HSBC Finds CoCo Market It Likes as Scandinavia Ignores EBA Rules

The riskiest bonds that banks can issue have had a rough start to the year. Additional Tier 1 notes -- a kind of contingent convertible debt created in 2013 -- are so new that investors are still unsure what to expect. That uncertainty exacerbated a selloff last month.

But in Scandinavia, home to some of Europe’s most active AT1 issuers, local regulators have come up with a framework that is kinder to investors than most, according to Tobias Kessler, a director at HSBC’s debt capital markets unit in London.

Yields on AT1s spiked in February. Here’s what happened to an AT1 issued by Norway’s biggest bank.

Supervisory authorities in Denmark, Norway and Sweden are giving banks more leeway to breach capital thresholds than the London-based European Banking Authority recommends. More specifically, AT1 investors in Scandinavian banks won’t see their dividends or coupons automatically restricted should an issuer’s capital drop below a level that includes a so-called Pillar 2 threshold, which is set by local regulators and sits on top of minimum standards, known as Pillar 1.

The Scandinavian model is good because “there could be idiosyncratic hits that a bank takes in the ordinary course of business that create reductions” in capital that “are expected to be rectified in the near term,” Kessler said.

But regulators in the region also say their approach is flexible. Norway’s Financial Supervisory Authority on Friday reiterated its right to tell a bank to halt investor payments well before Pillar 1 capital is breached, should the specific circumstances require it. HSBC’s Kessler says that still leaves investors better off than their counterparts elsewhere.

“If there’s to be an automatic restriction or a potential restriction, the latter is much preferred by the market,” he said. “From a market point of view, you have to consider the alternative.”

The AT1 market is just beginning to recuperate after the European Central Bank’s latest batch of measures to boost the euro-area economy helped jump start demand for bank debt generally, and lawmakers signaled they may consider relaxing on coupon restriction rules.

Scandinavian regulators say their approach avoids the risk that a bank becomes a market pariah for withholding payments just as it needs to tap investors for more.

“Breaching Pillar 2 is clearly a bad thing that will have consequences, perhaps severe consequences,” according to Kessler. That said,“it might be in the best interest of the issuer, as well as the investor and the regulator, for extraordinary payments of AT1s during a short-term period of stress to be permitted.”

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