The covered bond market, issued by institutions that have dependable collateral, has advanced in development in the past decade. This market proves to be an effective alternative for investors to develop securities supplied by government.
It was in 1770 that Germany introduced covered bonds to Europe, known as Pfandbriefe. Though other financial institutions provide them, banks are the main issuers of covered bonds. These bonds are securities produced from public sector or mortgage loans, thus the market includes two types of covered bonds, one backed by public sector loans and the other by top quality mortgage loans.
The process of valuating covered bonds is, to some extent, complex, as prices vary from country to country. Investors interested in securities that have the highest ratings can benefit from investing in the covered bond market.
The credit ratings received are decided by the state bank issuing them, and the loan quality included in the covered pool. Collateral gathered together in order to gain good credit rating is known as cover pool.
For the benefit of bondholders, assets included in these bonds are separated from other assets, in case of insolvency of the issuing bank. The point of difference between mortgages and covered loans with asset-backed securities is that, the loans, which back covered bonds, remain on the bank’s balance sheet. This assists in exercising a measure of control over assets.
Investing in these bonds is profitable because of their good credit quality. The yield received is high and can surpass government bonds. Investors, who do not want to hamper their quality of credit, yet want to try out their investments in mortgage securities, can gain from investing in covered bonds as the market has greater profit and less risk involved.
Last Updated on : 10th July 2013