July 20, 2011 / 2:49 PM / 6 years ago

EU postpones key decision for Danish mortgage bonds

4 Min Read

* Commission says EBA to help develop liquidity buffer rules

* Will decide only by 2015

* Level 1 eligibility of mortgage bonds still uncertain

By John Acher

COPENHAGEN, July 20 (Reuters) - The European Union has postponed a key ruling for Denmark's mortgage credit system, announcing that a decision on assets which banks can use in their liquidity buffers will be made over the next few years.

Michel Barnier, the EU's internal market commissioner, unveiled draft laws in Brussels on Wednesday to implement the global Basel III accord on banking standards.

The draft was anxiously awaited by Danish banks, which wanted to see whether the EU would classify mortgage bonds as highly secure and liquid "Level 1" securities like government bonds.

Denmark has the world's third-largest mortgage bond market after the United States and Germany, so Danish banks are heavily invested in such bonds; excluding the bonds from Level 1 status could prompt banks to sell off mortgage debt.

However, Barnier's draft did not deliver a decision but left EU regulators to work up to 2015 to determine the status of mortgage bonds. The European Commission said the European Banking Authority would test different criteria for measuring how liquid securities are under stressed market conditions.

"This will prepare the ground for a decision before 2015 that will ultimately determine the eligibility criteria for the two tiers of the liquidity buffer," the Commission said.

Danish mortgage bonds strengthened on Wednesday ahead of the publication of the draft on expectations they would qualify as Level 1 assets, with spreads tightening 3 or 4 basis points on 30-year callables; they subsequently steadied, said Jacob Skinhoj, chief fixed-income analyst at Nordea in Copenhagen.

"This should have been a day of glory for Danish covered bonds and then nothing seems to be determined yet!" Skinhoj said in a note to clients.

Standards

Basel III introduces a global set of standards for banks' liquidity for the first time. Sixty percent of banks' liquidity buffers should consist of Level 1 assets such as cash, central bank deposits and highly liquid government bonds; a cap of 40 percent is placed on other kinds of assets.

If the EU does not choose to define mortgage bonds as Level 1 assets, Danish banks will face a big challenge, since their current liquidity pools consist roughly 85 percent of Danish mortgage bonds and only 15 percent of government bonds.

Skinhoj said he expected Danish mortgage bonds ultimately to qualify as Level 1 assets, but with a significant restriction: assets issued by a financial institution itself would not qualify as liquid assets.

The Danish mortgage credit industry and Denmark's central bank have lobbied to get Danish mortgage bonds accepted as Level 1 assets.

The Danish Bankers Association said it was confident that the bonds would qualify, noting that the Commission's draft defined liquid assets as "transferable assets that are of extremely high liquidity and credit quality".

"We are convinced that Danish covered bonds will be recognised as highly liquid paper and with high quality in line with government bonds," said Morten Frederiksen, head of the regulation department at the Bankers Association.

Economics and Business Affairs Minister Brian Mikkelsen said in a statement that the Commission had shown a good understanding of the needs of the Danish mortgage credit system and that its proposal would help create a more robust financial sector in Denmark and across Europe. (Additional reporting by Ole Mikkelsen; Editing by Andrew Torchia)

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