The recent sell-off/volatility has provided us with an opportunity to source some European bank USD AT1 securities at very attractive levels. These AT1 securities are loss absorbing with write down (temporary) and/or equity conversion and include interest deferral (non-cumulative). The securities are structured as perpetual instruments with a first call after five (or ten) years which can then be called on various dates. AT1 securities which have a write down (temporary) feature can be written back, reducing any loss incurred to an investor.
The first important consideration is to be comfortable with the underlying credit risk. IAM has reviewed the following banks and has no credit issues at a headline level. The second important consideration is to assess call risk and ability for securities to be written down (temporarily) and/or converted to equity as well as payment of interest under certain regulatory conditions (this is called the Maximum Distributable Amount (MDA) cushion). Bank CET1 ratios falling into the MDA buffer zone raises red flags with investors.
Turning firstly to look at call risk: European banks have a very good track record of calling their AT1 securities – there have only been a handful of securities that were not redeemed and even then, some of those were redeemed in subsequent periods.
The main reason a European bank would not call would be if at the time of refinancing the new bond would cost significantly more than keeping the existing bond outstanding. At this stage, it’s important to look at the implied coupon reset margin at the first call date. If the implied reset coupon is less than the current coupon, then the issuer may be inclined to keep the existing bond outstanding.
Table 1. Implied Coupon Reset vs Current Coupon
| ISIN | Security Name | Cpn | CCY | Callable | Nxt call dt | Reset idx | Px last | Reset margin for perps | Implied reset coupon | Reset coupon < current coupon |
|---|---|---|---|---|---|---|---|---|---|---|
| USF43628B413 | SOCGEN 8 PERP | 8 | USD | Y | 29/09/2025 | USISDA05 | 2.89% | 5.873% | 8.76 | no |
| US06738EBG98 | BACR 8 PERP | 8 | USD | Y | 15/06/2024 | H15T5Y | 2.88% | 5.672% | 8.55 | no |
| XS2024502960 | CMZB 7 PERP | 7 | USD | Y | 9/04/2025 | USSW5 | 2.94% | 5.228% | 8.17 | no |
| XS1956051145 | INTNED 6 3/4 PERP | 6.75 | USD | Y | 16/04/2024 | USISDA05 | 2.89% | 4.204% | 7.09 | no |
Source: CreditSights
The next consideration is to ensure that there is no ability for this security to be written down (temporarily) and/or converted to equity, as well as the payment of interest under certain regulatory conditions.
We note below that AT1 securities will either be converted at 5.125% or 7% CET1 ratio and some also have a write down (temporary) feature. The table below shows the distance each bank has to their CET1 ratio trigger as well as the MDA cushion available. Also: all these banks have ample capital and MDA buffers to deal with a stressed scenario and can continue paying interest.
Furthermore, European and UK regulators conduct regular stress tests on their banks and have confirmed that none of their banks would be forced to convert to equity as they remained above their 5.125% or 7% CET1 ratios.
Table 2. Capital and MDA Buffers
| AT1 Issuers | Distance to Trigger | MDA Cushion | Available Distributable Items | ||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|
| Reported Currency | Date | CCY | CET1 Ratio | MDA 2021 | % | mn | % | mn | mn | % of AT1s | Date |
| Barclays | 4Q21 | GBP | 15.12% | 11.11% | 7.74% | 24,297 | 4.01% | 12,596 | 20,750 | 169% | 4Q21 |
| CommerzBank | 4Q21 | EUR | 13.57% | 9.40% | 8.44% | 14,787 | 4.17% | 7,303 | 13,850 | 430% | 4Q21 |
| Société Générale | 4Q21 | EUR | 13.71% | 9.23% | 8.59% | 31,212 | 4.48% | 16,287 | 15,333 | 192% | 4Q21 |
| ING Group | 4Q21 | EUR | 15.89% | 10.51% | 8.89% | 27,846 | 5.38% | 16,843 | 45,837 | 673% | 4Q21 |
Source: CreditSights
From a relative value perspective, our top four picks include:
- Socgen 8% Sep-25 call (Ba2, BB, NR), 99.75 or 8.08% ytc. Coupon reset margin at 5.873% above 5yr swap. Temporary write-down and equity conversion at 5.125% CET1 ratio.
- BACR 8% Jun-24 call (Ba2, B+, BBB-), 100.25 or 7.85% ytc. Coupon reset margin at 5.672% above 5yr swap. Equity conversion at 7% CET1 ratio.
- CMZB 7% April-25 call (Ba2, BB-, NR), 93.75 or 9.66%. Coupon reset margin at 5.228% above 5yr swap. Temporary write down and equity conversion at 5.125% CET1 ratio.
- INTNED 6.75% April-24 call (Ba1, NR, BBB-), 98.75 or 7.50%. Coupon reset margin at 4.204% above 5yr swap. Equity conversion at 7% CET1 ratio.
(Moody’s, S&P, and Fitch, respectively)
Note: Pricing is accurate to the client and includes transaction costs. For more information, please contact an IAM sales representative.
Chart 1. European Financial Perps
Source: Bloomberg
