Bankföreningen sees NSFR unsecured bias, proposes changes

The Swedish Bankers’ Association has suggested changes to the prevailing Basel III proposal for a Net Stable Funding Ratio to rectify what it sees as punitive treatment of covered bonds and incentives for banks to favour less stable funding sources.

The changes were set out in a response by the association to a consultation by the Basel Committee on Banking Supervision (BCBS) on a revised framework for long term funding requirements, which closed on 11 April.

Thomas Östros, managing director at the Swedish Bankers’ Association

The Net Stable Funding Ratio (NSFR) complements the Liquidity Coverage Ratio, which focusses on short term liquidity, and is designed to ensure that banks have stable funding over a longer term horizon, with the NSFR built around a one year timeframe and the LCR around 30 days.

In its submission to the Basel Committee, the Swedish Bankers’ Association welcomed changes made to the original, 2010, NSFR proposal, but said that it would still create problems for the real economy without necessarily boosting financial stability.

“The proposed NSFR is constructed in a way that provides incentives for banks to abandon this stable funding source [covered bonds] for more unstable funding sources, such as senior unsecured bonds,” it said.

It argued that under the prevailing Basel NSFR proposal, funding mortgage loans with covered bonds as opposed to unsecured borrowing is effectively penalised because of a higher (100% versus 65%) Required Stable Funding (RSF) factor assigned to encumbered as opposed to unencumbered mortgage loans, which in its view does not correctly reflect the difference in liquidity risk between covered bond and unsecured funding.

It also said that the NSFR treats funding through deposits more favourably than funding through covered bonds.

“In summary, our view is that the NSFR proposal provides incentives for banks, which currently fund retail mortgage loans with triple-A funding instruments — with well documented and proven availability and stability even under stressed conditions — to change the funding mix towards more unstable funding sources.”

To address this, it suggested lowering the RSF factor on encumbered mortgage loans from 100% to 85% and increasing the Available Stable Funding (ASF) factor for covered bonds with remaining maturities of less than six months from 0% to 50%.

The treatment of corporate deposits — “unfairly harsh” — in the prevailing proposal should also be modified to avoid a negative effect on liquidity in the real economy, according to the association, by increasing their weight as ASF from 50% to 75%, and changes should also be made to the way in which total return swaps and repos would be treated under the NSFR framework.

The repo market is very important for a liquid secondary market, it said, noting that repos make up the majority monthly turnover in the Swedish covered bond market.

“If the repos are treated unfavourably it will hurt market liquidity,” it said. “Liquid markets are essential for banks’ ability to fund themselves in a robust way.

“It is especially important that repos with HQLA [high quality liquid assets] should not be treated in the way currently proposed by the BCBS.”