2008 was the most challenging year for the Jumbo covered bond market since its inception in 1995. The general increase in risk premia, sharp declines in global real estate markets, significant restructuring of financial institutions and a considerable widening of non-core sovereign spreads have markedly impacted the Jumbo covered bond market. Spread differentiation across different sectors, structures and issuers started in H2 2007 and accelerated in 2008. New issues of state guaranteed bonds are typically priced with high spreads over swaps and therefore put pressure on covered bonds. A negative covered bond – senior CDS basis in some names like e.g. BBVA, BNP and JP Morgan suggests that many covered bonds offer fundamental value. Covered bonds of sounder banks of stronger European countries seem attractive versus some peripheral sovereigns like Ireland and Greece.

Besides numerous taps and issuers making significant use of retained issues used for central bank funding, the inaugural issue of structured covered bonds by Crédit Agricole in the third week of January (7Y, EUR 1.5 bn, at ms + 135 bp) was the second EUR Jumbo covered bond issue in 2009 after BNP Paribas (5Y, EUR 1.5 bn, at ms + 110 bp), which is now trading at ms + 90 bp LBBW followed with a 5Y Jumbo public Pfandbrief at ms + 75 bp, also suggesting that stronger banks (willing to pay a significant premium to secondary market spread indications) have access to Jumbo covered bonds. However, given ongoing deleveraging of bank balance sheets and massive primary market competition from state guaranteed bonds, agencies, supra-nationals, sub-sovereigns and non-core sovereigns, the primary market for EUR Jumbo covered bonds is likely to remain challenging. The diversity of structures launched in the covered bond market shows that opinions vary as to how the issuer’s interest in favorable funding conditions can be combined with investors’ interest in the highest possible level of security. Irrespective of the way in which the prerequisites for privileged risk weighting of covered bonds are determined at the EU level, innovative and market-driven development should not be impeded by the typical maze of legal regulations. Investors always have the possibility of demanding a spread premium for specific covered bonds like structured covered bonds that are more complex or deviate from the standard, particularly in the current market in which investors are price-makers instead of price-takers.