Credit Suisse Tier1 v Equity

[Holts]

I am reading that Credit Suisse Tier1 have been written off in preference to equity investors being first in line , seems to have altered the rules , although clearly my understanding of the rules was wrong .

[Newroad]

Hi Holts.

I believe it's the CoCo's (i.e. Alternative T1 or AT1, as opposed to T1) that have been wiped out. The key point there is the first "Co", i.e. "contingent" - there is no guarantee (of anything, including conversion to equity).

I'm sure there are others more expert than me who can get into the nitty gritty.

Regards, Newroad

[hiriskpaul]

Yes, the FT has reported it is AT1s that have been wiped out, but they also mention other capital:

https://www.ft.com/content/9fe40e6a-f01 ... 71d305721e

Under the terms of the deal, some SFr16bn of Credit Suisse’s Additional Tier 1 capital bonds, which are designed to take losses when institutions run into trouble and to transfer the risk of a bank failure from taxpayers to investors, are being wiped out.

Credit Suisse said in its statement on Sunday evening that Swiss market regulator Finma had determined the bonds would “be written off to zero”. Around SFr1bn of other capital was also written off.


I would like to know what this other capital is.

[hiriskpaul]

Finma statement:

https://www.finma.ch/en/news/2023/03/20 ... mm-cs-ubs/

It seems like the write down of the AT1s was triggered by Swiss government support. Presumably there is something in the T&Cs that permit this.

[Holts]

I was equating prefs and T1 on a par , If Credit Suisse had prefs I wonder if they have gone .

[BondSquared]

The Prefs would have survived, but the Cocos/AT1s are indeed gone. Forget the traditional waterfall - Cocos are now first in line to absorb losses, ranking even below common equity. What everyone is crying about now is that they thought Cocos will only ever be triggered based on capital ratios such as CET1 (CS CET1 ratio, for what it's worth, is still very solid), forgetting the "viability" clause, which states the regulator/national bank can pull the Coco trigger if it deems the institution not to be viable - which is exactly what the SNB did.
The Coco market is now repricing but not enough IMHV - for me, Cocos, as "going concern" capital, need to yield double what "gone concern" Prefs/Pibs yield given their much elevated risk profile (in a Coco you get wiped even if the bank continues to operate and capital ratios are met - Prefs only get wiped once the bank is bust). That viability clause is now the determining factor, not some regulatory ratios - so forget about modelling Cocos based on balance sheet/regulatory metrics.

Buyer of Cocos at 15% yield to perpetuity (none of them will ever be called), which means they need to come off another 10pts+.

[bruncher]

The Prefs would have survived, but the Cocos/AT1s are indeed gone. Forget the traditional waterfall - Cocos are now first in line to absorb losses, ranking even below common equity. What everyone is crying about now is that they thought Cocos will only ever be triggered based on capital ratios such as CET1 (CS CET1 ratio, for what it's worth, is still very solid), forgetting the "viability" clause, which states the regulator/national bank can pull the Coco trigger if it deems the institution not to be viable - which is exactly what the SNB did.
The Coco market is now repricing but not enough IMHV - for me, Cocos, as "going concern" capital, need to yield double what "gone concern" Prefs/Pibs yield given their much elevated risk profile (in a Coco you get wiped even if the bank continues to operate and capital ratios are met - Prefs only get wiped once the bank is bust). That viability clause is now the determining factor, not some regulatory ratios - so forget about modelling Cocos based on balance sheet/regulatory metrics.

Buyer of Cocos at 15% yield to perpetuity (none of them will ever be called), which means they need to come off another 10pts+.

Hence why Axiom European Financial Debt Fund (AXI) is down 15% this morning. Perhaps I should have seen it coming, but I'll hold for now.

[Holts]

Thanks all for replies , I was looking at Axi , the last list of holdings showed no direct exposure , but that may be out of date , contagion I presume . My prefs feel slightly more safe albeit still at the bottom of the pile .

[bruncher]

Thanks all for replies , I was looking at Axi , the last list of holdings showed no direct exposure , but that may be out of date , contagion I presume . My prefs feel slightly more safe albeit still at the bottom of the pile .

