Covered bonds: Details emerge of WaMu’s landmark covered bond

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By:
Alex Chambers
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Washington Mutual’s treasury officials reveal the rationale behind the first covered bond from a US issuer.

New countries joining the covered bond sector are almost par for the course these days but when the country concerned is the US it is highly significant. If other US borrowers follow the lead of Washington Mutual, and there are indications that at least two others will closely follow, the impact will be huge, even if covered bonds are only a small proportion of their funding mix, because these are very large mortgage portfolios.

“Following a roadshow that will take place in September, Washington Mutual will offer a non-European mortgage-backed covered bond,” says Paul Phillips, vice-president, treasury, at Washington Mutual Bank. “The transaction will be Reg S euro denominated, not sold to US investors, and will be triple A with Fitch, Moody’s and S&P rating agencies.” On a senior unsecured basis Washington Mutual is rated A2/A/A by these three rating agencies. But by issuing covered bonds it can achieve triple A ratings, which dramatically alters the cost of funds. Phillips says that the deal will be a bullet format with a fixed-rate coupon. The expectations are for a deal to be in the region of €2 billion and €3 billion.

It has taken WaMu little more than six months to get itself into this position. The bank’s funding team started working earnestly with arrangers and others just after a perpetual preferred deal in late winter.

“Our regulator and the rating agencies have been really cooperative in helping us navigate through the US legal issues,” says Phillips. The requirement to create a programme that would fit US and European requirements was clearly the most important imperative. The sole arranger, Barclays Capital, is also lead manager alongside ABN Amro and Deutsche Bank.

Phillips says that syndication will follow that of a typical European covered bond transaction and involve the invitation of several other co-leads which, in addition to the leads, will provide secondary market liquidity on the bonds.

“It gives us an outstanding opportunity to diversify our funding sources. We have been an active part of the Federal Home Loan Banks system,” says Phillips. Covered bonds provide long-dated funding at cost-effective levels that would simply not be available using the FHLB system.

As of June 2006 FHLB loans to WaMu were $55 billion, 16% of its assets. Lessening its dependence on FHLB is a continuing aim at the bank. Because finance provided via FHLB is typically less than three years, banks that use the system are building in an asset and liability mismatch because mortgages are long-dated.

Government-sponsored enterprises are an important source of liquidity to mortgage markets by making loans against mortgage portfolios. But in recent years there have been a lot of negative headlines about Fannie and Freddie; against that backdrop it makes a lot of sense for banks to diversify their sources of funding. The problem banks had was that it was virtually impossible to match FHLB rates.

“Term funding is very important but so also is the rate. We are selling triple A, which should be very compatible pricing to FHLB. Our indicative levels for 3.5 years out are breakeven or better,” says Phillips.