The European Central Bank will change how it values bonds and loans pledged by banks to obtain Eurosystem liquidity from November 30. The revisions affect credit-quality assessments and haircuts, which reduce the collateral value recognized by the central bank. Euro-area government bonds are excluded and will continue to use the best available rating.
For unsecured bank bonds, haircuts will fall in several categories. For CQS 1–2 bonds with five to seven years remaining, the rate will be 12%, down from 14%; for seven to ten years it will be 14% from 16%, and for ten to fifteen years 17% from 18%. For CQS 3, the haircut will fall from 25.5% to 20% at five to seven years and from 26.5% to 23% at seven to ten years. Lower haircuts increase the collateral value that can support borrowing.
A second change may offset those reductions: the ECB will use the second-best rating from recognized agencies rather than the best rating. If that rating moves a bond into a lower CQS category, its haircut could rise. Where only one rating is available, the ECB will downgrade it by one notch. Smaller issuers and regional banks may face higher costs if they need to pay multiple agencies. The report says second-best ratings for Greek systemic banks currently match their best ratings.
The article illustrates the effect with two issues. Alpha Bank’s €700 million senior preferred bond, rated Baa2 by Moody’s and BBB by Scope, is CQS 3. With about 4.3 years remaining, its haircut will fall from 23% to 18%, potentially freeing an additional €35 million in liquidity. Eurobank’s €600 million green senior preferred issue, with about 6.8 years remaining, will see its haircut drop from 25.5% to 20%.
Covered bonds held by banks will face a different schedule. The ECB will remove additional haircuts of 8% for higher-quality and 12% for lower-quality bonds, replacing them with a duration-based table. For higher-quality issues, total haircuts will rise from 10.5% to 11.5% at three to five years, from 11.5% to 13% at five to seven years, from 12.5% to 15% at seven to ten years, and from 14.5% to 18% at ten to fifteen years. Lower-quality covered bonds benefit from the change.
Loan collateral will also be assessed by repayment structure as well as duration, credit quality and interest rate. Non-amortizing bullet or balloon loans will receive higher haircuts because principal is repaid at maturity. Since such structures are common in large Greek corporate and syndicated lending, the rule could reduce the recognized value of those loans and the liquidity banks can raise against them.