Management's statement

Issuances in 2017

During 2017 we issued two EUR denominated benchmark transactions for a total of EUR 2.0 billion and approximately NOK 8.2 billion of covered bonds in the Norwegian market (denominated in NOK). SpareBank 1 Boligkreditt (SpaBol) also started an issuance wave in 5 year FRN sterling covered bonds with an inaugural November 2017 issue.

The EUR bonds had maturities of 5 years (issuance in January) and 7 years (June) and met with very good demand at mid-swaps+0 bps for both bonds. As is evident from these two issuances, credit spreads continued to move in during the year. In January 2018 our inaugural green bond, 7-year transaction fetched a spread of -6 bps. The market is acknowledging that the potential end of quantitative easing by the ECB could have spread effects, despite a large stock of covered bonds on the ECBs balance sheet which looks likely to be maintained (reinvested) for longer. For Nordic non-Eurozone covered bond issuers there may also be changes in spread levels depending on actions taken within the Eurozone, but at the same time the investor universe invested in Nordic covered bonds has expanded over the last few years.

The issued EUR volume for 2016 is what we expect to issue for 2017, although timing of issuances may alter the volume within any one calendar year, and the currency mix, which is now enhanced by GBP, would be in both EUR and NOK as well as potentially USD (no USD issuance has taken place since 2013). Mortgages in the cover pool increased by NOK 2.8 billion (1.6 per cent) over the year and we expect a larger increase over 2018 of or around NOK 10 bn. Lending growth for the largest banks in the Alliance was (weighted average) just below 6 per cent in 2016 and through the first three quarter of 2017, with lending growth in the corporate segment slower than for residential purposes.

SpaBol has since the start in 2007 been and continues to be the strategic and preferred vehicle for covered bonds issuance on behalf of the SpareBank 1 Alliance banks. SpareBank 1 SR-Bank has chosen to supplement its covered bond funding with its own issuer in addition to SpaBol, and therefore SR-Bank’s relative share of mortgages of the SpaBol cover pool has reduced. SR-Bank’s share of the pool was at year-end 2017 8 per cent or approximately NOK 14 billion out of a total of 178 billion, this is down from 14 per cent a year prior. The bank may further reduce its mortgages in the SpaBol cover pool at those point in time when outstanding bonds mature. We do not expect that any further stand-alone covered bond issuers will emerge from within the Alliance.

Domestic and foreign currency issuance

The domestic NOK market for covered bonds have developed well over the years since inception in 2007, and is in magnitude approximately equal to all government securities outstanding. The total volume of Norwegian covered bonds issued in currencies is however larger, at 56 per cent of total covered bond volume, including NOK. For SpareBank 1 Boligkreditt the situation is similar to the national picture, though somewhat more weighted towards Euro and foreign currency. The overall covered bonds outstanding is now nearly 40% of Norwegian mainland GDP.

Chart 1: Outstanding Norwegian covered bonds and government bonds:

Source: SSB, FNO

Spabol

Chart 2: Chart 2: Relative share of outstanding SpareBank 1 Boligkreditt covered bonds as of year-end, by currency:

All foreign currency issuance is fully hedged using swaps.


Regulations mortgage market

The latest amendments to the regulatory framework on the mortgage market took effect from January 1, 2017, and was seen as a key driver for the correction in real estate prices which unfolded from the spring of 2017.

The rules, which are up for review in 2018, are the following1:

  • Loan to value: maximum 85 per cent for all mortgages and maximum 60 per cent for loans without instalments (revolving credit line mortgage loans); for a property located in Oslo, which is not a borrower’s primary residence, the maximum is 60 per cent.
  • Repayment: minimum 2.5 per cent per annum for loan to value mortgages at or above 60 per cent LTV
  • Income limitation: total debt maximum is 5x a borrower’s before-tax income
  • Stress test: applications must pass an affordability test of a 5 per cent increase in the prevailing (offered) mortgage rate
  • Flexibility: 10 per cent of each lender’s mortgage lending contracts per quarter may be in breach with one or more of the limitations (8 per cent in Oslo), and must be reported

1The regulations were temporary until June 30, 2018 and will be reviewed again by then. Most analyst and commentators believe that the Financial Supervisory Authority, which conducts the review, will propose extending the existing rules.


The Norwegian residential real estate market

2017 saw a decrease in the real estate market with the national residential index down 2.2% in January 2018 compared to a year previously2.

The development was led by a change in prices in the capital area, Oslo, where the index of real estate prices dropped by just over 10 per cent. The correction is welcomed by the banks’ regulator as a correction to the previous run-up in prices and was also the aim of the tightened regulations in the mortgage market. The additional factor which has caused the correction is believed to be the heightened pace of building activity in 2015-2017 which have brought many new units to the market, satisfying demand. There are clear signs that the investments into the residential housing sector will now again decline. In fact, this is estimated to be detracting from economic growth in 2018-19.

2 The index methodology has been revised as of January 2018

Chart 3: Residential real estate price index for Norway:

Chart 4: National house price index adjusted for after-tax household income


Capital requirements

Norwegian capital requirements have continued to increase for banks and covered bond issuer for some time and the overall capitalization requirement for significant financial institutions (SIFIs) is 17.5 per cent of risk weighted assets as of December 31, 2017.

