Scope Ratings today has assigned long-term ratings of AAA with a Stable Outlook to the mortgage and public sector covered bonds (Hypotheken- and Öffentliche Pfandbriefe) issued by Commerzbank AG.

The covered bond ratings reflect Commerzbank’s Issuer Credit-Strength Rating (ICSR) of A-/Stable/ S-1 (Commerzbank Issuer Rating Report published 3 September 2015) which is the analytical anchor point for the covered bond ratings. It also reflects the fundamental credit support of the German legal covered bond framework and national implementation of the bank recovery and resolution regime. In combination, the fundamental credit support for covered bonds results in a credit differentiation of six notches to Commerzbank’s ICSR. These ratings do not take into account the potential further credit support of up to three additional notches the cover pool analysis could provide.

Fundamental assessment supports a high credit differentiation above the bank's rating
To determine the fundamental uplift we have analysed the German legal and resolution framework based on our methodology. We have concluded that both covered bond types issued by Commerzbank benefit from the maximum uplift of six notches from the rating of Commerzbank. (For more details see the section on Germany in Covered Bond Framework Analysis – Analytical Considerations, published 31 July 2015).

Legal framework analysis
In our legal framework analysis we concluded that the German legal covered bond framework ensures a strong separation of the cover assets from the remainder of the potential insolvency estate and. Regulators could already separate the cover pool before the issuer’s insolvency, to allow a full and timely payment. The latter is facilitated by the legal 180 day liquidity requirement – which requires sufficient amounts of highly liquid assets are maintained in the cover pool to cover shortfalls in that period. German covered bonds benefit from a minimum overcollateralisation of 2% based on a net present value (NPV) – after applying market risk stresses according to the specific NPV regulations. Effectively, those regulations also introduce market risk and risk management limits. The independent trustee acts as a gatekeeper for the cover pool, checking eligibility requirements prior to registration, approving new issuances and monitoring risk management obligations of the issuer. Upon insolvency a special trustee takes over management of the programme.

There are no rating-relevant aspects that materially differ between covered bond types that are relevant for the assessment of the legal framework differentiation. Generally, all German covered bonds types receive the full rating uplift for the supportive legal framework.

Resolution regime analysis
In our resolution regime assessment we have assessed the German implementation of the Bank Recovery and Resolution Directive (BRRD) and the incentives that prevent a regulatory intervention on the issuer to impact the covered bond’s credit quality and impair its ongoing performance. We conclude we can assign the full four notches of credit differentiation for German covered bonds.

Germany has been among the first countries to fully implement the BRRD including the bail-in tool into national law (BRRD-Umsetzungsgesetz). The law is fully in line with the European Commission’s Directive (2014/59/EU) and excludes ‘Pfandbriefe’ from becoming bailed-in upon a regulatory intervention.

We believe that as Commerzbank is systemically important in its market, it is in the public interest that it be recapitalized in a resolution and not placed into insolvency. Accordingly, we expect that eligible liabilities which are not excluded by the respective resolution authorities be bailed in towards the recapitalisation process. We view Commerzbank as having a substantial cushion of eligible liabilities for bail-in – capital securities, other subordinated liabilities, and long-term senior unsecured debt – which represents a reassuringly ample protection for its covered bonds. In our view, a scenario in which bailed-in eligible liabilities are inadequate to stem losses and recapitalise the bank would be highly implausible.

Covered bonds in Germany are systemically relevant evidenced by the volume of outstanding covered bonds, its share as percentage of GDP, as well as the widespread use by almost 80 banks. Covered bonds are an integral feature in the domestic capital debt markets and vital for the refinancing of commercial and public sector loans. German investors and in particular insurance companies, have some of the largest holdings in covered bonds worldwide, highlighting the importance of a well-functioning covered bond market for both domestic issuers and investors. German stakeholders have regularly demonstrated they are strongly interested in a functioning covered bond market and are willing to support an orderly resolution of problems in case of a distressed issuer. Even before the BRRD came into force, such issuers were often resolved by means other than insolvency. We identified several market-led resolutions with distressed issuers becoming merged, sold to other banks or that market stakeholders have remained supportive to allow an orderly wind-down of the cover pool. This is despite strong and robust provisions that deal with issuer insolvency.

Covered pool benefit not factored into the covered bond rating
Hypothekenpfandbriefe issued by Commerzbank are backed by domestic residential mortgage loans backed by flats and single houses. The cover pool for the public sector covered bonds comprises eligible export financings backed by an export credit agency and German as well as Swiss exposures to sub-sovereigns.

