Norwegian covered bond ratings withstand S&P stress tests

Mar 27th, 2014

The impact of the Norwegian housing market on covered bonds has been an ongoing topic for quite some time now. After strong growth of over 300% in the last 20 years, we’ve started to see the beginning of a correction in Norwegian house prices more recently. In Q3 as well as Q4 last year house prices dropped slightly and based on BIS numbers we were around 4.5% below Q2 prices at the end of last year.

In that context, Standard & Poor’s yesterday (Wednesday) released a paper on Norwegian covered bonds where they looked at the vulnerability of these ratings to house price declines of 5%, 10% and 30%. The agency states that:

  • “Norwegian house prices have increased by about 30% since 2006, but showed signs of weakening in the second half of 2013, decreasing in two consecutive quarters.”
  • “Higher bank lending margins — due to higher capital requirements under Basel III and limits on lending by Norwegian authorities — and falling consumer demand suggest that prices could fall further during 2014, in our view.”
  • “However, our scenario analysis of the effect of various house price declines on our Norwegian covered bond ratings suggests that even in a severe case, where house prices fall by 30%, our ratings are likely to remain resilient.

S&P rates two covered bond programmes in Norway (DnB Boligkreditt and Gjensidige Bank Boligkreditt).

In the assessment they stressed residential pools by decreasing the underlying assets by 5%, 10% and 30% while keeping other inputs of the rating rationale unchanged. Consequently, the weighted-average indexed LTV increased and led S&P to increase the WAFF (weighted-average foreclosure frequency) and the WALS (weighted-average loss severity, which basically shows the weighted-average loss after a default). CACIB S&P graph

As a result, even in the worst case scenario where house prices fall by 30%, the higher target overcollateralisation would increase by around 13%, according to S&P. The good thing is that even in the most severe of the three scenarios overcollateralisation remained sufficient to support the current ratings:

  • Current target OC is around 9% for both programmes while current OC is between 24% and 30%
  • So even with the 13% additional requirement, both issuers’ current OC exceeds the stressed target OC required by S&P.

In our 2014 outlook we also stressed pool LTVs for house price drops to see how much of the cover pools would start to develop negative equity. In our analysis house prices would need to fall by around 30% (coincidentally the same as S&P) before a sizeable portion of the mortgages would start to develop negative equity. CACIB Moody's graph

Ultimately, despite the house price drop in Norway, we’re still talking about high quality collateral and even if a 30% drop were to happen, we would still likely have relatively low unemployment plus a comfortable welfare system even in a stressed situation.


Any news on risk weights and LTV limits in Norway?

Nordic countries have been tightening lending standards in the last months in an attempt to calm housing and mortgage markets. The Norwegian FSA lowered the LTV cap for new mortgage lending form 90% to 85% and rejected calls from the new government to move back to 90% earlier this year. It also doubled the loss given default of mortgages from 10% to 20% banks can use to calculate the risk weights. We haven’t heard anything new on this in the last few weeks, though.


Florian Eichert, Senior Covered Bond Analyst

Stephan Dorner, Covered Bond Analyst

Crédit Agricole CIB

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