The proposed new legislative framework for covered bonds in Canada doesn’t have credit rating implications for the banks that issue them, but the decision to exclude insured mortgages as covered bond collateral may affect the supply of credit, and, ultimately, housing prices.

A regulatory framework for covered bonds was introduced by the Minister of Finance on April 26. And, in the wake of that move, rating agencies, Fitch Ratings and DBRS, say there are no rating implications as a result of the announcement.

DBRS notes that, as anticipated, the legislation does not allow any insured mortgages to be included as collateral. It will also require Canada Mortgage & Housing Corp. to maintain a registry for covered bonds; better define who can issue covered bonds; and, it specifies bankruptcy and insolvency protection for covered bonds. DBRS says there was also no mention of whether the current 4% regulatory limit on covered bonds will change.

At the end of March, $63 billion of covered bonds was outstanding, versus $50 billion at December 2011, DBRS reports; noting that Bank of Nova Scotia was the most active issuer, accounting for $5.5 billion of the increase. “Because many of the principles in the legislative framework were anticipated, there were a significant number of covered bond issuances by Canadian banks since the beginning of calendar 2012,” it says.

However, Fitch Ratings says that the decision to exclude insured mortgages from regulated covered bonds in Canada will likely increase the cost of future issuance, which may hurt credit availability, and, ultimately, house prices. It expects overcollateralization levels for uninsured mortgage pools will be higher than for insured pools to offset the increased credit risk and reduced liquidity of the underlying assets. This means wider spreads and/or increased enhancement levels, which Fitch says translates into a higher cost of funding for Canadian banks using this source of financing. In turn, this measure may also cause a contraction in credit availability, Fitch says, “which has the potential to negatively affect home prices.”

Fitch says it will monitor the impact on Canadian banks but does not expect to it be material given their diversity of funding sources and widespread market access.