For the unsolicited ratings we have not analysed the cover pools. Both cover pools exhibit differences in credit quality, cash flow structure and protection levels provided (overcollateralisation). These can impact the assessment and potential additional credit differentiation from the rating analysis of the cover pool which could support an additional credit differentiation of up to three additional notches.

Rating change drivers
A negative development of the issuer rating or the outlook could impact the rating of the covered bonds if the additional benefit the cover pool analysis – which could provide an additional credit support of up to three notches - is not taken into account. Based purely on the fundamental supporting factors there is no rating buffer available. Rating drivers for the covered bonds therefore mirror the rating drivers for the issuer.

We do not currently expect changes that could impact our assessment of the fundamental rating drivers for Commerzbank’s bank covered bonds

The following ratings were assigned to Commerzbank’s covered bonds:

- Commerzbank AG, senior secured German mortgage covered bonds (Hypothekenpfandbriefe), AAA/Stable
- Commerzbank AG, senior secured German public sector covered bonds (Öffentliche Pfandbriefe), AAA/Stable

The ratings assigned to Commerzbank’s covered bonds are (i) based on public information, (ii) not solicited by the issuer and (iii) without issuer participation in the process.

Related Research:
Commerzbank Issuer Rating Report published 3 September 2015
Scope upgrades Commerzbank’s Long-Term and Short-Term ratings to A- and S-1 published 6 July 2015
Covered Bond Framework Analysis – Analytical Considerations, published 31 July 2015

Important information

Information pursuant to Regulation (EC) No 1060/2009 on credit rating agencies, as amended by Regulations (EU) No. 513/2011 and (EU) No. 462/2013

Responsibility

The party responsible for the dissemination of the financial analysis is Scope Ratings AG, Berlin, District Court for Berlin (Charlottenburg) HRB 161306 B, Executive Board: Torsten Hinrichs (CEO), Dr. Stefan Bund.

The rating analysis has been prepared by Karlo Fuchs, Executive Director.
Responsible for approving the rating: Dr. Stefan Bund, Chief Analytical Officer.

The rating concerns financial instruments which were evaluated for the first time by Scope Ratings AG. The rating outlook indicates the most likely direction of the rating if the rating were to change within the next 12 to 18 months. A rating change is, however, not automatically ensured.

Information on interests and conflicts of interest

The ratings assigned to Commerzbank’s covered bonds are (i) based on public information, (ii) not solicited by the issuer and (iii) without issuer participation in the process.

As at the time of the analysis, neither Scope Ratings AG nor companies affiliated with it hold any interests in the rated entity or in companies directly or indirectly affiliated to it. Likewise, neither the rated entity nor companies directly or indirectly affiliated with it hold any interests in Scope Ratings AG or any companies affiliated to it. Neither the rating agency, the rating analysts who participated in this rating, nor any other persons who participated in the provision of the rating and/or its approval hold, either directly or indirectly, any shares in the rated entity or in third parties affiliated to it. Notwithstanding this, it is permitted for the above-mentioned persons to hold interests through shares in diversified undertakings for collective investment, including managed funds such as pension funds or life insurance companies, pursuant to EU Rating Regulation (EC) No 1060/2009. Neither Scope Ratings nor companies affiliated with it are involved in the brokering or distribution of capital investment products. In principle, there is a possibility that family relationships may exist between the personnel of Scope Ratings and that of the rated entity. However, no persons for whom a conflict of interests could exist due to family relationships or other close relationships will participate in the preparation or approval of a rating.

Key sources of Information for the rating

Available public information provided to investors by the issuer, official publications and data series by the central bank, regulators and research from reputable market participants. Scope Ratings considers the quality of the available information on the evaluated entity to be satisfactory. Scope ensured as far as possible that the sources are reliable before drawing upon them, but did not verify each item of information specified in the sources independently.

Examination of the rating by the rated entity prior to publication

Prior to publication, the rated entity was given the opportunity to examine the rating and the rating drivers, including the principal grounds on which the credit rating or rating outlook is based. The rated entity was subsequently provided with at least one full working day, to point out any factual errors, or to appeal the rating decision and deliver additional material information. Following that examination, the rating was not modified.

Methodology

The methodology used for the rating assessment is “Covered Bond Rating Methodology” published in July 2015 as well as “General Structured Finance Rating Methodology” published 28 August 2015. The methodologies are available on www.scoperatings.com.
The historical default rates of Scope Ratings can be viewed on the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. A comprehensive clarification of Scope’s default rating, definitions of rating notations and further information on the analysis components of a rating can be found in the documents on methodologies on the rating agency’s website.

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