Barclays Contingent Capital Securities Risk Shareholder Conflict
Barclays Plc (BARC) plans to sell bonds that turn the traditional order of stakeholders upside down as the second-largest U.K. bank seeks to bolster its ability to absorb losses in a crisis.
The lender is meeting investors in Europe, Asia and the U.S. for a sale of contingent capital notes that would be written down to zero to soak up losses if its common equity Tier 1 capital ratio falls below 7 percent, according to a filing with the U.S. Securities and Exchange Commission.
Investors are concerned the new notes may create conflict between debt and equity investors because it might be in shareholders’ interests to trigger the bonds and have the debt written off to avoid a rights issue to rescue the bank. Barclays is issuing the notes in response to regulators’ demands that banks shore up balance sheets against a crisis in the euro zone.
“It’s certainly unusual to impair bondholders before equity,” said Robert Montague, a credit analyst at ECM Asset Management Ltd. in London. “The perceived conflict of interest in this is likely to put a lot of people off. Institutional take-up will depend very much on whether bondholders are being compensated sufficiently for this risk.”
Phillippa-Jane Vermoter, a spokeswoman at Barclays, declined to comment.
Bonds designed to absorb losses before a lender collapses are a product of the 2008 financial crisis, when debt investors were made good while banks had to be propped up by taxpayers. Anglo Irish Bank Corp. is still paying debt holders even after propping it up forced Ireland to take a bailout.
The Barclays notes are “going concern” capital designed to keep the lender in business as it raises money to recover, and will be awarded “minimal” equity content, Standard & Poor’s said Nov. 9. S&P grades the notes BBB-, its lowest investment-grade rating.
Unlike contingent securities issued by banks such as UBS AG (UBSN), Credit Suisse Group AG (CSGN) and Rabobank Groep the new Barclays bond combines a 7 percent trigger with a complete write-off, leaving holders with nothing if its activated.
“The full write-off with the high trigger makes this a harsh product,” said Steve Hussey, a London-based credit analyst at AllianceBernstein Ltd. “You could get a situation where equity and junior bonds remain whole while these are written off.”
Credit Suisse CoCos
Credit Suisse’s contingent convertible notes, or CoCos, combine a 7 percent trigger with conversion into equity, giving holders a stake in the recovery of the lender. While UBS issued bonds that have to be marked to zero, that happens when capital falls below 5 percent. Rabobank’s contingent senior notes are written down by 75 percent and investors repaid the rest of their money at a 7 percent ratio.
Barclays bonds “don’t look more attractive than other CoCo bonds,” said Daniel Bjork, one of the managers of Swisscanto Asset Management’s $120 million Bond Invest CoCo fund. “A high trigger level is dangerous. The question is whether you get the extra yield premium to compensate you for that.”
The bonds are expected to mature in 10 years and will rank equally with other so-called Tier 2 debt until the trigger point is reached, according to Simon Adamson, an analyst at independent debt research firm CreditSights Inc. in London. He said they are expected to be denominated in dollars.
While a 7 percent trigger is “quite high,” Barclays estimates that its common equity Tier 1 ratio will be 9.1 percent in January, according to Adamson. The bank would have to lose 10.25 billion pounds ($16.3 billion) to trigger the write-down, he said.
Investors demand a a yield premium of 176 basis points more than benchmark government bonds to hold bank bonds in euros, according to Bank of America Merrill Lynch’s EUR Corporates, Banking index, compared with 405 basis points at the beginning of the year.
Barclays will probably offer a coupon of about 7 percent, according to Adamson, making the notes attractive to some investors.
“We’d expect hedge funds, high-yield funds and retail to get involved,” said Hussey at AllianceBernstein. “For more traditional investors like insurers, say, it’ll be all about the pricing. The timing is good, though, because of the grab for yield we’re seeing now.”
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