Looking at the latest fact sheet from them, I have to confess that I have no idea how many of their investments are AT1 / Coco type bonds. Maybe the price dip is more about perceived than actual risk, and a possible buying opportunity?

[Holts]

I though I might take a small punt , 10p spread , so I won’t , cheap execution only broker .

[hiriskpaul]

I have never liked AT1 terms, reinforced by the Lloyds ECN debacle. I will continue to stay well clear, although I like it if banks have issued AT1 and I hold other paper

Anyone know what else has been wiped out, other than AT1? Or is the FT wrong about that?

[hiriskpaul]

The Prefs would have survived, but the Cocos/AT1s are indeed gone. Forget the traditional waterfall - Cocos are now first in line to absorb losses, ranking even below common equity. What everyone is crying about now is that they thought Cocos will only ever be triggered based on capital ratios such as CET1 (CS CET1 ratio, for what it's worth, is still very solid), forgetting the "viability" clause, which states the regulator/national bank can pull the Coco trigger if it deems the institution not to be viable - which is exactly what the SNB did.
The Coco market is now repricing but not enough IMHV - for me, Cocos, as "going concern" capital, need to yield double what "gone concern" Prefs/Pibs yield given their much elevated risk profile (in a Coco you get wiped even if the bank continues to operate and capital ratios are met - Prefs only get wiped once the bank is bust). That viability clause is now the determining factor, not some regulatory ratios - so forget about modelling Cocos based on balance sheet/regulatory metrics.

Buyer of Cocos at 15% yield to perpetuity (none of them will ever be called), which means they need to come off another 10pts+.

The Viability Event does seem very well spelled out, even before you get into the nitty gritty. P.2, third paragraph of a typical prospectus, in bold:

If a Write-down Event occurs, a Write-down (as defined herein) shall occur on the relevant Write-down Date (as defined herein), as more particularly described in “Terms and Conditions of the Notes — Write-down”. In such circumstances, interest on the Notes shall cease to accrue, the full principal amount of each Note will automatically and permanently be written-down to zero, Holders (as defined herein) will lose their entire investment in the Notes and, except for the payment by the Issuer to Holders of any Accrued Interest on the Notes and any Additional Amounts relating thereto, in each case, if and only to the extent accrued and unpaid prior to the date of the relevant Write-down Notice, all rights of any Holder for payment of any amounts under or in respect of the Notes will become null and void. See “Risk Factors — The likelihood of an occurrence of a write-down of the Notes is material for the purpose of assessing an investment in the Notes.” Each Holder and beneficial owner of a Note agrees, by accepting a direct or beneficial interest in such Note, to be bound by and consents to the application of the Write-down.

I think if I had chosen to be an investor, that paragraph might have piqued my interest!

I can see that there is some T2 as well that also has a Viability Event clause. I wonder what happened to that? Could that be the "other" capital discussed in the FT?

https://www.credit-suisse.com/about-us/ ... ments.html

[hiriskpaul]

Despite the problems with bank ords, there does not been to have been much follow through so far into the debt, prefs, etc. that would interest me. Some things are down a little, but nothing like as much as during last years "Truss Event".

Might be a good time to pick up LLPE, called next year and maybe RSAB, now trading slightly under par. Some of the longer dated HSBC subordinated is down a little as well and I don't hold any of their paper.

[Gan020]

I think this will be interesting to see how this plays out in the end. I am not convinced the AT1 holders are going to let this go. Ord shareholders have been put at preference to the AT1's because a bank with more assets than liabilities required assurances around cashflow. A simplification for sure, but I imagine a legal test of this, which of course will take very many years to come to a conclusion.

I am on the wrong side of this as I have very many AXI and although I have a few more than I perhaps should have, I have been careful not to have too much risk of the same type. The market seems to have settled now, the MM's having kindly ripped off whoever they could.

It's my view that in the end the coupons on all other UK and Euroepean AT1 is going to get paid as the contagion has now been stopped, but the cost of new AT1 debt is going to go up.

[hiriskpaul]

I think this will be interesting to see how this plays out in the end. I am not convinced the AT1 holders are going to let this go. Ord shareholders have been put at preference to the AT1's because a bank with more assets than liabilities required assurances around cashflow. A simplification for sure, but I imagine a legal test of this, which of course will take very many years to come to a conclusion.

