New accounting rules may make covered bond program more prominent

Rob Chrisman wrote in yesterday’s edition of the “Pipeline Press” (a great blog if you want to stay abreast of the changes in the mortgage industry) that new accounting rules may make covered bonds more common with regard to securing mortgages.  I originally blogged about covered bonds back in 2008 when the subprime mortgage crisis was unraveling in front of our eyes.  Rob provides a great summary about what a covered bond is:

What is a “covered bond”?

In this case, covered bonds are debt securities backed by the cash flows from mortgages, and recourse to a pool of mortgages secures (“covers”) the bond in case the issuer becomes insolvent. Covered bond assets remain on the issuer’s consolidated balance sheet, which comforts end-investors, since they are held on the issuers’ books and the interest is paid from an identifiable source. (Current MBS’s are not held on the issuers’ books.) This type of security has been popular in Europe, but not here in the US. New accounting rules, however, require issuers to carry collateral on their balance sheets even for securitized products such as mortgage bonds, a key feature of covered bonds, and there may be some legislation brewing regarding the FDIC taking over an issuer (in the event of a collapse) that would make it easier to issue them. In the event of default, the investor has recourse to both the pool and the issuer.

The key to the covered bond is that issuing banks are required to keep “skin in the game” which would ultimately lead to more conservative underwriting guidelines.  Depending on who you are you may think this is a good or bad idea.  Feel free to leave your thoughts below in the comment section.