May 2025
By James Verschoor
On April 2, President Trump unveiled global trade tariffs that saw Australian fixed income widen across the major bank capital stack. Trading margins have since come down from their highs, although as tariff expectations have settled in, Tier 2 (T2) capital has grown wider against major bank Alternative Tier 1 (AT1) Hybrids.
At its peak, Bond Adviser’s major bank Tier 2 index was 33bps higher than its pre-tariff level, with AT1 widening by an even greater 73bps. AT1 has since regained ~77% of its losses, whilst T2 has only improved ~40% from its peak (see Figure 1). This relative tightening of AT1 since liberation day has meant trading margins have widened ~8% for AT1 to +213 whilst T2 increased ~13% to +153 as of 1 May.
Subsequently, the AT1/T2 trading margin ratio, which essentially measures the premium paid to the investor for sitting a level lower in the capital stack, has declined from ~1.46x to ~1.39x to its tightest level seen in 2025 (see Figure 1).
Figure 1: Trading Margins of the AT1 Major Bank Index (OTC + ASX) with call > 6months (black line) and T2 Major Bank Index (OTC + ASX) with call/maturity > 6months (grey line) (BondAdviser)
This observation is in part due to do with the differences in the dynamics between OTC vs. public markets as well as the volatile equity component of AT1 securities. These differences are important, although when unfranked AT1 is currently trading ~20bps lower than its Tier 2 counterpart in the 5-year FRN tenor (see Figure 2), it may be worthwhile considering OTC markets for better risk-adjusted returns through Tier 2 securities.
Figure 2: AUD denominated Major bank 5-year FRN AT1/T2 ratio: Franked vs. Unfranked (BondAdviser)
With an expected ~$12 billion of Tier 2 funding requirements by major banks in 2025, investors should look out for new issues to capture greater value against the current backdrop of market uncertainty. For those with less patient capital, corporate hybrids may be of interest, some of which are currently trading 15 to 25 bps wider than pre-tariff marks (see Figure 3).
Figure 3: AUD Corporate Hybrids April range and pre-tariff marks (BondAdviser)
For current AT1 hybrid owners seeking more information on alternatives in OTC markets, or simply a greater understanding of fixed income investing, please contact one of IAM’s Relationship Managers for more information.