. This includes a countercyclical buffer of now 2 per cent. The countercyclical buffer also represents a tool for the authorities to increase lending capacity for banks should credit growth turn negative or be too low to sustain economic expansion. SpareBank Boligkreditt's total capital coverage at year-end 2017 was 16.6 per cent, which meets the total requirements for the Company which is 15.5 per cent in Pillar I and an additional 0.8 per cent in Pillar II (no SIFI buffer applies for covered bond issuers). Boligkreditt calls on its owner banks for capital contributions as needed, and especially in connection with larger transfers of mortgages.

SpareBank 1 banks are not SIFIs on a stand-alone basis, though several banks have stated the objective to meet the same capital requirements. The weighted average capitalization of the four largest SpareBank 1 banks was 18.7 as of 30. September 2017. Pillar 2 capital requirements for banks were published during the year and the largest SpareBank 1 banks have Pillar 2 requirements in the range from 1.7 to 2.1 per cent.

Chart 5: Capital in the four largest SpareBank 1 banks (weighted average)


Cover pool

Our cover pool metrics continue to exhibit a robust profile with an average weighted LTV in the cover pool of 51.1%.

Our cover pool metrics continue to exhibit a robust profile with an average weighted LTV in the cover pool of 51%. The real estate values are updated for the entire cover pool each quarter based on an automated valuation model (AVM) from the Norwegian company Eiendomsverdi, used by most Norwegian banks. The model is independently tested and validated and has certain parameters built into its valuation settings which allow for a cautious treatment of potential upside valuation outcomes for individual houses.

Chart 6: SpareBank 1 Boligkreditt cover pool: number of loans by LTV interval

SpareBank 1 Boligkreditt continues to have no arrears beyond 90 days in the cover pool and has never experienced a credit event with regards to any of the mortgage loans in the pool. We stress test the portfolio regularly for potential sharp house price declines, which provides comfort with regards to the robustness of the pool, even in a scenario where house prices drop by 30 per cent quickly, the mortgage assets are sufficient to cover the preferred obligations within the 75 per cent legal limit for LTVs. The owner banks are required to maintain loan reserves, which are pre-qualified for the cover pool. Mortgage loans in the pool at over 75% LTV means some migration has taken place since transfer of the loan to the cover pool, though the parts of these loans representing higher than 75% LTV may not be counted as cover assets.

Under the IFRS 9 rules for mortgage loans expected losses the Company has shown that approximately 12 million of expected losses would be booked as a consequence of the macroeconomic scenarios developed and the definitions and requirements of the new accounting rule. The amount is small seen against the balance of mortgage loans, including fully drawn revolving loans on which it is based of 189 billion kroner. No losses have been realized in the Company since inception in 2005.

Chart 7: SpareBank 1 Boligkreditt cover pool: loans in arrears history

Liquid assets in the cover pool
Liquid assets are included in the cover pool and are cash deposits, government or government guaranteed bonds (Nordic and German) and covered bonds from Nordic issuers. The minimum level of liquid assets are defined as covering 50 per cent of upcoming bond redemptions 12 months ahead of the maturity date and covering 100 per cent when there is six months or less until maturity. The actual level of liquid assets may also be higher than the minimum, depending on timing of new bond issuances. Liquid assets cannot be additional mortgages as this would not be prudent because mortgages are less effortlessly liquidated when funds are needed (for repayments), under certain circumstances. A complete list of liquid assets is presented in the quarterly cover pool reporting. Due to past issuance patterns, redemptions in any one year will typically include two benchmark bonds in USD or EUR and so the liquid assets buffer is sizable. At year-end 2017 it was 34 billion kroner compared to 26 billion at the end of 2016.


Outlook 2018

With an early issuance of a green bond (inaugural) in January 2018, the Company is likely to, following the pattern of previous years, to revisit the EUR market once more in a benchmark format.

Other currencies are under consideration as well, including GBP and USD. Norwegian krone issuance is also planned, market conditions permitting. With the establishment of an inaugural GBP transaction in November 2017, the Company has an interest in meeting investor expectations of following this up during 2018, market conditions permitting, with another point on the GBP SpaBol curve. Green issuance will be limited by the amount of green assets. These are limited as per the Climate Bond Initiative’s definition/limit, which the Company has adopted in its framework. The Company will let the owner banks spend some more time originating assets that could qualify as green and seek to transfer these to the cover pool for a later additional green covered bond.

Norway has managed the economic challenges of the reduction in oil prices well, despite that the oil and gas industry has been and remains a dominant industry. Monetary and fiscal policies as well as benefits from a floating (weaker) NOK are all contributing factors in this development. The housing market, which has experienced a sharp price increase in 2016, corrected in 2017. Important for the mortgage industry and the banks, including the Company, is the rate of unemployment, and this has been reduced significantly (in a Norwegian context) from a post oil-shock of 4.9 per cent to now 4.0 per cent in February 2018.

The SpaBol cover pool continues to be geographically very well diversified across the country, and the LTV is low. Liquidity risk (refinancing bonds when due), which may be seen as a significant risk in comparison to benign credit risk, is well mitigated by the sizeable liquidity portfolio which ensures liquidity in a market freeze scenario of 9 months. There are further second and third lines of defense against a hypothetical deteriorating liquidity situation as well. The outlook for continued stability and a robust cover pool is therefore good.


Contact information

Mailing address:
SpareBank 1 Boligkreditt
P.O.Box 250
N-4066 Stavanger
Norway

Visiting address:
Bjergsted Terrasse 1
4007 Stavanger
Norway


Managing Director
Arve Austestad
Phone: +47 5150 9411

Director finance and investor relations
Eivind Hegelstad
Phone: +47 5150 9367

Director risk and operations
Henning Nilsen
Phone: +47 5150 9412