Investors hoping for a quick profit from the CBA Perls VII (CBAPD) on listing were disappointed when the hybrid began trading last Thursday. It closed the day at $97.10
The trading margin widened 18% to 3.30% over the bank bill swap rate (BBSW), 0.50% higher than the issue level of 2.80%. The Perls VII will pay a cash distribution of just 3.82% plus franking credits for the first quarter.
As at 7 October 2014, the majority of the other new style “bail-in” hybrids are also trading below par (ANZPD, ANZPE, NABPA, NABPB, WBCPD and WBCPE).
The new “bail-in” hybrids contain two new regulatory clauses that if triggered mean they convert to shares:
- Non-viability
- Capital based, should the bank’s capital fall below 5.125%
These securities are viewed by APRA as “going-concern capital” and are expected to provide a cushion by converting into ordinary equity should the banks become distressed, their capital levels fall significantly or if they require a public sector injection of capital.
While we view this as unlikely for the big four banks, the inclusion of these regulator triggers will increase price volatility as these securities are more like the underlying equity. This has been demonstrated by the new “bail-in” hybrids’ price performance (Bail-in Hybrids) versus the subordinated debt (Bank Sub Debt) since the start of the year and is shown in Figure 1.
Source: Bloomberg, 7 October 2014. Bail-in Hybrids include CBAPC, WBCPD and NABPA, WBCPE. Bank Sub Debt includes OTC bonds: Bendigo 10nc5 Jan 24, IAG 26nc5 Mar 40, ANZ 10nc June 24 and WBC 10nc5 Mar 24.
Figure 1
The weak performance of the Perls VII since pricing at the lower end of the book build range at 2.8% is attributed by much of the market to indigestion.
And while some of the price movement will be due to holders selling other hybrids to make way for the new issues it is worth noting that $1.4bn of the CBA Perls V rolled into the Perls VII. Others to list this week include: Challenger Capital Notes CGFPA $340m (7 Oct), Macquarie Bank Capital Notes MBLPA $420m (9 Oct) and Bendigo and Adelaide Bank Convertible Preference Shares 2 BENPE $250m (9 Oct).
Another explanation for the poor performance is the market reassessing the risk of the new “bail-in” hybrids and the embedded regulatory triggers. Globally, regulators have raised concerns about the risk of these hybrids and questioned whether investors are being adequately compensated for this risk. Most recently Standard & Poor’s downgraded 88% of hybrid instruments reflecting their concern as follows:
“We believe that regulators expect hybrid capital instruments to absorb losses at an earlier stage in the deterioration of a bank than previously, and that the timing of regulatory intervention is now less predictable”.
For more information please see the previous article "New style" Basel III-compliant bank subordinated debt and Additional Tier 1 securities/hybrids are higher risk” for a detailed outline of the capital triggers.