ECB Loosens Collateral Criteria

The ECB announced yesterday that it is giving seven Eurozone central banks the power to accept a wider range of collateral in the forthcoming LTRO, despite concerns voiced by the Bundesbank. In our opinion, these changes will offer considerable support to credit markets.

The first 7 national central banks to receive approval include some of those at the forefront of recent market speculation (no surprises there!). These include the central banks of France, Ireland, Spain, Italy, Portugal, Cyprus and Austria. We understand that the remaining central banks in the Eurozone are still working on their rules and have yet to apply to the ECB for approval, but we expect the list to grow ahead of the 29th February repo.

In summary the changes are as follows:

Italy, France and Austria - lowering their minimum score for credit claims to 1yr default probability of less than 1% (based on ECB models) which implies lowering the credit rating from BBB to BB. This will allow a wider range of loans including many domestic SMEs and export loans and even going as far as domestic Italian insurance loans and finance guarantees.

Spain - same as above except they are also accepting all ‘major’ foreign currencies, not just Euro. The Banco de España has also said that initially it will only accept a default probability of equal to or less than 0.4% (which translates to BBB-), moving to 1% at a later date. They also said they would consider claims not governed under Spanish law.

Portugal - will accept credit claims with a probability of default not exceeding 1.5%, including mortgage-backed loans to households, consumer credits and loans to both financial corporations and other enterprises. The Banco de Portugal also stated that it will reduce the minimum size of the credit collateral from €500k to €100k. This translates to BB- rated credit.

According to the Italian Central Bank this change is estimated to equate to an additional €70bn of funding for the Italian banks. So far, the other central banks have not given guidance on the additional funding these collateral changes equate to, but based on Italy’s number the overall figure will be substantial.

Mr. Draghi commented yesterday that he expected the size of the upcoming LTRO to be similar to that of December’s (€489bn), although some commentators have estimated that it could be up to double that. Either way, it’s a material addition of liquidity which will certainly support the market.