Latecomer to 250-Year-Old Market, Poland Embraces Covered Bonds

  • PKO BP is selling 500m zloty of debt backed by home loans
  • Poland's biggest sale of covered bonds since new MBS law

Polish banks getting squeezed by a new wave of taxes are turning to Europe’s oldest bond market for help.

The nation’s biggest lender, PKO Bank Polski SA, is planning a 500 million-zloty ($133 million) sale next week of covered bonds backed by mortgages, the largest such offering since a law was enacted this year to remove bottlenecks that previously stunted the industry’s growth. Mortgage-backed securities account for just 0.2 percent of Poland’s economy, compared with 3 percent in Hungary and 47 percent in Sweden, according to data compiled by the European Covered Bond Council for 2014.

Polish lenders may be Europe’s last major frontier to dive into what is one of the oldest markets for securities backed by assets including home loans, first developed in Prussia during the 18th century as an alternative source of financing. Since they are backed by collateral that investors can lay claim to in the event of default, MBS offer a way for Poland’s banks to raise cash at lower yields, saving them money as a new 0.44 percent levy on their assets threatens to choke profits.

"The difficult landscape banks face is a catalyst for them to seek alternative funding sources," said Rafal Trzop, the deputy chief investment officer in Warsaw at PTE Allianz Polska SA, a Polish pension fund and a unit of Europe’s biggest insurer. "A market that’s long been available to Western lenders is now opening for local institutions. The question remains if there will be enough domestic buyers."

The legislation passed last summer, and enacted on Jan. 1, broadens pension funds’ investments in covered bonds. It also removes a withholding tax on interest, potentially helping improve demand for debt and clearing the way for greater issuance. Already Bank Pekao SA is targeting a sale that’s four times the size of PKO’s later this year, while ING Bank Slaski SA and Getin Noble Bank SA are mulling offerings amid plans to open home-loan units to diversify their funding options.

PKO in June estimated that the industry could save at least $360 million zloty a year once funding with the securities increases to 20 percent of the country’s outstanding mortgages.

Cost Savings

The cost savings are becoming more important for lenders in the European Union’s largest eastern economy as they could face losses stemming from the president’s proposal requiring them to swap mortgages denominated in foreign currencies into the zloty at a discount exchange rate. The zloty gained 0.1 percent to 4.2848 against the euro at 2:02 p.m. in Warsaw.

For Polish pension funds, covered bonds may offer a "good replacement for government bonds," said Marcin Zoltek, the chief executive officer in Warsaw at Aviva PTE SA, Poland’s second-largest pension fund with an equivalent of $8 billion under management. If PKO sells the full amount, it "would open the Polish market for these new securities that were underused for a long time," he said.

Covered bonds were pioneered in 1769, when King Frederick the Great let aristocrats, churches and monasteries raise money by pledging their estates as collateral. The market has evolved to become a key source of financing for private housing across Europe and got a boost from the European Central Bank’s purchases of 138 billion euros ($158 billion) of the securities as part of a quantitative-easing program. That drove issuance last year to the highest since 2012.

Poland’s has a long way to go to deepen its 5.4 billion-zloty MBS market. For PKO, this month’s sale is a drop in the bucket compared with a portfolio of 96.1 billion zloty ($25.7 billion) of loans to home buyers.

Better Rating

While covered bonds could help open a "new important corporate debt niche," trading will need to be liquid enough to garner demand, according to Kamil Sobolewski, the head of fixed income in Warsaw at Nationale-Nederlanden PTE SA, country’s largest pension fund, which oversees $8.4 billion.

PKO, whose mortgage subsidiary PKO Bank Hipoteczny SA is selling the bonds next week, is already charting out its next sales, including another 500 million-zloty offering in the second or third quarter and a 500 million-euro issuance abroad in the final three months of the year. PKO’s notes next week carry an Aa3 rating at Moody’s Investors Service, two notches higher than the country’s sovereign score.

The 30 million zloty of floating-rate notes due Dec. 2020 sold by PKO as a test issuance in December last year at 75 basis points above three-month Warsaw interbank offered rate yield equivalent of 2.42 percent. That compares with 1.98 percent for comparable floating-rate government debt.

“The deal is fully covered by zloty household debt and we expect that pension funds and mutual funds will take a significant part of the transaction,” said Rafal Kozlowski, the chief executive officer at the unit in Warsaw.

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