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LegislationOverview of the Covered Bond Issuance Act Loan-to-value ratios and other restrictions Supervision by the Swedish FSA and the independent inspector Benefit of a priority right over the Cover Pool Administration of The Cover Pool in the event of bankruptcy Draft proposal to amend the Covered Bond Issuance Act The Covered Bonds Issuance Act Regulations and General Guidelines Governing Covered Bonds Government guarantee programme
Overview of the Covered Bond Issuance ActIntroductionThe Covered Bond Act entered into force on 1 July 2004. It enables Swedish banks and credit market companies (“Institutions”), which have been granted a specific licence by the Swedish Financial Supervisory Authority (Sw: Finansinspektionen) (the “Swedish FSA”), to issue full-recourse debt instruments secured by a pool of mortgage credits and/or public sector credits. The Swedish FSA has issued regulations and recommendations under the authority conferred on it by the Covered Bond Issuance Act (Sw: Finansinspektionens föreskrifter och allmänna råd om säkerställda obligationer (FFFS 2004:11)) (the “SFSA Regulations”). Swedish covered bonds may take the form of bonds and other comparable debt instruments, such as commercial paper. In the event of an Institution’s bankruptcy, holders of covered bonds (and certain eligible counterparties to derivative contracts entered into for the purpose of matching the financial terms of the assets in the Cover Pool with those of the covered bonds) benefit from a priority claim over the pool of assets (the “Cover Pool”). The Covered Bond Act also enables such holders (and derivative counterparties) to continue to receive timely payments also following the Institution’s bankruptcy, subject to certain conditions being met.
RegistrationInformation in respect of all covered bonds, assets in the Cover Pool and relevant derivative contracts must be entered into a special register (the “Register”), which is maintained by the Institution. The actual registration of the covered bonds and relevant derivative contracts in the Register is necessary to confer the priority claim over the Cover Pool. Conversely, only assets entered into the Register form part of the Cover Pool. At all times the Register must show the nominal value of the covered bonds, the Cover Pool and the relevant derivative contracts. As a result, the Register requires regular updating, including without limitation due to changes in interest rates, interest periods, outstanding debt and the composition of the Cover Pool. The value of the underlying collateral securing mortgage credits in the Cover Pool must also be entered into the Register. The Covered Bond Act does not prevent Institutions from supplementing and substituting assets in the Cover Pool.
The Cover PoolThe Cover Pool may consist of certain mortgage credits, public credits and supplemental assets. Mortgage credits are defined as loans secured by
Public credits are defined as certain loans to (or guaranteed by) inter alia the Kingdom of Sweden, Swedish municipalities and comparable public bodies, the European Communities, certain foreign states and central banks and certain foreign municipalities and comparable public bodies with powers of taxation. Supplemental assets consist primarily of government bonds and cash, although the Swedish FSA may also authorise certain debt instruments issued by credit institutions and other bodies to be used as supplemental assets.
Loan-to-value ratios and other restrictionsFor mortgage credits, there is a maximum loan amount which may be included in the Cover Pool, depending on the value of the underlying collateral:
The Covered Bond Act restricts the overall proportion of loans provided against security over real property (or site leasehold rights or tenant-owner rights) intended for office or commercial purposes to 10 per cent. of an Institution’s Cover Pool. Furthermore, the proportion of supplemental assets may not exceed 20 per cent. of the Cover Pool, although the Swedish FSA has the authority to raise this limit to 30 per cent. for a limited period of time provided there is a particular reason for such increase. Institutions are required to regularly monitor the market value of the mortgage assets that serve as collateral for loans included in the Cover Pool. If the market value of such a mortgage asset declines significantly (15 per cent. or more according to the preparatory works to the Covered Bond Issuance Act), then only such part of the loan that falls within the permitted loan-to-value ratio will be eligible for inclusion in the Cover Pool and will be subject to the priority right described below. However, a decline in the market value following an Institution’s bankruptcy would not result in a reduction of the assets to which holders of covered bonds (and relevant derivative counterparties) have a priority right, but may result in the Cover Pool ceasing to meet the matching requirements.
