European investment banks want to issue covered bonds into the U.S. as unrestricted securities, under an exemption from the Securities and Exchange Commission registration requirements in the U.S. Securities Act known as Section 3(a)(2), which would allow them to tap a broader investor pool.
Up until now, most U.K. and European firms issuing covered bonds in the U.S. have sold them as 144A offerings, which under the U.S. Securities Act are considered restricted securities, which can only be sold to sophisticated investors. Unrestricted securities do not need to be registered with the SEC and may be freely resold to the public without registration.
Most European banks already issue senior, unsecured bonds into the U.S. under the exemption, and now a small number of European banks are examining ways of offering covered bonds using the same framework, according to Elana Hahn, partner at Morrison & Foerster.
“We’ve been working with a number of clients developing 3(a)(2) exempt covered bonds where, because they are unrestricted, they would allow banks to tap either new pools of investors or allow them to tap the same pool of investors who could now invest in another basket of securities outside of 144A,” Hahn told SI Tuesday. She declined to name the firms involved.
Bonds sold in the U.S. under the 3(a)(2) registration exemption are required to be issued by a bank or guaranteed by a bank. Hahn said any 3(a)(2) issuance of covered bond issuers would require the use of a local U.S. branch or subsidiary as an issuer or a guarantor, and would need to satisfy existing requirements for 3(a)(2) offerings.
The process is still in the early stages, but Hahn said the new type of covered bond is a logical next step from the issuance of senior, unsecured bonds in the U.S.
“There are a number of issues to consider—approval from regulators in jurisdictions on both sides of the Atlantic, issues surrounding capitalization of the U.S. branch or subsidiary, and considerations over whether the proceeds from the bond issuance would be brought back to Europe,” she said.
There is already a mounting demand and pressure to look at ways to issue covered bonds from Europe into the U.S. other than 144A, according to Hahn. “Most investors in covered bonds will have limits on how much they can invest in 144A. Once they’ve reached that 144A limit, it’d be nice to go into another, unrestricted securities bucket to buy covered bonds.”
She said since these securities would be unrestricted and would be included in major bond indices, banks would, in turn, see pricing and liquidity advantages.