During 2019 we issued three EUR denominated benchmark transactions for a total of EUR 3.25 billion and approximately NOK 11.3 billion of covered bonds in the Norwegian market (denominated in NOK). Growth in the mortgage book and refinancing of maturities coming due are the driving factors for issuance.
When it comes to the growth, each of SpaBol’s owner banks provide running estimates of their plans to transfer (sell) mortgages through to the cover pool. This volume can change from bank to bank (14 banks are transferring mortgages) and will depend on factors ranging from the development of their own lending and balance sheet through to deposit levels and the cost of alternative sources of financing, such as senior bonds. Regulatory requirements have meant increased retained earnings (equity) over the past several years, and MREL requirements from 2020 onwards. These are all in the end alternative sources of funding loans, and may therefore impact covered bond issuance from SpaBol.
Regarding refinancing of our existing bond portfolio, each maturity is refinanced ahead of its expected maturity (bonds are soft-bullet bonds), with the aim to at a minimum comply with internal rules for when an outstanding bond has to be refinanced. The EU commission has proposed that covered bond cover pools contain a minimum 180 day liquidity, which we believe is sensible and matches our internal minimal rule. As an issuer we see this minimum liquidity and its basis in the expected maturity of the covered bonds as a prudent measure, and we do not agree with arguments that the soft-bullet period, i.e. the final maturity, should be used in managing liquidity with the aim of fulfilling the 180 days requirement.
With regards to future GBP issuance, this is a market we are keen to maintain active issuance in. We have prepared Sterling Overnight Interbank Average Rate (SONIA) as the basis for any FRNs issued in GBP in our GMTCN programme. However, we are working with our technical systems provider for booking trades to also incorporate this new reference rate and feel it is prudent to await this capability before accessing the market. We expect this to be in place by the 2nd half of 2020. We will at that time also seek to convert the reference rate to SONIA from LIBOR on our outstanding GBP FRN, which matures in November 2022.
Green bonds were not issued during 2019. SpaBol has ample assets to continue issuing green covered bonds. At the same time we are working to capture better data with regards to energy certificates of the housing stock we finance. The inaugural green covered bond issuance took place in 2018. A green covered bond may be issued in SEK, as well as in EUR.
SpareBank 1 Boligkreditt has a Aaa covered bond rating from Moody’s Investor Service. In the first quarter of 2019 SpaBol also requested a public Issuer rating from the same agency. The Issuer rating is A2. This rating is derived from the rating of our owner banks, which are rated A1. There is not a fully comprehensive guarantee in place for the benefit of SpaBol, from its owner banks. There are however very strong operating links, and in reality SpaBol is solely a funding unit for its banks. What is in place, since 2010, is a Shareholder’s Agreement whereby the banks are committed to maintaining SpaBol’s CET1 ratio at the minimum regulatory level and a Noteholder’s Purchase Agreement whereby the banks are committed to buying covered bonds (which may be used in repos with the central bank) under certain circumstances, i.e. closed markets. These formal agreements lay the foundation for the one-notch differential in the Issuer rating between owner banks and SpaBol.
The domestic NOK market for covered bonds have developed strongly 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 foreign currency and EUR. The overall covered bonds outstanding is approximately 41 % of Norwegian mainland GDP.
Chart 1: Outstanding Norwegian covered bonds and government bonds
Source: SSB, Finance Norway (2019 as of Q3)
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. SpaBol repaid the last USD covered bond outstanding in late 2019. With the EUR market efficient and cost-competitive, swapped levels from USD funding have on average been materially more expensive in the last several years.
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 were reviewed in June 2018 and were not changed. They were reviewed again in June 2019 and again left unchanged. The residential real estate market is viewed to be in balance at the end of 2019. The next scheduled review is due in late December 2020. During 2019, specific rules were also made effective in Norway for unsecured consumer lending and a new public register for unsecured loans started operating. These measures materially tightened conditions for unsecured borrowing and increasing transparency further with regards to both consumer and mortgage finance.
The mortgage lending rules are:
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
After a correction in 2017, which was seen as largely due to the regulations referenced above, as well as high housing production, the growth in the price index was 2.8 per cent for 2018 and 2.5 per cent for 2019.
Consumer inflation was 3.2 and 1.8 for 2018 and 2019, respectively. This means that in real terms housing has been approximately flat for two years, as measured on a national scale (there are regional differences). In 2018 the Norwegian central bank raised its policy rate for the first time since 2007 and by 0.25 per cent. The rate was increased another three times to 1.5 per cent, where it is in January 2020. This has fed into higher mortgages rates and may also have had a cooling effect on the residential real estate market. Building activity has remained robust, supplying the market and meeting demand, which probably is another factor that keeps price appreciation in check (see right hand side of chart below for housing starts)
Chart 3: Residential real estate price index for Norway
Chart 3: Residential real estate price index housing starts (in units):
Chart 4: National house price index adjusted for inflation and after-tax household income (Jan. 2007=100)
Adjusted for income and inflation, Norwegian house prices look balanced. Especially as adjusted for development in income, house prices as represented by the index have not increased by more than
Source: SSB, Eiendomsverdi, SpareBank 1 Boligkreditt’s calculations
Norwegian capital requirements have continued to increase for banks and covered bond issuer for some time and the overall capitalization requirement for SpareBank 1 Boligkreditt is 18.3 per cent of risk weighted assets (including new Pilar 1 buffers and Pillar 2 of 0,8 per cent core capital).