I am on the wrong side of this as I have very many AXI and although I have a few more than I perhaps should have, I have been careful not to have too much risk of the same type. The market seems to have settled now, the MM's having kindly ripped off whoever they could.

It's my view that in the end the coupons on all other UK and Euroepean AT1 is going to get paid as the contagion has now been stopped, but the cost of new AT1 debt is going to go up.

It might be one of those cases where AT1 holders litigate simply because the payback if they win dwarfs the legal costs, so they may as well try.

I suspect you are right about the cost of AT1 going up. I wonder whether the cost of senior unsecured will rise as well, at least for smaller banks, when it sinks in that large depositors end up more senior than bondholders when a bank has a liquidity problem. If the cost of AT1 does rise, maybe that means banks will have to hold more equity, or build reserves from earnings instead. Neither being great for ordinary shareholders.

OTOH, this could all be forgotten in a few weeks. Sometimes the market shows a very short memory!

[BondSquared]

The argument for subordinating AT1s to Common Equity is that paying up for shareholders is a voluntary act by a private company (UBS, HSBC), while writing down the AT1s (CS, SVBUK) was a regulatory order, and regulators don't interfere with private company decisions as long as they don't impact the viability of the purchaser (which it doesn't in the UBS case). Technically, the SVBUK shareholder also got a better deal than the SVBUK AT1 holder - the AT1s got wiped out (zero recovery), while the shares were bought by HSBC for a quid i.e. non-zero (one quid for all shares, not per share, but still not zero ....). Semantics.

[hiriskpaul]

The argument for subordinating AT1s to Common Equity is that paying up for shareholders is a voluntary act by a private company (UBS, HSBC), while writing down the AT1s (CS, SVBUK) was a regulatory order, and regulators don't interfere with private company decisions as long as they don't impact the viability of the purchaser (which it doesn't in the UBS case). Technically, the SVBUK shareholder also got a better deal than the SVBUK AT1 holder - the AT1s got wiped out (zero recovery), while the shares were bought by HSBC for a quid i.e. non-zero (one quid for all shares, not per share, but still not zero ....). Semantics.

Yes, in legal terms a Write-down Event, which in this case means Viability Event, had occured, so the AT1s were written down. The fact that the shares were subsequently bought by UBS doesn't come into it.

A “Viability Event” will occur if either:
(a) the Regulator has notified CSG that it has determined that a write- down of the Notes, together with the conversion or write-down/off of holders’ claims in respect of any and all other Progressive Component Capital Instruments, Buffer Capital Instruments, Tier 1 Instruments and Tier 2 Instruments that, pursuant to their terms or by operation of law, are capable of being converted into equity or written down/off at that time is, because customary measures to improve CSG’s capital adequacy are at the time inadequate or unfeasible, an essential requirement to prevent CSG from becoming insolvent, bankrupt or unable to pay a material part of its debts as they fall due, or from ceasing to carry on its business; or
(b) customary measures to improve CSG’s capital adequacy being at the time inadequate or unfeasible, CSG has received an irrevocable commitment of extraordinary support from the Public Sector (beyond customary transactions and arrangements in the ordinary course) that has, or imminently will have, the effect of improving CSG’s capital adequacy and without which, in the determination of the Regulator, CSG would have become insolvent, bankrupt, unable to pay a material part of its debts as they fall due or unable to carry on its business.

It would look like the b part was triggered. If this goes to court, the argument would likely focus on whether the Viability Event had actually take place and whether the correct procedures were followed.

Horrible instruments.

ps, the T2 has the exeact same Viability Event, so it looks like these would have been wiped out as well. That probably explains the "other capital". Except there seems to have been £2.5B of that issued, which is bigger than the $1B reported.

[BondSquared]

just to make things slightly more complicated, there's also a Tier 2 Coco ... not all Cocos are AT1!

