BEA’s trade was a blowout success as it managed to replace its outstanding $500m 8.5% legacy tier one notes with a bigger, and far cheaper, $650m 5.5% additional tier one (AT1).
Market participants were buoyed by this, given that it was the first dollar liability management exercise from Asia involving a Basel III compliant capital instrument.
Such deals have been rare, even in the local currency market, with only DBS having executed one, in November 2013, according to Dealogic. But this might soon change.
“The phase-in period for Basel III only came in in 2013, so a lot of the legacy notes still contain quite a high amount of their capital value, so there wasn’t really a strong incentive for them to be replaced,” a bank specialist close to BEA’s deal said. “But once the capital value drops to 60% [2016] or 50% [2017], we’ll definitely be seeing more of these liability management exercises.”
As part of the transition to Basel III, old style instruments have been losing 10% of their capital value annually since 2013.
One Hong Kong-based financial solutions banker said that roughly $30bn-$40bn of legacy instruments are due to mature or are callable in 2016-2017 in Asia and BEA’s deal has set the stage for liability management to come to the fore.
However, he also said that most of the replacing will be done in the local currency market, rather than G3 currencies, given the low interest rate environment in Asia. This has led to an abundance of liquidity domestically, which the banker said is now deep enough to support further bank capital issuance.
“Chinese banks are probably the only ones that will tap the dollar market since they issue billions after billions every year, but everyone else, say the Malaysian banks or the Singaporean banks, are more than capable of staying onshore,” he said.
Gene Fang, a Singapore-based associate managing director of the financial institutions group at Moody’s, agreed that while Asian lenders would become more active in replacing their legacy notes, the impending rules on total loss absorbing capacity (TLAC) could put a hold on things.
“Banks, in particular those in the more developed economies, want to understand Basel III requirements in the context of TLAC,” he said. “Many are taking a wait and see approach at the moment to calculate the totality of issuance needed if TLAC comes into place, which is perhaps why we haven’t seen too much replacements yet.”
TLAC is another set of guides that aims to bolster banks’ capital and leverage ratios and consists of securities that can be written down or converted into equity in case of insolvency. They are commonly referred to as “bail-inable” securities.
But in Asia only Hong Kong and Korea have a bail-in regime in place. Many banks in the region are therefore still unclear what instruments can be calculated as TLAC and how much capital they need to raise to meet those requirements.
Replacing the legacy
For BEA, the reason for doing the deal was simple. Its legacy tier one is set to retain just 60% of its capital value in two months and it took the view it was more economical to replace it with a newer AT1 instead.
To do that, it launched an exchange and tender offer two weeks ago giving bondholders an option to receive cash or switch their holdings into the AT1. Bondholders were offered a price 115.5.
There was little on the table for bondholders, however, as the old notes were trading around 115 when the tender was announced.
Unsurprisingly, the response was lukewarm. Joint dealer managers and bookrunners Citi and UBS had $75.1m of notes tendered for purchase and $100.5m submitted for exchange. The combined $175.6m constitutes a hit ratio of 35.13%.
While that might seem low on paper, the bank capital specialist said the leads engineered the end result.
“The old tier ones have lost 30% of their capital value and 40% for 2016,” the bank specialist said. “BEA didn’t need to replace the entire note, it only wanted to replace the portion that has been lost, which was why we kept pricing pretty tight to achieve a tender/exchange rate of 30%-40%.”
Tight pricing
Once the tender closed, Citi and UBS continued with the second part of the liability management exercise, opening books for a perpetual non call five AT1 at 5.625% area on Wednesday.
The Ba2/BB rated trade was pitched against AT1s from Chinese banks Bank of China, Bank of Communications and ICBC, as well as Hong Kong-based lenders Chong Hing Bank and China Citic Bank International.
The Chinese AT1s were yielding 4.342%-4.604%, while the Hong Kong banks were quoted at 5.29%-5.569%.
One Hong Kong-based fund manager said BEA’s AT1s were expensive but he still ended up bidding because of the lack of bank capital supply this year. Other investors took the same view as, at the height of bookbuilding, orders had crossed the $2bn mark. BEA, however, was only looking to raise around $500m.
The strong investor appetite allowed the leads to tighten pricing to 5.5%, the minimum pricing BEA announced for the AT1 on November 18. That resulted in some pushback, although the deal still closed with $2bn orders from 113 accounts.
But since $100.5m of the notes had to be set aside for the exchange, the leads did not have enough bonds to give investors a meaningful allocation had BEA insisted on its $500m target.
This was particularly important as the issuer was keen to also reward some of its private banking clients with larger allocations, a syndicate banker close to the deal said.
The bank agreed to increase the size of the offering to $650m and the 5.5% AT1s were sold at par.
Asia took 81% of the notes followed by Europe at 19%. Fund managers took 55%, private banks 38%, insurance 4% and others 3%.