(Bloomberg) -- Bank of Nova Scotia has been sounding out investors for a potential synthetic notes offering to boost its capital buffers, according to people with knowledge of the matter.
The potential privately-placed securitization, a credit risk transfer deal, would increase the amount of so-called loss-absorbing buffers at the Toronto-based bank at a time when regulators are increasing capital requirements, according to the people. Scotiabank is working with BNP Paribas SA to iron out specific details of the possible deal, which is in very early stages, one of the people said.
It follows similar issuance by some peers in the Canadian banking sector in recent weeks. Representatives for Bank of Nova Scotia and BNP Paribas declined to comment.
Canadian banks are facing higher capital requirements from the Office of the Superintendent of Financial Institutions. In December, the watchdog increased a key measure for large banks, known as a domestic stability buffer (DSB), citing elevated risks including almost record-high levels of household debt, persistent inflation and geopolitical turmoil.
The next decision on the DSB is scheduled June 20, a press officer for the regulator said in an email. In addition to the OSFI action, the phase-in period for the country’s largest banks to implement regulatory capital and liquidity rules known as Basel III is set to be completed by early 2024, according to OSFI’s website.
By using so-called credit risk transfers, banks are able to buy protection for credit losses on loan pools through a derivative or a financial guarantee. Investors — which are the sellers of the protection — get paid from the interest and principal of the earmarked assets — which in contrast to cash securitizations, remains on the existing lender’s books.
Credit risk transfers had a positive impact of 35 basis points in Bank of Montreal’s common equity tier 1, the lender said in its first fiscal quarterly results ending Jan. 31. These buffers, known as CET1, are the first that banks can use to offset losses. As context, BMO generated 28 basis points of CET1 capital in that time frame out of its regular business activity.
“These are very efficient transactions,” said BMO’s chief financial officer Tayfun Tuzun, in the first quarter earnings call. “We’ve been executing these for the past four or five years, so we have quite an experience.”
Canadian Imperial Bank of Commerce also carried out a risk transfer transaction during the quarter ending April 30, the lender said in its latest earnings report. Toronto Dominion Bank considered a similar deal following its $13.4 billion planned purchase First Horizon Corp., which was canceled last month, according to a person familiar.
Representatives for CIBC and TD declined to comment.
--With assistance from Andrew Kostic.
©2023 Bloomberg L.P.