Denmark Seeks to Dispel Failed Bond Auction Doubt: Nordic Credit

Denmark’s government has clarified its definition of what constitutes a failed mortgage bond auction after lawmakers and industry representatives said a bill due to be passed tomorrow lacked details.

In a Feb. 6 reply obtained by Bloomberg News, the Business Ministry told opposition lawmaker Brian Mikkelsen that a mortgage bond refinancing auction is deemed to have failed if “there weren’t enough buyers for the new bonds needed to refinance existing loans.”

The definition helps complete legislation that will mark the broadest overhaul of Denmark’s $550 billion mortgage bond market in at least a decade. The new law means investors in one-year bonds used to fund mortgages as long as 30 years will be forced to accept a 12-month maturity extension if interest rates jump 5 percentage points or more, or if an auction fails.

The definition of failure may ultimately be irrelevant. According to Standard & Poor’s, Denmark’s central bank would never stand by if an issuer in the world’s largest mortgage bond market per capita lacked buyers. The central bank has signaled it will step in to support financial stability, though not if an institution is beyond saving.

‘A Backstop’

“Conditional maturity extensions don’t change the central bank’s role as a lender of last resort,” Jens Lundager, assistant governor at Denmark’s central bank, said in an e-mailed reply to questions. “But that ensures that the model used by mortgage institutions doesn’t rely on the central bank as a backstop. What that means will depend on the specific situation.”

Investors have remained loyal to the bonds since the government first proposed extending their maturities in late October. The Nykredit Index of Denmark’s most-traded mortgage bonds returned 1.7 percent in the period, according to data compiled by Bloomberg. U.S. Treasuries with maturities longer than one year returned 0.1 percent since the end of October. German bonds returned 0.9 percent.

Denmark’s mostly AAA-rated mortgage bond market is about 3 1/2 times the size of its government debt market. Investors can choose between fixed-rate 30-year bonds with a call option, or adjustable-rate mortgage bonds that are refinanced as often as annually. Borrowers have also had the option to pay interest only since 2003.

Limiting Risk

Business Minister Henrik Sass Larsen pushed for the new mortgage bill in response to warnings from the central bank and S&P that Denmark’s home-loan market was vulnerable to liquidity shocks. More than a third of the market is refinanced annually.

“Since the law was first proposed, government efforts have targeted removing the option of a failed auction,” Benny Engelbrecht, parliament’s business committee speaker for the ruling Social Democrats, said in a telephone interview. “We’re limiting the risk to the system from having a failed auction.”

Since the global financial crisis started in 2007, Danish policy makers have stepped in more than once to support the mortgage market, which is dominated by Nykredit Realkredit A/S and the home-loan unit of Danske Bank A/S (DANSKE), Denmark’s biggest bank.

Mortgage banks’ repurchase agreements with the central bank more than doubled to exceed 200 billion kroner ($37 billion) in 2008 after lenders struggled to sell their bonds on the market, according to a government-commissioned study published in September. The same year, Denmark adjusted rules governing pension fund investments, preventing a sell-off of mortgage bonds.

Those efforts underline investor assumptions Denmark will find a way to prevent a crisis in its mortgage market, which is more than 1 1/2 times the size of the $340 billion economy, according to Jens Peter Soerensen, chief bond analyst at Danske.

“The risk of a failure is already very small,” he said.

To contact the reporter on this story: Peter Levring in Copenhagen at plevring1@bloomberg.net

To contact the editors responsible for this story: Tasneem Brogger at tbrogger@bloomberg.net Jonas Bergman

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