Matching requirementsThe Covered Bond Issuance Act prescribes that the value of the Cover Pool shall at all times exceed the aggregate value of claims that may be asserted against an Institution by reference to covered bonds. The calculation shall be made on the basis of current book values and shall take into account the effect of relevant derivative contracts. Furthermore, an Institution must compose the Cover Pool in such a way as to ensure a sound balance between the covered bonds and the assets in the Cover Pool in terms of currency, interest rate and maturity profile. Such sound balance is deemed to exist when the present value of the Cover Pool at all times exceeds the present value of the liabilities relating to the covered bonds. The present value of derivative contracts shall be taken into account for the purposes of such calculation. The calculations of present value shall withstand certain stress tests (changes in interest rates and/or currency exchange rates). The payment flows relating to the assets in the Cover Pool, derivative contracts and covered bonds shall be such that an Institution is at all times able to perform its payment obligations towards holders of covered bonds and relevant derivative counterparties.
Supervision by the Swedish FSA and the independent inspectorThe Swedish FSA monitors that an Institution complies with the Covered Bond Act and other provisions of the legislative and regulatory framework which regulates the business of the Institution. In addition, the Swedish FSA appoints an independent inspector (Sw: oberoende granskare) for each Institution that issues covered bonds. The independent inspector is responsible for monitoring the Register to assess whether or not it is being maintained correctly and in compliance with the Covered Bond Issuance Act and the SFSA Regulations. In particular, the independent inspector shall verify that
The independent inspector is entitled to request information from the Institution, conduct site visits and is required to report regularly and at least once a year to the Swedish FSA. The Covered Bond Issuance Act does not provide for any change to the independent inspector’s remit upon the bankruptcy of an Institution.
Benefit of a priority right over the Cover PoolPursuant to the Covered Bond Issuance Act and the Swedish Preferential Rights of Creditors Act (Sw: förmånsrättslagen (1970: 979)), holders of covered bonds benefit from a priority claim over the Cover Pool should the Institution be declared bankrupt (Sw: försatt i konkurs). The same priority is awarded to the Institution’s eligible counterparties to derivative contracts entered into for the purpose of matching the financial terms of the assets in the Cover Pool with those of the covered bonds. Such derivative counterparties and the holders of covered bonds rank pari passu with joint seniority in relation to the Cover Pool. By virtue of the aforementioned priority, holders of covered bonds and relevant derivative counterparties rank ahead of unsecured creditors and all other creditors of the Institution in respect of assets in the Cover Pool (except the administrator-in-bankruptcy as regards fees for his administration of assets in the Cover Pool and costs for such administration). The priority claim also covers cash received by an Institution and deriving from the Cover Pool or relevant derivative contracts, provided that certain administrative procedures have been complied with.
Administration of The Cover Pool in the event of bankruptcyShould an Institution be declared bankrupt, at least one administrator-in-bankruptcy would be appointed by the bankruptcy court and one administrator-in-bankruptcy would be appointed by the Swedish FSA. The administrators-in-bankruptcy would take over the administration of the bankruptcy estate, including the Cover Pool. Provided that (and as long as) the Cover Pool meets the requirements of the Covered Bond Act (including the matching requirements), the assets in the Cover Pool, the covered bonds and any relevant derivative contracts that have been entered into the Register are required to be maintained as a unit and kept segregated from other assets and liabilities of the bankruptcy estate of the Institution. The administrators-in-bankruptcy are then required to procure the continued timely service of payments due under the covered bonds and any relevant derivative contracts. Consequently, the bankruptcy would not as such result in early repayment or suspension of payments to holders of covered bonds or to counterparties to derivative contracts, so long as the Cover Pool continues to meet the requirements of the Covered Bond Act. If, however, the Cover Pool ceases to meet the requirements of the Covered Bond Act, and the deviations are not just temporary and minor, the Cover Pool may no longer be maintained as a unit and the continuous payment under the terms and conditions of the covered bonds and derivative contracts will cease. The holders of covered bonds and counterparties to derivative contracts would in such case instead benefit from a priority claim over the proceeds of a sale of the assets in the Cover Pool in accordance with general bankruptcy rules. This could result in the holders of covered bonds receiving payment according to a schedule that is different from that contemplated by the terms and conditions of the covered bonds (with accelerations as well as delays) or that the holders of covered bonds are not paid in full. However, the holders of covered bonds and derivative counterparties would retain the benefit of the right of priority to the assets comprised in the Cover Pool. Any residual claims of the holders of covered bonds and derivative counterparties remain valid claims against the Institution, but will rank pari passu with other unsecured and unsubordinated claims. See draft proposal in the following section.
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