Covered Bond & RMBS Comment – Supply on track to drop again in 2017

by: Joost Beaumont , Lea Riives

• Issuance of euro benchmark covered bonds EUR 20bn lower than in 2016

• This is in line with our view that supply will drop for second year in a row

• Negative net supply now at around EUR 10bn…

• …while we estimate it at roughly EUR 8bn at the end of the year

• Redemptions will be EUR 37bn in H2, while we see issuance at EUR 39bn

• Negative net supply merely due to euro area, as market growing outside EU

• Well-filled pipeline bodes well for issuance in coming weeks

DISCLAIMER: This report has not been prepared in accordance with the legal requirements designed to promote the independence of investment research, and that it is not subject to any prohibition on dealing ahead. This report is marketing communication and not investment research and is intended for professional and eligible clients only.

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Supply in 2017 remains at subdued levels versus 2016

Yesterday, there was no activity in the primary market and spreads remained stable in the secondary market. Weekly supply of euro benchmark covered bonds totalled EUR 2bn, which was an increase compared to the EUR 0.5bn that was issued last week. Meanwhile, this month’s average maturity of new deals was 7.8yrs, just under the 9yr average we saw in May.

Overall, June’s supply now stands at EUR 2.5bn, taking year-to-date issuance to EUR 71bn. This is a sharp decline compared last year, when issuance in June was around EUR 9bn. Meanwhile, the year-to-date figure is some EUR 20bn below that of last year. Overall, this is in line with our view that gross supply of euro benchmark covered bonds will decline for the second year in a row. In total, we have pencilled in EUR 110bn of issuance in 2017, which would be some EUR 12bn less than gross supply in 2016.

Pipeline well-filled

The pipeline is well-filled though, boding well for issuance in coming weeks. Bayerische Landesbank as well as the Mortgage Society of Finland are expected to come to the market next week as both issuers will conclude roadshows this week. The Bank of Queensland and BNZ International, however, will be in the road next week, while Kommunalkredit Austria is also scheduled to meet investors soon.

EUR 37bn of redemptions in H2

In June, redemptions of euro benchmark covered bonds are EUR 4.75bn, which is at the lower end of the spectrum. However, in the first half of 2017, redemptions totalled EUR 81.5bn, exceeding year-to-date gross supply by some EUR 10bn. A breakdown by country shows that the majority of redemptions stems from Spanish issuers (EUR 20bn). Furthermore, French and German redemptions amounted to EUR 16bn and EUR 10bn, respectively.

Looking ahead, redemptions will total ‘only’ EUR 37bn in the second half of the year. French issuers need to repay EUR 12bn, while this is EUR 6bn for German banks. Furthermore, redemptions are concentrated in July (EUR 7bn) and October (EUR 9bn), while slightly more than EUR 6bn redeems during September as well as November.

Negative net supply caused by the stuttering eurozone engine

Overall, we expect negative net supply to be around EUR 8bn by the end of this year, driven by our gross supply forecast of EUR 110bn. However, we believe there will be differences geographically. The eurozone, the engine of the covered bond market, should indeed see a sharp shrinkage of the market (mainly due to the TLTRO2). Yet, for countries outside the eurozone, but within the EU, we envisage that supply should actually match redemptions. Finally, outside the EU we expect the contrary dynamics with the covered bond market set to grow.