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Editor's letter: Covered bonds bail-in free

Bank debt bail-ins have prompted fierce debate in the banking industry and among fund managers. Spend time in the company of a bank-funding official or an investor in bank debt and it doesn’t take long for them to get a little hot under the collar.

On a recent visit to a prominent London fund manager, Euromoney watched one portfolio manager pound his fist on the table, incredulous that regulators were proposing to turn senior debt instruments into something that begins to resemble equity. Anathema is a word that springs to mind.

As a recent survey of investors conducted by JPMorgan shows, many investors see senior bank debt as less investable if bail-ins are imposed. That’s a worrying prospect for global banks seeking $3 trillion of funding by the end of next year. It raises the question of what will remain an investable asset within the bank debt universe?

The answer could be covered bonds. In theory, covered bonds can’t be haircut – that is, unless you radically change the law. The law as it stands stipulates that covered bonds must be overcollateralized, so that there is an excess of income to meet every interest and principal repayment. In the event of insolvency, the cover pool of the assets behind the bonds gets segregated and separated, and then managed by another party. For example, in Ireland those assets would be managed by the National Treasury Management Authority.

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