU rules remain subject to final negotiations, and each EU member still needs to adopt it into national law which may take until 2018, Moody’s is confident that they will be enacted. It said it would apply this ratings approach to covered bonds issued in the EU and would perhaps eventually extend it to other jurisdictions that contemplate similar bail-ins.

Some U.S. investors buy European covered bonds and the U.S., in dabbling in issuing its own, also examined the implications of bank insolvency issues.

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