2. 1 Securitisation Seminar Belgrade, 6 th of December 2007 The Pfandbrief The Pfandbrief Legal framework and main differences compared with securitisation. An easy, cheap and always deep source for funding of mortgage loans

3. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 2 14.07.2015 Agenda AIntroduction Fundamentals BThe Subprime Crisis CDefinition of Covered Bonds Legal Framework DPfandbrief Act in Germany EComparison with MBS Discussion

4. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 3 14.07.2015 Characteristics of a Mortgage Loan Mortgage Loan  high amount  long maturity  secured by mortgage at property and land  low interest rate

5. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 4 14.07.2015 Sources of Funding  Equity  Deposits  Money Market (short term loans from banks)  obligations (unsecured bonds)  MBS (mortgage backed securities)  Pfandbriefe (mortgage covered bonds)

6. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 5 14.07.2015 Costs of Funding Goal: low low interest rates for loans cheap -->the funding has to be designed as cheap as possible

7. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 6 14.07.2015 Cost of Funding  Interest rate curve  Credit risk in view of the investors --> rating  Costs of issuance — once for the direct issuance process Structuring, prospectus, rating, … — on the long run for covering investors, rating agencies, authorities, … e.g. frequently issuing reports, risk management, edp etc. Servicing in case of MBS

8. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 7 14.07.2015 Costs of Funding Fundamental: the higher the investor assesses the risk, the higher the interest rate has to be he demands! -->the lower the risk, the lower the interest will be

9. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 8 14.07.2015 Costs of Funding Solution  Increase creditworthiness of the bondTrick: — create collateral pool for the bond — separate this collateral pool from the bank — make the pool insolvency remote!  the bond can reach an AAA rating, independent from bank rating!

10. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 9 14.07.2015 Securitisation / Pfandbrief Two techniques to make the collateral pool insolvency remote: SecuritisationPfandbrief - based on contract- based on law - true sale- legally separated - SPV is needed- no SPV - off balance- on balance - investor takes credit risk - credit risk remain at issuer - rating absolute necessary- rating no must (nat. investors)

11. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 10 14.07.2015 Classification Mortgage banking act Specialized mortgage banks  only low risk mortgage business  private placements  Jumbos Securitisation technique is used Universal banks  only Jumbos Pfandbrief act Universal banks (with licence)  mortgage business is core business  private placements  Jumbos Covered Bonds Law based Pfandbriefe Contractual Structured Covered Bonds

12. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 11 14.07.2015 Agenda AIntroduction Fundamentals BThe Subprime Crisis CDefinition of Covered Bonds Legal Framework DPfandbrief Act in Germany EComparison with MBS Discussion

13. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 12 14.07.2015 Subprime Crisis Until the US subprime crisis summer 2007  Banking sector over liquid  Spreads for low quality papers very small  Investors bought everything Since the crisis …  Worldwide liquidity squeeze  Flight to quality  Spreads for lower quality are exploded  Issuing MBS very hard if not to say impossible  Even AAA tranches of MBS under massive pressure  Issuing Pfandbriefe always to good conditions possible

14. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 13 14.07.2015 Subprime Crisis Source:DB Global Markets Research New issues of ABS/MBS broke down in summer 2007 50 100 150 200 250 300 350 400 450 500 JanFebMarAprMayJunJulAugSepOctNovDec EUR bn 2004 2005 2006 2007 EUR 401.8 billion YTD

15. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 14 14.07.2015 Subprime Crisis AAA Indicative spread history BBB Indicative spread history Source:DB Global Markets Research US Subprime Crisis Dramatically spread widening of MBS issues

16. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 15 14.07.2015 Subprime Crisis Spreads of Covered Bonds (vs. Swap) Source:DB Global Markets Research

17. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 16 14.07.2015 Agenda AIntroduction Fundamentals BThe Subprime Crisis CDefinition of Covered Bonds Legal Framework DPfandbrief Act in Germany EComparison with MBS Discussion

18. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 17 14.07.2015 Legislation in countries of the EU/EEA/CH Legislation in other countries Concrete legislation in preparation 2 26 28 23 3 1998 1997 1995 1998  1997 1999 2000 2002 2006 2004 2006 2003 2005 2006 1996 2007 (as of September 2007 ) Pfandbrief Legislation in Europe 1931 2007 2006 2007  ©

19. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 18 14.07.2015 Market Share of the European Covered Bond Countries in the European Covered Bond Market (source: EMF/vdp – 27.7.2007) Covered Bond Structures in Europe Market Shares For Austria the figures are tentative. end of 2006: 1.910 bn €

20. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 19 14.07.2015 Pfandbrief What is a Pfandbrief (Mortgage Covered Bond)?  Debt security which is a general obligation of the issuer, issued against a collateral cover pool — held on-balance of the issuer — consisting of residential (and commercial) property held in a cover pool  issuance and management based on strict quality standards laid out in a law  Pfandbrief issuers are subject to special supervision in addition to ordinary bank supervision  in case of issuers insolvency: — separation of cover pool from insolvency estate — preferential claim of Pfandbrief creditors against separated cover pool — no acceleration of Pfandbrief bonds ©

21. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 20 14.07.2015 From Mortgage Loan to Pfandbrief Non Performing LoansRepayments Cover Pool Supervisor Pfandbriefe Mortgage Loans Cover Pool

22. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 21 14.07.2015 Congruence Criterions Cover Pool >= Pfandbriefe

23. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 22 14.07.2015  Art. 22 (4) UCITS-Directive (Investment Directive)  Art. 49 (1) letter I); Art. 63 (2) of the Consolidated Banking Directive  Art. 22 (4) of the 3rd Directive on life insurance companies  Art. 22 (4) of the 3rd Directive on other insurance companies  Art. 11 (2) of the Directive on capital adequacy for investment firms  Art. 1 No 1 (3) of the Directive on deposit insurance  EZB: Tier 1 (eligible as collateral) EU-law for mortgage bonds ©

24. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 23 14.07.2015 Criteria of Art. 22 IV (UCITS Directive)  Article 22(4) of this Directive defines the minimum requirements that provide the basis for privileged treatment of so-called “certain bonds” in different areas of European financial market regulation.  Article 22(4) allows a special treatment, when these “certain” bonds are issued by a credit institution which has its registered office in a Member State and is subject by law to special public supervision designed to protect bondholders. Sums deriving from the issue of these bonds must be invested in conformity with the law in assets which, during the whole period of validity of the bonds, are capable of covering claims attaching to the bonds, which, in the event of failure of the issuer, would be used on a priority basis for the reimbursement of the principal and payment of the accrued interest. UCITS Directive ©

25. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 24 14.07.2015 Meaning of Art. 22 IV UCITS-Directive  „Mortgage bond“ as privileged investment instrument „bound assets“ may be invested in mortgage bonds / bonds according to Art. 22 IV UCITS: 40% instead of 5% in securities of one issuer Directive on life insurance companies Directive on large exposure credits mortgage bonds / bonds according to Art. 22 IV UCITS: are not included in the calculation of the upper limit Directive on capital adequacy mortgage bonds / bonds according to Art. 22 IV UCITS: have to be covered only with half of the equity Directive on deposit insurance mortgage bonds / bonds according to Art. 22 IV UCITS: are excluded from the term of „deposit“ Directive on investment funds funds may be invested in mortgage bonds / bonds according to Art. 22 IV UCITS: 25% instead of 5-10% in securities of one issuer Art. 22 (IV) UCITS ©

26. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 25 14.07.2015 Covered bonds benefit from privileged credit risk weightings only if they fulfil the following requirements:  Compliance with the standards of Article 22(4) of Directive 85/611/EEC (UCITS)  The asset pools that back the covered bonds must be constituted only of assets of specifically-defined types and credit quality  New quantitative restrictions on certain types of cover assets were established (e.g. max 15% exposure to credit institutions).  The issuers of covered bonds backed by mortgage loans must meet certain minimum requirements regarding mortgage property valuation and monitoring CRD ©

27. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 26 14.07.2015 Covered bonds are characterized by the following common essential features that are achieved under both special-law frameworks and general-law based frameworks:  The bond is issued by – or bondholders otherwise have full recourse to – a credit institution which is subject to public supervision and regulation.  Bondholders have a claim against a cover pool of financial assets in priority to unsecured creditors of the credit institution.  The credit institution has the ongoing obligation to maintain sufficient assets in the cover pool to satisfy the claims of covered bondholders at all times.  The obligations of the credit institution in respect of the cover pool are supervised by public or other independent bodies. Source: ECBC ECBC’s Covered Bonds Common Characteristics

28. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 27 14.07.2015 Agenda AIntroduction Fundamentals BThe Subprime Crisis CDefinition of Covered Bonds Legal Framework DPfandbrief Act in Germany EComparison with MBS Discussion

29. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 28 14.07.2015 Pfandbrief Act in Germany Following key points are ruled out in Germanys Pfandbrief Act and can be found equally or similarily in many other legislations within Europe:  issuer must be a credit institution  issuer has to be licensed by banking supervisory authority  public supervision  suitable risk managing system has to be in place  cover register  eligibility criterions for cover assets  independent appraisal of value of cover assets  congruence principles cover pool and issued Pfandbriefe  independent cover pool monitor  transparency provisions  exact rules in case of insolvency of the issuer  no acceleration of Pfandbriefe in case of insolvency  protection of the name “Pfandbrief”

30. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 29 14.07.2015 Pfandbrief Act Issuer must be a credit institution §1 (1) Pfandbrief banks are credit institutions whose business consists in Pfandbrief business. Issuer has to be licensed by banking supervisory authority §2 (1) A credit institution …shall require the written licence of the Federal Financial Supervisory Authority … Public supervision §3Supervision The supervisory authority shall carry out the supervision of the Pfandbrief banks in accordance with the provisions of this Act and of the German Banking Act.

31. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 30 14.07.2015 Pfandbrief Act Suitable risk managing system §27 (1) The Pfandbrief bank must have a suitable risk management system for Pfandbrief business. The system must ensure the identification, assessment, control and monitoring of all risks related thereto such as, in particular, counterparty risks, interest rate, currency and other market price risks, operational risks and liquidity risks. Cover register §5 (1) The cover assets used to cover the Pfandbriefe … shall be recorded by the Pfandbrief bank individually in the register (cover register)….

32. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 31 14.07.2015 Cover Pool Quality Demands Eligibility criterions [§§12 – 15] Appraisal of cover assets [§16]  Mortgage loans of residential properties up to 60% of their mortgage lending value  Mortgage loans of commercial properties up to 60% of their mortgage lending value — the mortgage lending value has to be evaluated by a property expert who must be fully independent of the loan decision.  up to 10% of the cover (=substitute cover) [§19] can consists of: — Deposits to the ECB or qualified credit institutes — Government bonds of countries of the EU, the OECD, CH, USA, CAN or JAP

33. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 32 14.07.2015 Mortgage Lending Value The Mortgage Lending Value :  conservative evaluation  future salebility  considering the long-term lasting characteristics of the objects  normal, regional market conditions  no speculative elements  mortgage lending value <= market value §16(2) Pfandbrief Act

34. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 33 14.07.2015 Funding Market Price Mortgage Value Loan Amount 60% LTMV Only this partial amount is allowed to be funded through Pfandbriefe! Must NOT be funded by Pfandbriefe Borrowers own equity Market Price Mortg. Lending Value Loan Amount 60% LTMV

35. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 34 14.07.2015 Pfandbrief Act Congruence Principles  The respective total volume of the Pfandbriefe outstanding must at all times be covered.... §4(1)Satz 1 Pfandbrief Act — Nominal value — Interest revenue — Net present value  The Pfandbrief bank shall ensure continually...... that the prescribed cover is given at all times. §4(4) Pfandbrief Act --> the Pfandbrief bank is obliged immediately to procure sufficient cover in case of violation of the congruence criterions

36. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 35 14.07.2015 Pfandbrief Act Independent cover pool monitor §7(1) A cover pool monitor and at least one deputy has to be appointed at each Pfandbrief bank §7(3) The appointment shall be made by the supervisory authority §8 Duties of the cover pool monitor  The cover monitor shall ensure: — that the prescribed cover for the Pfandbriefe exist at all times — that the assets used at cover … are recorded in the cover register  Prior to issue a Pfandbrief, the cover pool monitor shall confirm that the prescribed cover exists and is registered.  Cover assets may be deleted from the register only with the agreement of the cover monitor

37. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 36 14.07.2015 Pfandbrief Act §28 Transparency provisions The Pfandbrief bank shall publish on a quarterly basis…  The total volume of the Pfandbriefe outstanding as well as the cover pool in the amount of — Nominal value — Net present value — Risk adjusted net present value (stress test)  Maturity structure of Pfandbriefe and cover assets  Distribution in amounts of cover assets  Regional distribution  Relation of commercial / residential use — Type of use  Non performing loans (min. 90 days in arrears)

38. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 37 14.07.2015 Pfandbrief Act Rules in case of insolvency of the issuer §30 Insolvency, appointment of the cover pool administrator shall not be included in the insolvency estate (1) If insolvency proceedings are opened in respect of the Pfandbrief banks assets, the assets recorded in the cover register shall not be included in the insolvency estate.  Court what has jurisdiction appoints a cover pool administrator  Cover pool administrator ≠ insolvency administrator  Cover pool administrator has the right to manage and dispose the recorded assets and satisfies the Pfandbrief creditors.  Pfandbriefe are not accelerating! §32 Transfer of the cover pool and liabilities may (1) With the written approval of the supervisory authority the cover pool administrator may transfer all or a part of the assets recorded in the cover register, …, and liabilities from Pfandbriefe as an entirety to another Pfandbrief bank …

39. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 38 14.07.2015 Pfandbrief bank Insolvency administrator other assets cover pool issuer's insolvency cover pool Cover pool administrator Segregation of cover pool in case of insolvency other assets (=insolvency estate) Cover Pool in Case of Insolvency ©

40. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 39 14.07.2015 Pfandbrief Act Name Protection § 41 Protection of the name “Pfandbrief”  Bonds may only be issued under the name “Pfandbrief” or another name that contains the word “Pfandbrief” by banks that have been granted a licence to conduct Pfandbrief business

41. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 40 14.07.2015 Agenda AIntroduction Fundamentals BThe Subprime Crisis CDefinition of Covered Bonds Legal Framework DPfandbrief Act in Germany EComparison with MBS Discussion

42. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 41 14.07.2015 Covered Bond / MBS Fundamental differences: covered bonds vs. MBS

43. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 42 14.07.2015 Investors What the Investors want?  high quality  easy understandable bonds  Transparency  straight bonds  liquid bonds  prefer rated bonds  national Investors want national currency --> Pfandbriefe

44. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 43 14.07.2015 Pfandbrief A „Pfandbrief“ is a mortgage covered bond  very strictly regulated by law (Pfandbrief Act)  all banks who are issuing Pfandbriefe have to fulfil in addition to the general banking act specific regulations given from the banking supervisory authority BaFin  all Pfandbriefe of an issuer (must be a bank) are collateralized by one common, dynamic cover pool The cover pool  is strictly regulated by law and additional BaFin-regulations — credit risks (evaluation of properties --> mortgage lending value) — market risks (must cover all Pfandbriefe even under stress scenarios)  is supervised by an external monitor appointed from banking supervision authority BaFin  in case of bankruptcy of the issuer, will be extracted by law from the other assets and independently managed by a third independent administrator as long as all outstanding Pfandbriefe are served bankruptcy remote  is bankruptcy remote ©

45. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 44 14.07.2015 Securitisation in Germany Pfandbriefe vs. MBS in Germany  In general mortgage loans (and their credit risk) are remaining on the balance sheet of the issuing Pfandbrief banks  Selling of credit risks via MBS or other credit derivatives is a great exception — if yes, then mostly „non performing loans“ — Instrument to manage credit risk and to reduce equity charging  MBS is too complex and too large-scaled in management and backoffice notfunding  MBS is not a suitable product for funding

46. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 45 14.07.2015 Securitisation is sexy Pfandbrief is boring? Securitisation is sexy!  Investment banks love it  Law firms love it  Rating agencies love it But your staff despairs!

47. Pfandbriefe / Covered Bonds Pfandbriefe / Covered Bonds Klaus Jeckel Dipl. Inf. Univ. email: k.jeckel@web.de 46 14.07.2015 Contact Contact addresses: Internet: www.pfandbrief.org Bloomberg: HYP Association of German Pfandbrief Banks Georgenstraße 21 D-10117 Berlin email: info@pfandbrief.org Tel: +49-30-20915 100Consultant Fax:+49-30-20915 419Klaus Jeckel, Dipl. Inf. e-mail: k.jeckel@web.de Tel:+420-376 390 010 +420-774 865 869