Scope Ratings has today assigned Long-Term Ratings of AAA with a Stable Outlook to covered bonds (säkerställda obligationer or SO) issued by Nordea Hypotek AB, the Swedish mortgage banking subsidiary of Nordea Bank AB (Nordea).

The ratings reflect i) Nordea’s Issuer Credit-Strength Rating (ICSR) of A+/Stable/S-1 (‘Nordea Bank AB Issuer Rating Report’ published 3 November 2015), which Scope uses as the analytical anchor for rating the covered bonds issued by Nordea Hypotek AB, and ii) the fundamental credit support provided by Sweden’s covered bond legal framework as well as Scope’s understanding of the plan to fully implement the bank recovery and resolution regime. In combination, the fundamental credit support for covered bonds results in a credit differentiation of six notches to the parent bank’s ICSR. These ratings do not include the potential of further credit support (up to three extra notches) which the cover pool analysis could provide.

Fundamental assessment supports high credit differentiation above bank’s rating

To determine the fundamental uplift, the Swedish legal and resolution framework was analysed based on Scope’s methodology, with the conclusion that the mortgage covered bonds issued by Nordea Hypotek AB can benefit from the maximum fundamental uplift of six notches above the rating of Nordea. For more details, see the Swedish section in ‘Covered Bond Framework Analysis – Analytical considerations’, published 31 July 2015).

Legal framework analysis

Scope’s legal framework analysis concluded that both the i) requirement to use a specialist mortgage bank, and ii) segregation provisions in Sweden’s covered bond legal framework ensure strong separation between cover assets and the remainder of potential insolvency estates. The covered bond law does not stipulate a formal liquidity coverage requirement but provides a range of possibilities to support timely payment after an issuer’s insolvency. Issuers can register more liquid substitute collateral and contractually agree to soft bullet structures. The cover pool insolvency administrator can also actively contract third-party liquidity to assist in the timely payment of covered bonds. Currently, covered bond laws do not stipulate a minimum overcollateralisation (oc) ratio but Scope understands a minimum oc level of 2% will become mandatory by mid-2016.

Overcollateralisation available remains protected after insolvency and current levels are already higher, which reflects the risk management requirements stipulated in the framework. The Swedish FSA supervises issuers’ compliance with the covered bond framework. Compliance is further supported by an independent inspector, appointed by the Swedish FSA, that is a ‘gatekeeper’ for the cover pool, independently monitoring eligibility requirements and the issuer’s risk management obligations specific to covered bonds.

Swedish mortgage covered bonds receive the full two-notch credit differentiation for the supportive legal framework as all rating-relevant aspects of Scope’s rating methodology are addressed in full.

Resolution regime analysis

Scope’s resolution regime assessment examines the state of Sweden’s implementation of the Bank Recovery and Resolution Directive (BRRD) and incentives that could avoid regulatory intervention on the issuer which might impact the covered bond’s credit quality and impair its ongoing performance. Scope concluded that the full four notches of credit differentiation can be assigned for Swedish covered bonds.

Full implementation of the BRRD, in line with the European Commission’s proposal, is still outstanding in Sweden. However, Scope understands there are no plans to deviate from the preferential treatment of covered bonds upon regulatory intervention. Strong systemic support also makes the likelihood of investors taking recourse to the cover pool extremely remote.

Scope believes Nordea is systemically important in its market. Therefore it is of public interest that, in a resolution, Nordea would be recapitalised and not placed into insolvency proceedings. Accordingly, Scope expects that the subsidiary, Nordea Hypotek AB, would not be impacted by a restructuring of the parent, and envisages that covered bonds will be excluded by resolution authorities in a potential bail-in and recapitalisation process. Scope views Nordea as having a substantial cushion of eligible liabilities for bail-in (capital securities, other subordinated liabilities, and long-term senior unsecured debt), which represents reassuringly ample protection for the parent and, subsequently, for Nordea Hypoteks AB’s covered bonds. In Scope’s view, a scenario in which bailed-in eligible liabilities are inadequate to stem losses, recapitalise the bank and eventually prompt a wind-down of Nordea Hypotek AB and its cover pool to be highly implausible.

Covered bonds in Sweden are systemically relevant, evidenced by the more than EUR 200bn of outstanding covered bonds, and Swedish covered bonds composing well above 50% of GDP. All large Swedish banks are active issuers of covered bonds. Covered bonds are an integral feature in domestic capital debt markets and are vital for refinancing Nordea’s mortgage lending, as well as allowing it to refinance public sector lending. Scope views Swedish – in particular SEK-denominated – covered bonds as systemically important. Swedish banks’ liquidity portfolios have a high share of covered bonds; and domestic insurance investors are interested in SEK-denominated, high credit-quality and long-dated investments.

Scope observes that an active stakeholder group in the Swedish market has regularly addressed issues that could have a negative credit impact on covered bonds (reduction of maximum loan-to-value for new mortgage lending, introduction of amortisation requirements, and the expected introduction of minimum oc by mid-2016). The strong alignment of interests between all stakeholders supports Scope’s view that, in a resolution process, covered bonds of an issuer are not likely to be impacted, and assigning the full four-notch uplift from Scope’s resolution regime analysis is warranted.

Covered bond ratings assigned to Nordea Hypotek AB’s säkerställda obligationer

Swedish Nordea Hypotek AB is the second largest of the four covered bond funding platforms that the Nordea group uses to source most of its long-term funding. The SOs are covered mostly by Swedish residential mortgage loans, followed by multifamily housing, commercial real estate loans, and some domestic public sector exposures.

For the unsolicited ratings, Scope did not analyse the cover pools’ credit quality, cash flow structure, potential counterparty risk and whether protection levels (overcollateralisation) could support an additional credit differentiation of up to three extra notches.

Rating change drivers

The SOs benefit from a rating buffer of at least two notches, which means current covered bond ratings could sustain a two-notch downgrade of the issuer and still maintain their ratings. Further rating stability could be provided from the cover pool rating analysis, which may further enhance the ratings by three extra notches. Rating drivers for the covered bonds therefore mirror those for the issuer.

Scope currently does not expect changes that could impact the assessment of fundamental rating drivers for Nordea Hypotek AB’s covered bonds

The following ratings were assigned to Nordea Hypotek AB’s covered bonds:

- Nordea Hypotek AB, senior secured Swedish covered bonds (säkerställda obligationer), AAA/Stable

The ratings assigned to Nordea Hypotek AB’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

'Nordea Issuer Rating Report', published 3 November 2015
'Covered Bond Framework Analysis – Analytical considerations', published 31 July 2015

REGULATORY AND LEGAL DISCLOSURES

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 an issuer which was 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 Nordea Hypotek AB’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 in 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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