This includes a countercyclical buffer of now 2.5 per cent and an increased systemic buffer of 4.5 per cent, the latter which is formally applicable from the end of 2020. The increasing buffer requirements should be seen in the context of the removal of the risk-weight floor in Norway, which was a Norwegian interpretation of the Basel I floor and capped the risk weighted assets at Boligkreditt of close to 80 per cent of risk assets as calculated under the older Basel I standard.
Boligkreditt calls on its owner banks for capital contributions as and when needed, and especially in connection with larger transfers of mortgages (mortgage loan growth). There is also formal agreement in place between Boligkreditt and the owner banks, whereby the banks are required to maintain Boligkreditt’s equity capitalization at the regulatory requirement as a minimum. This agreement is not actively referred to in operating practice, as capital is added by the banks regularly and as needed, including additional management buffers. But it is of formal importance, particularly with regards to the starting point for the covered bond rating, which is derived from the owner banks’ issuer ratings. Covered bond issuers in Norway are not subject to MREL requirements and have to meet a Leverage Ratio of 3 per cent, rather than 5 per cent for banks in general.
Chart 5: Pillar 1 capital requirements for Norwegian banks and covered bond issuers
The increase in the systemic buffer to 4.5 per cent is included in the chart, but becomes effective at year-end 2020, and is 3 per cent until then. Banks that are systemically important receives another buffer of 1 to 2 per cent. There are only two systemically important banks in Norway and no SpareBank 1 banks are categorized as such. In addition to the above illustration there are Pillar 2 requirements, which for Boligkreditt is currently 0.8 per cent.
The cover pool metrics continue to exhibit a robust pool profile with an average weighted LTV in the cover pool of 53.6 per cent as of December 31, 2019.
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. There was an increase of one percentage point in the average weighted LTV over 2019. The chart below shows the mortgage loans in the cover pool by LTV interval at year-end 2019.
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.
According to the IFRS 9 rules for mortgage loans, expected losses the Company are approximately 11 to 12 million. The amount is small vs. the balance of mortgage loans, including fully drawn revolving loans on which it is based of 204 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 are also included in the cover pool along with residential mortgages. These are cash deposits, government or government guaranteed bonds (Nordic and German) and covered bonds from Nordic issuers.
Repos and reverse repos are also tools deployed for liquidity. The minimum level of liquid assets is the larger of 180 days of coverage for upcoming redemptions (expected maturities for soft bullet bonds). The actual level of liquid assets may also be higher than the minimum, depending mainly on the timing of new bond issuances. Liquid assets cannot be additional mortgages as this would not be prudent as mortgages are less effortlessly liquidated when funds are needed (for repayments), under certain circumstances. A complete list of liquid assets is presented in every quarterly cover pool reporting on our website. There are limitations with regards to credit rating (Aaa/AAA except for deposits), issuers, concentrations in internal policies, and more broadly in the Norwegian covered bond law. Internal policies also dictate that near term outflows are covered by cash, deposits or zero risk weighted assets only.
Issuance in the calendar year 2019 was a robust EUR 3.25 billion, in addition to over NOK 11 billion domestically. The mortgage volume that Boligkreditt funds is expected to increase by 5 per cent over 2020.
In addition to upcoming maturities, this determines the funding volume. Boligkreditt will return to the benchmark EUR market in 2020 with likely two benchmarks. GBP is another developing topic, where the new SONIA reference rate should be implemented in our technical trade booking systems prior to accessing the market in that format.
There is some expected softness ahead for the Norwegian economy, and this could feed into expectations in the real estate market, along with the regulatory, mortgage interest rates and housing supply picture mentioned above. While it may start to look like interest rates could come down, starting with the policy rate in 2020, overall the residential real estate market is not expected to show a significant departure from the last two years in terms of trend of price appreciation. Mortgages across the Norwegian banking sector continue to be a low risk asset class with benign levels of non-performing loan levels.
The SpaBol cover pool continues to be geographically well diversified across the country, and the weighted average current LTV in the cover pool is low. SpareBank 1 banks remain subject to reserve assets requirements for the cover pool. Mortgages must qualify on both legal and customer credit quality criteria in order to be eligible or qualified for the cover pool. Credit risk is therefore extremely low and liquidity risks well mitigated through liquidity reserves.
The SpaBol cover pool continues to be geographically well diversified across the country, and the weighted average current LTV in the cover pool is low. Banks remain subject to reserve assets requirements for the cover pool, calculated by looking at hypothetical steep declines in valuations in the housing market. Mortgages must qualify on both legal and customer credit quality criteria in order to be eligible or qualified for the cover pool. Credit risk is therefore extremely low and liquidity risks mitigated very well through liquidity reserves and a liquidity facility with the owner banks.
SpareBank 1 Boligkreditt
Bjergsted Terrasse 1
Chief Executive Officer
Phone: +47 5150 9411
Phone: +47 5150 9367
Head of Finance and Risk
Phone: +47 5150 9412