1 Structured Finance : Asset Based Finance and Covered Moyn UDDIN Executive Director Al Waha Capital PJSC Dubai, December 15th, 2010 DIFC Conference Center
Covered Bond Basics 2 Basic Structure Security over Loan Assets originates loans to borrower Borrower Loans Period Pmt (Issuer) Covered Bond P + I Investor transfers loans to the cover pool and issues a covered bond Borrower makes periodic payments to bank Covered bond pays P+I to covered bond holder by the Funding Funding cash flow generated from the loans (periodic payment) Key Characteristics Full Recourse Claims against Collateral Quality of Collateral Sufficient Collateral Issuer Bond holders have full recourse to the Issuer Bond holders have a claim against the underlying loans (collateral) in priority to the unsecured creditors Varies by jurisdiction, collateral has to achieve a minimum quality standard on an on-going basis, mostly in the form of a minimum credit score (Issuer) has the ongoing obligation to maintain sufficient collateral in the cover pool to satisfy the claims of covered bond holders. Some jurisdictions (not in France) require the issuance to achieve a minimum over-collateralization level In most cases the bonds are issued by a credit institution giving investors direct full recourse to the credit institution s resources. In some structures, however, the covered bonds are issued by a SPV which on-lends the credit institution. This provides the bondholders with full-recourse to the underlying credit institution through the SPV
Typical Structure Sukuk Al Ijara 3 Underlying Asset Asset Treatment A typical Sukuk Al Ijara structure requires the Issuer to identify certain assets to underpin the structure These assets must meet requirements for Sharia compliance While the structure is based on the underlying assets, it is not backed by the assets i.e. in the event of default an investor does not have recourse to the assets on which the Sukuk is based Thus the investor will focus on the credit of the institution through the purchase undertaking as opposed to the underlying assets In contrast, a covered bond investor will have recourse to both the issuer of the bond and to the underlying collateral assets The existence of assets underpinning the Sukuk structure, makes the creation of a covered Sukuk easily achievable In a covered Sukuk structure, the underlying asset - Meets the criteria for Sharia compliance - Acts as collateral securing the bond obligations Company (Purchaser) Exercise Price Purchase Undertaking Deed Sukuk Al Ijara Structure Ijara Sukuk Issuance Company (Lessee) SPC Rentals Company (Seller) Sale of Assets through Sale Agreement Periodic Payment Sukuk Investors
Covered Sukuk 4 (Purchaser) (Lessee) (Seller) Islamic Assets Ijara Rentals Exercise Price Purchase Undertaking Deed SPC Sale of Islamic Assets through Sale Agreement Recourse to Islamic Assets Covered Sukuk Issuance Periodic Payment Covered Sukuk Investors
Covered Sukuk & Regulations 5 The Regulatory Environment in France In France, covered bonds are typically highly-rated securities (often AAA) that are eligible for repo transactions with the European Central As such, regulation is tight with strict measures undertaken to ensure the quality of both the issuer and the underlying asset that secures the bond obligations Moreover, the regulation is well-defined The Regulatory Environment in the GCC In contrast, the regulatory environment in the GCC is less well-defined and not set up to support covered bond (or Sukuk) issuances, which have as yet been primarily European instruments
Covered Sukuk Issuance 6 Future Issuances in Covered Sukuk While a covered Sukuk can be structured without difficulty, a successful first issuance will need to be issued in a jurisdiction with a comprehensive and well-defined law addressing such structures The first covered Sukuk will likely originate from a European jurisdiction where the regulation is more agreeable to such issuances Target investors will come primarily from the traditional Islamic investor base, with special attention to the more conservative investors, who will be attracted by the additional layer of security provided by the covered bond structure Regulatory Improvements in the GCC For a covered Sukuk to originate from the GCC, the necessary framework to support such a structure must first be put into place