The covered bond business is not the most exciting in the capital markets but virtually every investment bank is currently striving to enter or re-enter it. Why?
It is not as if good money can be made trading. The only reason why issuers pay fees is because of onerous market-making commitments. A covered bond trading desk that even manages to break even is a good one. Making profits of €1 million to €2 million is the best the leading banks can hope for.
Investment banks need to think politically about how to share costs and profits because the covered bond is something of a cuckoo in a blackbird’s nest. FIG bankers originate the deals and yet the securities are traded and distributed off agency desks.
What will be the shape of the covered bond market in five years? Only the brave would bet against consolidation. This is one of the few sectors where the bulge-bracket firms do not dominate. The question is for how long that will continue to be the case. The internationalization of the product away from the German home offers a serious threat as well as opportunities for market participants.
The major problem that smaller players will face is oddly not in origination but on the distribution side. Many investors are saying that they need to rationalize the number of counterparties they use. Having 25 banks selling a variety of fixed-income products is not viable for the long term.
There is the prospect of some market share being up for grabs, however. Should ABN Amro and Barclays Capital tie up there is little doubt that the near 18% combined market share that the two currently enjoy in this sector would fall.
