Issuing and trading of Swedish Covered Bonds in the domestic covered bonds market
Normally the Swedish covered bonds are registered at Nasdaq Stockholm (a Nasdaq Inc. subsidiary), although no actual bond trading takes place there. The base prospectuses used follow the standard of and are compliant with the Prospectus Regulation and are approved by the SFSA. The normally used technique for issues is “on tap”.
To ensure a good market liquidity, the large issuers issue their bonds as benchmarks which in the Swedish market mean large issues (SEK 3 bn and more) and that a number of dealers show both bid and offer prices. Only benchmarks are deliverable in the future contracts. When a new benchmark bond is issued, the issuer makes sure that the amount issued meets the requirements for a benchmark sized deal. After the initial day of issuance, the issuer can, without further notice, issue “on tap” the size required to fund the lending. At the peak of the life of the bond it typically has a volume of SEK 50 to 70 bn. After that the volume decreases due to active repurchase operations by the issuer. With one year to go to maturity a loan is no longer of benchmark status. This paves the way for a controlled redemption of the remaining part of the loan.
The bonds are sold into the primary market through banks acting as agents for the issuer. These banks also act as market makers in the secondary market. Currently, there are five banks that act as market makers in covered bonds: Danske Bank, Nordea, SEB, Svenska Handelsbanken and Swedbank. The market for government and domestic covered bonds, as well as treasury bills, is a telephone and screen-based over-the-counter market. Market makers display indicative two-way prices on an electronic information system which is instantaneously relayed by Reuters. Fixed prices are quoted on request and most deals are concluded via telephone. Trading in the secondary market takes place on all business days between 09.00 and 16.15 (local time). The number of bonds to be quoted is regulated in an agreement between the issuer and the market-maker.
Bonds are quoted on a yield basis with bid and ask spreads of (under normal market conditions) 2 bp for the liquid benchmark bonds. The settlement day for bonds is three business days after the trading date. Treasury bills are quoted on a simple yield basis and are settled two business days after the trading day. The normal trading lot in government securities and liquid covered bonds is SEK 200-500 m.
The tap issuance format
The key distinction of the Swedish domestic covered bond market is the tap issuance format via contracted market makers. It allows issuers on, a frequent basis, to tap the market in small to medium sizes. These taps can be made on a daily basis if needed with a settlement and documentation structure that is highly efficient. All transactions are executed via markets makers supported by separate market maker agreements regulating terms of the trades such as size, bid-offer spreads, repo functionality of outstanding benchmarks, communication to the market and remuneration to the dealers. For issuers the tap market means easier asset and liability management through the ability to match assets and liabilities on a small scale without having to fully resort to infrequent, and sometimes uncertain, benchmark issuance as is common in the international market.
The obligation of the market makers to quote two-way pricing arises when an issue reaches SEK 3bn in outstanding volume. The tap-issuance format, has proven very reliable in times of external shocks which is also evident by the increased used of taps by some issuers in the EUR market.
Essential terms and conditions of a typical Swedish market maker agreement
Typically, the larger issuers have 5-8 covered bond series with benchmark status. For the benchmark issues, the market maker typically has a duty to:
- Help the issuer sell bonds via taps of the benchmark loans in the market;
- Actively support trading of these bonds in the secondary market; and
- Continuously quote indicative rates in the information systems used.
The obligations of a market maker are conditional upon a number of things, inter alia:
- that no change in the economic, financial or political conditions, which in the reasonable opinion of the market maker would create a major obstacle to the fulfilment of the obligations, have occurred;
- that the bonds, in the reasonable opinion of the market maker, cannot be placed in the primary or secondary market on normal market conditions.
If the obligations cannot be fulfilled, the market maker shall notify the issuer and may withdraw from the du ties wholly or in part for a shorter or longer time.
The issuer has an obligation to, under normal market conditions, offer a limited repo facility in the outstanding benchmark bonds to the market maker.
The repo market
Sweden has a liquid repo market with almost all banks and broker firms involved in the trading. The repo market in Sweden started in the late 1980s and developed fast. The Swedish Debt Office offers a repo-facility in government bonds and treasury bills and the covered bond issuers offer their market makers a repo-facility in their own covered bonds. The repo transactions are viewed as ‘sell-buy back’ or ‘buy-sell back’ deals and the ownership of the security must be transferred. There are no standard conditions for a repo transaction and the counterparties agree on maturity, settlement day and delivery for each deal. Mostly, repos are settled two banking days after the trading day. Repo rates are quoted as a spread vs the Riksbank repo rate. Because of quantitative easing there is currently a lack of government bonds in the repo market, which has negative effects on the functionality of the repo market.
Listing, settlement and conventions
Almost all publicly listed securities in Sweden are in book-entry form, registered and settled via Euroclear Sweden’s system. Domestic settlement requires a securities account or a custody account with one of the Swedish banks or investment firms. Foreign investors can either have a custodian service with a Swedish bank or investment firm or settle via Euroclear or Clearstream.
Accrued interest is calculated from the previous coupon date to the settlement date. The interest rate is calculated by using ISMA’s 30E/360-day count – “End-of-month” convention.
Swedish government bonds and covered bonds have five ex-coupon days, hence there is a negative yield when settlement occurs within five business days before the coupon date. Swedish krona bonds redeem at par upon maturity and most of them pay coupon annually. All domestic banks act as paying agents.