A $2.5 Billion Credit Suisse Junior Bond Escaped Wipeout (1)
The Tier 2 CoCo won’t be written down, people familar say
Indications on the bond, due in August, rose on Monday morningBy Tasos Vossos and Giulia Morpurgo
(Bloomberg) -- One junior bond issued by a Credit Suisse entity a decade ago has emerged unscathed from a wipeout of the lender’s riskiest notes as part of UBS Group AG’s takeover.
The $2.5 billion note due later this year is a rare Tier 2 contingent convertible bond, with some features similar to the 16 billion Swiss francs ($17.2 billion) of risky bonds that the lender is writing down. However, due to quirks when Swiss banks adopted post-financial crisis capital instruments, the note is counted as Tier 2 capital instead — a higher-ranking type of debt that typically only takes a hit if a lender is no longer viable.
The Tier 2 bond will not be written down, two people who spoke with the lender told Bloomberg, declining to be identified because the discussions were private.
The bond will “presumably remain an obligation of the enlarged UBS, alongside CS’s senior bonds,” said Simon Adamson, head of global financials research at CreditSights. The bond has “an unusual structure,” and characteristics in common with both plain vanilla Tier 2 and with AT1 bonds, he wrote in a note.
Spokespeople at Credit Suisse, UBS and Swiss financial regulator FINMA didn’t respond to requests for comment from Bloomberg on the bond.
UBS chief executive officer Ralph Hamers said “we’ll have to come back to you” when asked by an analyst on a Sunday night investor call about whether the Tier 2 bond would be written down or not.
For now, it seems as if traders are confident that the bond won’t be included in any writedown. It is currently indicated at around 75 cents on the dollar, up from about 50 at the start of trading in London. Meanwhile, AT1 bonds are quoted at around 2 cents on the euro, according to CBBT pricing compiled by Bloomberg.

[hiriskpaul]

just to make things slightly more complicated, there's also a Tier 2 Coco ... not all Cocos are AT1!

A $2.5 Billion Credit Suisse Junior Bond Escaped Wipeout (1)
The Tier 2 CoCo won’t be written down, people familar say
Indications on the bond, due in August, rose on Monday morningBy Tasos Vossos and Giulia Morpurgo
(Bloomberg) -- One junior bond issued by a Credit Suisse entity a decade ago has emerged unscathed from a wipeout of the lender’s riskiest notes as part of UBS Group AG’s takeover.
The $2.5 billion note due later this year is a rare Tier 2 contingent convertible bond, with some features similar to the 16 billion Swiss francs ($17.2 billion) of risky bonds that the lender is writing down. However, due to quirks when Swiss banks adopted post-financial crisis capital instruments, the note is counted as Tier 2 capital instead — a higher-ranking type of debt that typically only takes a hit if a lender is no longer viable.
The Tier 2 bond will not be written down, two people who spoke with the lender told Bloomberg, declining to be identified because the discussions were private.
The bond will “presumably remain an obligation of the enlarged UBS, alongside CS’s senior bonds,” said Simon Adamson, head of global financials research at CreditSights. The bond has “an unusual structure,” and characteristics in common with both plain vanilla Tier 2 and with AT1 bonds, he wrote in a note.
Spokespeople at Credit Suisse, UBS and Swiss financial regulator FINMA didn’t respond to requests for comment from Bloomberg on the bond.
UBS chief executive officer Ralph Hamers said “we’ll have to come back to you” when asked by an analyst on a Sunday night investor call about whether the Tier 2 bond would be written down or not.
For now, it seems as if traders are confident that the bond won’t be included in any writedown. It is currently indicated at around 75 cents on the dollar, up from about 50 at the start of trading in London. Meanwhile, AT1 bonds are quoted at around 2 cents on the euro, according to CBBT pricing compiled by Bloomberg.

Well that's confusing. The hunt for the extra capital write off is still on then.

Cannot say Ralph Hamers fills me with confidence. He doesn't know whether the bank they just bought includes or excludes a $2.5B liability, due this year!

[GeoffF100]

UK AT1 bonds rank above equity, according to the BoE:

https://news.sky.com/story/ubs-to-take- ... s-12838193

For its part, the Bank of England reiterated its own "creditor hierarchy" in a bid to take the sting out of any UK regulatory worries for AT1 bondholders, insisting they are prioritised over shareholders.