As a response to the financial crisis, there have been suggestions that covered bonds could be an alternative or a replacement for the current secondary multifamily mortgage system and the GSEs. Covered bonds are a $3 trillion marketplace in Europe. They are similar to asset-backed securities, but covered bonds have some differences to improve the bond buyer’s security: The underlying security interests remain on the balance sheet of the issuing bank, and bondholders retain security interests even if the issuer becomes insolvent.
This white paper provides a framework for understanding the risks, benefits and limitations inherent in establishing a similar market in the United States.
It concludes that a thriving U.S. covered bond market might provide some additional liquidity to the mortgage marketplace, but covered bonds are insufficient to fully replace prevailing multifamily mortgage financing mechanisms. A covered bond-based marketplace would also fail to offer the flexibility and variety of loan structures, terms and rates that U.S. multifamily borrowers demand. Finally, it would also be unlikely to boost liquidity significantly, given the need for bond issuers to retain the underlying mortgages on their balance sheets.