‘Improved’ Danish refi bill set for parliamentary passage

Feb 13th, 2014

The Danish government and several opposition parties last Thursday (6 February) agreed on legislation aimed at reducing refinancing risk in the country’s mortgage system, after the central bank said S&P had made a positive statement about the bill.

The Danish government first announced its plan for the legislation in early November, with a draft released at the end of November. The initiative is intended to address concerns about refinancing risk stemming from mortgage banks’ high annual refinancing needs — in turn a function of Denmark’s balance principle and the prevalence of one year adjustable rate mortgages (ARMs) — by introducing the mandatory extension of the maturity date of some bonds in certain stressed market situations, such as a failed auction or an increase in interest rates.

Christiansborg Castle, seat of the Danish government

Christiansborg Castle, seat of the Danish government

The broad political agreement reached on the law paves the way for it to be adopted in parliament, and comes after Standard & Poor’s on Wednesday of last week said that the draft legislation, in its then current form, addressed the rating agency’s immediate concerns about refinancing risk facing Danish mortgage banks, but did not fully eradicate the risks.

The Danish central bank took an upbeat stance on S&P’s comments later that day, saying that it was “pleased to note that S&P has made a positive statement about the bill, just as the Fitch rating agency has done previously”.

“According to S&P, the bill ensures refinancing, no matter whether the problem is a general lack of investor confidence or whether it is institution-specific,” said Karsten Biltoft, director at Danmarks Nationalbank. “Danmarks Nationalbank agrees with S&P’s assessment to the effect that there will still be a solid investor base for the bonds.

“Moreover, S&P notes that the bill alone will not reduce the volume of short-term adjustable rate loans. Danmarks Nationalbank agrees that it is important to continue the effort to spread the auctions.”

The legislation agreed upon last week incorporates some changes to the most recent draft that address some concerns that had been raised by Danish mortgage banks, and Ane Arnth Jensen, managing director at the Association of Danish Mortgage Banks (Realkreditrådet), welcomed the amendments.

“They satisfy our main concern with the original proposal, which was about the lack of a level playing field between the banks and the mortgage banks,” she told The Covered Bond Report. “There are a lot of areas where good progress was made and we are quite satisfied with the political agreement among a large majority of the parliament.”

One of the changes made to the draft proposal is to limit the scope of the interest rate trigger for a maturity date extension. Under the most recent proposal a 5% increase in the interest rate on bonds with a maturity of up to 37 months compared with the previous year would have automatically triggered a 12 month extension of the maturity date, but the final draft bill limits the application of the interest rate trigger to bonds issued with a maturity of up to two years.

Christina Falch, senior analyst at Danske Bank, said that this is the most important change made as it avoids distortion of competition between the banks and the mortgage banks.

“Under the old proposal you could have had mortgage banks issuing bonds longer than two years with an interest rate trigger and commercial banks issuing SDO bonds with a maturity longer than two years without an interest rate trigger,” she said. “That could have led to competitive distortion between the mortgage banks and the commercial banks.”

The maturity extension provisions do not apply to commercial banks such as Danske Bank, although Danske Bank analysts noted that the law agreed upon yesterday sets out a rule that commercial banks are only allowed to issue SDO bonds with a maturity of more than two years. These bonds are UCITS and CRD-compliant bonds that Danske issues on the euro benchmark market, typically used for funding of three years or longer.

Another change made to the latest draft of the bill, according to Danske analysts, is that maturities of bonds of a mortgage bank under resolution will be extended by 12 months at a time, rather than a one-off extension of the maturity to match that of the underlying loan (up to 30 years).

The Ministry of Business & Growth noted that this will apply “parallel rules” for banks and mortgage companies in a bankruptcy situation.

Jensen highlighted as a positive that the bill sets out what would happen in the event of a bankruptcy of a mortgage bank.

“No mortgage bank has gone bankrupt in their 200 year history although several banks have, but it is of interest to rating agencies so it is a very satisfying to have a description of the rules that would apply in such a situation,” she said.

The agreement reached by the Danish government and several opposition parties also stipulates the establishment of a committee to monitor the impact of the legislation on the conditions for equal competition between the commercial banks and the mortgage banks, and Jensen said this was also welcome.

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