Mar 20, 2023
Credit Suisse’s AT1 Bond Wipeout Seen as an Exception in Europe
(Bloomberg) -- European authorities sought to restore investor confidence in the sort of risky bank bonds that were wiped out in the shotgun deal to save Credit Suisse Group AG, telling them that they should only face losses after shareholders are fully written down.
Investors were dumping the notes, known as Additional Tier 1 bonds, issued by many other European banks on concern that they too could get wiped out in a similar situation. AT1s from UBS Group AG and Deutsche Bank AG fell by more than 10 cents on Monday.
Credit Suisse’s bond documents stated that investors were at risk of a writedown under certain scenarios. In Europe, no other banks besides Credit Suisse and UBS have provisions that would allow for the full writedown of AT1s, while maintaining some value for equity investors, according to Bloomberg Intelligence.
The market for AT1 bonds has been a key source of funding for banks in the wake of the 2008 financial crisis. It’s now at risk of seizing up, especially as jitters mount about the health of the broader global banking system, traders said.
“This just makes no sense,” said Patrik Kauffmann, a fixed-income portfolio manager at Aquila Asset Management, who holds Credit Suisse CoCos. “Shareholders should get zero” because “it’s crystal clear that AT1s are senior to stocks.”
The wipeout of 16 billion francs ($17.2 billion) of Credit Suisse’s so-called AT1 bonds is the biggest loss yet for Europe’s $275 billion market in these securities.
It’s not that the bonds weren’t supposed to take some of the blow from the Credit Suisse collapse. In fact, that’s in large part what they were created to do when they were first conceived by European regulators in the aftermath of the global financial crisis, as a way to impose losses on creditors when banks start to fail without resorting to taxpayer money.
Call Them CoCos or AT1s, Here’s Why They Got Zeroed: QuickTake
Yet, by privileging equity investors over holders of the riskiest bank securities, it’s left the bond community confused and rattled about who ranks first when it comes to the hierarchy of investor claims the next time a lender is in trouble.
“It’s unusual for bonds to be wiped out to this extent and equity to be the priority,” said CreditSights’ global head of credit strategy, Winnie Cisar. “People will be taking a sharper look at what can and can’t be done and what that means for AT1s as an asset class. There will probably be a period of price discovery for a little bit as there’s a big reassessment as people look at the documents and what they have in them.”
Regulators stepped in on Monday to reiterate the usual hierarchy and reassure investors. “The European banking sector is resilient, with robust levels of capital and liquidity,” wrote the Single Resolution Board, the European Banking Authority and the ECB Banking Supervision in a joint statement.
“Common equity instruments are the first ones to absorb losses, and only after their full use would Additional Tier One be required to be written down. This approach has been consistently applied in past cases,” they added.
Other officials voiced their support. ECB Governing Council member Ignazio Visco said at an event in Milan that regulators have the tools to deal with liquidity problems, but there are no issues currently. In Italy, Finance Minister Giancarlo Giorgetti said the risk for the country’s banks isn’t significant.
“The UK banking system is well capitalised and funded, and remains safe and sound,” said the Bank of England in a statement, adding that AT1 securities rank ahead of common equity and behind Tier 2 Capital.
Buyer Beware: Credit Suisse AT1 Bond Documents Warn of Writedown
Other large banks in the European Union and UK are split between allowing for the temporary write-down of AT1s or equity conversion, said BI senior credit analyst Jeroen Julius. In these mechanisms, AT1 holders could have more protection from a complete wipeout.
If the AT1 new-issue market reopens, equity conversion may become the dominant loss-absorption mechanism to reassure investors that they won’t be wiped out ahead of shareholders, he added.
“The Swiss didn’t respect the bank creditor hierarchy,” said Suvi Platerink Kosonen, banking credit analyst at ING Groep NV. “The EBA/ECB statement is helpful for sure and necessary, but unlikely to remove all the uncertainty from these spooked markets.”
--With assistance from Josyana Joshua.
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