By Christopher Whittall
Wed Dec 4, 2013 3:39am EST
LONDON, Dec 4 (IFR) - Barclays is looking at ways of making contingent capital instruments more palatable to fixed income investors, as analysts predict a broader client base will be needed to absorb the billions of euros-worth of CoCo securities that are expected to hit the market in the coming years.
The UK bank spoke to prominent fixed income clients on Monday to gauge interest in including contingent debt in existing benchmark indices or creating a brand new CoCo-only index in an effort to widen the appeal of the instruments.
CoCos' convertible and sub-investment-grade nature means that they have been excluded from fixed income benchmarks. This has proved an obstacle to luring more investors to the asset class, which has relied heavily on retail money and hedge funds so far.
And despite some investment managers setting up dedicated CoCo funds, these have yet to ramp up activity in the Additional Tier 1 space.
Many investment managers have to benchmark their performance against widely referenced industry indices, restricting their investment horizons to these mainstream bonds. Inclusion in such indices consequently tends to boost the liquidity of the underlying securities.
Barclays has been at the forefront of the Additional Tier 1 market as it attempts to boost its capital and leverage ratio - the latter of which languishes at 2.2% currently, well below the Basel III minimum of 3%.
The firm printed a EUR1bn perpetual non-call seven-year Additional Tier 1 deal on Tuesday, having printed a USD2bn five-year callable in November. It is the only bank to have two outstanding benchmark Additional Tier 1 deals, in euros and dollars. The bank declined to comment for this article.
It is understood that around half of the investors Barclays sounded out were averse to including CoCos in pre-existing benchmarks. As a result, it is thought the bank is more likely to develop a separate CoCo index that could be bolted onto core bond indices or be kept separate as a standalone benchmark depending on client preference.
"We haven't seen Additional Tier 1 debt grab hold of the fixed income investor base yet. We've seen a lot of interest from retail investors and hedge funds, but that may become shakier if there is a downturn in the credit cycle," said Alan Bowe, financials credit analyst at JP Morgan.
"2014 should be manageable from an AT1 issuance perspective with the grab for yield, but the asset needs inclusion in benchmarks to ensure longer term growth."
JP Morgan forecasts net AT1 issuance of around EUR11bn in 2014. Even a limited investor base should be able to mop up this supply, but bankers are concerned it may not be sustainable on a longer term horizon.
Focusing on a sample of 25 European banks, JP Morgan estimated there is a net AT1 requirement of EUR75bn to meet Basel III rules.
VESTED INTEREST
There is undoubtedly some enlightened self-interest in Barclays' efforts to expand the appeal of the instruments. According to JP Morgan, Barclays needs to raise EUR7bn in the format, although this should be reduced as a result of its USD1bn and EUR1bn recent issues.
But Barclays is not the only bank with large Additional Tier 1 requirements. According to JP Morgan, Deutsche has to raise almost EUR13bn in the format. Just like Barclays, the German lender is also wrestling with a lowly leverage ratio of 2.3% despite shedding over EUR100bn of assets in the third quarter of this year.
Meanwhile, HSBC is planning to raise USD15bn-USD20bn of Additional Tier 1 capital in the coming years as it seeks to replace old instruments that are losing regulatory capital value .
RBS credit analysts led by Alberto Gallo wrote in a report published on Tuesday that banks with "large balance sheets and low risk-weighted assets will be particularly affected" by higher minimum leverage ratio levels imposed by local regulators, singling out Barclays, Deutsche Bank, UBS and Credit Suisse. The latter is also in the market this week with a perpetual non-call 10-year low-trigger Tier 1 US dollar deal.
In the periphery, banks that have previously completed liability management exercises on legacy sub debt are expected to replenish these instruments while the market is open for all and sundry, Bowe said. (Reporting By Christopher Whittall, Editing by Helene Durand and Philip Wright)
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