New Zealand covered bond performance remained stable in Q2 2015

Moody's Investors Service says that the performance of New Zealand covered bond programs during Q2 2015 continued to be supported by the stable Aaa rating of the New Zealand sovereign, the stable credit profiles of the issuers and the stable credit quality of the cover pool assets.

All New Zealand covered bond issuers are rated Aa3 with a stable outlook.

In New Zealand, the stable and healthy composition of the cover pool assets was reflected in an improved average collateral score of 6.3% in Q2 2015 compared to 6.6% in Q1 2015. The score reflects the credit quality of the underlying mortgages.

The weighted average current loan-to-value ratios (LTVs) of the residential mortgage loans in the cover pools ranged between 44.0% and 56.8%.

In Q2 2015, there was a significant improvement in the minimum over-collateralization (OC) commensurate with Aaa across all five programmes -- average of 2.7% from 15.1% in Q1 2015.

This improvement was mainly driven by the change in using Counterparty Risk Assessment (CR Assessment) instead of the senior unsecured rating as the Covered Bond Anchor Point under Moody's rating approach of covered bonds updated on 12 March 2015.

The CR Assessment of all New Zealand covered bond issuers is one notch above their senior unsecured ratings. While the average Committed OC levels have decreased to 17.4% from 19.7% in Q1 2015, the average actual OC levels increased to 53.7% from 44.5% in Q1 2015.

Moody's outlook for New Zealand's banking system is stable, reflecting our expectation that the banks will maintain their strong asset quality and stable profitability amid weaker economic growth in the coming 12-18 months.

Although weak dairy prices, regional property market imbalances and high household indebtedness are key credit challenges, we expect the banks' overall asset quality to remain healthy, and their robust capitalization to provide a strong buffer against potential losses.

New Zealand's Aaa rating is based on the country's high economic strength, very high institutional and government financial strength, and low susceptibility to event risk. The stable outlook is anchored by the government's low debt relative to most other Aaa-rated countries and our expectation that New Zealand will continue to demonstrate fiscal and monetary discipline and implement market-oriented policies.

While we expect the performance of housing loans to remain healthy in the next 12-18 months -- supported by low interest rates and stable employment conditions -- house prices and household debt are at record levels, particularly in Auckland, and borrowers are exposed to the risk of sharp adjustments in house prices.

However, the macro-prudential measures implemented by the Reserve Bank of New Zealand (RBNZ) have been effective in limiting the banks' exposures to higher-risk lending, despite their relatively limited impact to date on house price growth.

The RBNZ has limited bank lending at LTVs greater than 80% to 10% of new originations since October 2013, which has led to a steady decline in the banks' exposures to higher-risk lending.

We expect to see further adjustments to these policies to address the current regional housing market imbalances in the coming 12-18 months. Starting in October 2015, the banks will be required to hold more capital against investor housing loans, while lending to investors in Auckland will be restricted to mortgages with LTVs of less than 70%. However, the RBNZ will relax banks' high LTV loan growth outside Auckland to 15% of new originations.

There was a decrease in outstanding covered bonds in New Zealand to NZD13.9 billion from NZD15.3 billion in Q1 2015 as some outstanding covered bonds were repaid at their maturities and there were no issuances in Q2 2015.