The European Banking Authority has been holding talks on ways to boost investor interest in the AT1 market after Switzerland’s shock decision to wipe out about $17 billion of Credit Suisse Group AG notes.
(Bloomberg) — The European Banking Authority has been holding talks on ways to boost investor interest in the AT1 market after Switzerland’s shock decision to wipe out about $17 billion of Credit Suisse Group AG notes.
The EBA earlier this month addressed ideas such as a ban on banks paying dividends before they consider skipping an AT1 coupon to preserve capital during times of stress, people familiar with the matter said, asking not to be identified discussing the private information. Other ideas floated at an event held by the body included a requirement to pay out skipped AT1 coupons at a later stage rather than allowing them to be canceled altogether, the people said.
While the EBA helped facilitate the discussion, adopting the floated ideas would also require additional authorities to change existing EU regulation, one of the people said. The EBA doesn’t currently see a need for such steps, the person said.
An EBA spokeswoman confirmed that the institution held an event as part of its regular dialogue with stakeholders that also touched on AT1 instruments. The EBA said it will continue those discussions and stands ready to provide any additional guidance if needed as part of its role in monitoring capital instruments, she said.
The AT1 bond market in Europe has yet to recover since Switzerland decided to wipe out the Credit Suisse notes as part of the takeover by UBS, imposing losses on bondholders while paying shareholders about $3.3 billion. The measure was particularly controversial because it contravened the usual order of who gets paid first in such a crisis. Usually, AT1 holders would be paid before shareholders.
Swiss regulators argue that the risk of a wipe-out, regardless of whether equity owners lost their investment too, was laid out in the documentation of the notes.
The EBA was among several key European regulators that issued a joint statement just a day after the Credit Suisse rescue to reassure investors that AT1 notes in their jurisdictions can only be written down to zero if equity holders get completely wiped out first. The move calmed markets at the time.
Read More: Credit Suisse AT1 Bond Wipeout Was Foreseeable Risk, SNB Says
Additional Tier 1 bonds — also known as hybrid debt because they have a perpetual maturity — are a part of the mandatory regulatory capital buffer that’s designed to insulate taxpayers against bank bailouts. The notes can be converted into shares or their value can be wiped out entirely when certain stress conditions are met, providing immediate debt relief to the bank while making the bonds a much riskier investment than senior debt.
However, the price of issuing AT1 bonds is still elevated compared with levels before the Credit Suisse rescue. Their average yield in an index of European AT1 debt is currently above 11% — almost twice the average coupon of roughly 6% on previously issued AT1 bonds, according to data compiled by Bloomberg. AT1 bond coupons may be reset after the first call date.
Questions about AT1 redemptions have also weighed on investor sentiment. It used to be industry convention for banks to buy back the perpetual notes at the first opportunity — typically five to six years after issuance — but investors now price in the possibility that banks keep the bonds instead of refinancing them at higher costs. This raises the possibility that investors will have to hold on to the risk much longer than anticipated.
Eight AT1 notes have call dates — the date at which they become fully redeemable — in the rest of 2023, and the issuance of a replacement AT1 bond would likely result in a higher coupon than that of the existing debt, according to Bloomberg Intelligence analysts Jeroen Julius and Vincent Goerg Brand.
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