(Bloomberg) -- China’s megabanks are planning at least 40 billion yuan ($5.8 billion) of bond sales, kicking off a major funding push to comply with global capital requirements by early 2025.

Industrial & Commercial Bank of China Ltd. and its three closest rivals are planning to tap domestic debt markets to sell a new category of total loss-absorbing capacity bonds as soon as June, according to people familiar with the matter. The exact amounts haven’t been finalized but each bank is targeting at least 10 billion yuan, said the people, who asked not to be named as the information hasn’t been made public.

China’s big banks have typically relied on so-called additional Tier-1 and Tier-2 bonds in recent years to replenish capital. But the lenders are now seeking to issue a more senior type of TLAC bond that can also be used toward meeting regulatory requirements. The new TLAC bonds may offer a smoother way to raise capital for the banks since they absorb losses after the other two instruments in case of a risk event that threatens operations or even survival of a lender.

The planned issuance comes at a shaky time for global debt markets after Swiss regulators shocked investors with the wipe-out of AT1 bonds issued by Credit Suisse Group AG when they orchestrated a rescue of the lender. The move triggered some lenders to delay their planned debt sales and made investors wary of adding new exposure to such notes.

The big four Chinese banks are more likely to target domestic institutional investors, according to Shen Meng, a director at Beijing-based investment bank Chanson & Co.

“The size of the issuance is just a drop in the ocean — it won’t help much given the huge capital shortfall,” he said. “The big four’s concerted move might be the result of a government push to test the waters.”

China’s big four state-owned banks, which are deemed globally systemically important, face a capital shortfall of as much as 3.7 trillion yuan by 2025 in order to comply with TLAC requirements, according to S&P Global Ratings. Fitch Ratings Inc. sees a smaller gap of 1.3 trillion yuan based on capital positions levels at end of last year. Estimates vary depending on projections of profit, dividends, and asset growth, among other factors.

“The recent risk events highlight the importance of having strong capital buffers and total loss absorbing capability, so the big banks may feel more determined to close the gap,” said Vivian Xue, director of financial institutions at Fitch Ratings. “But that doesn’t necessarily mean the pace of new issuance will pick up in the near term, as the events will more or less weigh on market sentiment.”

The four lenders, the China Banking and Insurance Regulatory Commission and People’s Bank of China didn’t immediately respond to requests for comment.

After an initial delay due to Covid disruptions, the lenders have been in discussions with regulators since late last year and this month started working with bankers on the issuance, said the people.

China’s big four banks issued 150 billion yuan of Tier 2 bonds in the first quarter this year at an average coupon of 3.55%, up from 3.377% a year earlier.

Appetite

As systemically important emerging market banks, ICBC, China Construction Bank Corp., Agricultural Bank of China Ltd. and Bank of China Ltd. must have liabilities and instruments available to “bail in” in the equivalent of at least 16% of risk-weighted assets by Jan. 1, 2025, rising to 18% in 2028, according to the Financial Stability Board, which was created by the Group of 20 nations. The big four banks must also have additional capital buffers required by the Basel Accords, resulting in a minimum aggregate requirement of between 19.5% to 20% of risk weighted assets by 2025. Banks in developed markets met the first phase in 2019. 

The new debt will likely make them more appealing to investors than AT1 or Tier 2 debt and less costly to the issuers, according to Fitch’s Xue. Still the recent volatility in offshore debt market following the Credit Suisse blow-up might add uncertainty over the issuance of TLAC bonds, she said.

Moreover, China earlier this year raised the risk weighting for subordinated debt and TLAC non-capital bonds of financial institutions to 150% from 100%, increasing the costs for banks to hold such debt of their peers. That could further weigh on domestic demand for TLAC bonds, according to S&P Global Ratings. 

At the same time, the banks are in a squeeze because they are being called on to boost lending to help the economy get back on its feet following years of strict Covid containment. That makes it difficult for them to limit the growth in risk weighted assets, which could have been another way to reduce capital needs. 

The central bank said in late 2021 that TLAC rules won’t affect the capacity of Chinese lenders to supply credit, adding that the requirements are “acceptable.”

“The megabanks could also balance TLAC conformation with their other key policy mandates, including supporting the Chinese economy,” Michael Huang, an analyst at S&P, said in emailed comment. 

State Backed

China’s G-SIBs have been actively replenishing capital over the past few years, raising an annual 900 billion yuan via capital bonds and financial debentures, according to Fitch’s Xue. 

The Financial Stability Board drafted the TLAC rules in 2015 to prevent a repeat of the “too big to fail” dilemma after the global financial crisis. Beijing published its local version in late 2021. 

While neither FSB nor Beijing elaborated on the consequences for those that fail to comply by the deadline, one guiding principle is that all G-SIBs should have sufficient loss-absorbing capacity for an orderly resolution that has minimal impact on financial stability and avoids exposing the public to loss, according to the FSB.

Fitch’s Xue remained upbeat on the capital positions of Chinese state banks and their ability to raise capital, given their solid credit profile and government backing. 

“The major difference between China’s big four banks and foreign peers is that the former are owned by the Chinese government,” said Nicholas Zhu, an analyst at Moody’s Investors Service. “Once risks arise, China would definitely rescue and support them to maintain financial stability, that means, the government would at least offer some support to repay their TLAC bonds.”

--With assistance from Qingqi She, Heng Xie and Zhang Dingmin.

(Adds analyst comments in fifth and sixth paragraphs.)

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