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* Pulled deals indicate growing execution challenges
* Small, lower-rated lenders lose edge as yields rise
By Alice Gledhill
LONDON, Oct 12 (IFR) - Van Lanschot became the second bank in a week to pull an Additional Tier 1 bond, calling into question whether Europe’s second and third rank issuers have left it too late to raise subordinated debt as investor risk appetite wanes.
The number of small, infrequent borrowers selling subordinated debt has rocketed in recent years: euro-denominated sub-benchmark transactions (under €500m) from banks and insurers have jumped from just €990m in 2016 to €4.6bn in 2017 and €3.86bn so far in 2018, according to IFR data.
It was inevitable that this type of issuance should increase in the halcyon market of 2017. And while this year has proved far choppier, IKB Deutsche Industriebank, Bawag and Abanca - among others - have pulled off subordinated transactions.
Van Lanschot’s decision to push ahead with its debut AT1 (BB by S&P) backfired on Monday, however, just days after Volksbank Wien delayed a debut AT1 (Ba2 by Moody’s) of its own.
Those outcomes have stoked concerns that the market for deeply subordinated debt from small or low-rated lenders has reached the end of the line, thwarting their efforts to raise regulatory capital and potentially forcing them to dip into costlier CET1 to meet their requirements.
Financial borrowers are now likely to have second thoughts before attempting similar transactions.
“It makes it a lot more challenging,” said a global head of syndicate. “I think there are a lot of potential out there who are looking, but saying it’s not the time for us.”
For a well-capitalised bank like Van Lanschot, failure to access markets - though ignominious - does not spell disaster. But it is far more serious for those lenders under regulatory pressure to shore up their capital.
Italy’s Banca Carige (Caa3/-/CCC+) postponed a Tier 2 trade in March, for example, after the price proved too high to swallow. It falls short of its total capital requirement, but a new populist government has only made issuance more challenging.
Greece’s Piraeus, whose restructuring plan also includes debt issuance, is in a similar position.
Banca Monte dei Paschi (B3/-/B/B), which printed a €750m 5.375% 10NC5 (Caa2/-/CCC+) in January, needs to raise another €700m of Tier 2, but its outstanding bond is now yielding 13.90%.
The regulator is unlikely to force banks’ hands with funding costs so punitive, and there are various stop-gap measures such as further NPL sales or deleveraging.
But at some point its patience may run out. The European Central Bank placed two small Italian lenders, Veneto Banca and Banca Popolare di Vicenza, into liquidation last year after they repeatedly breached supervisory capital requirements.
“Where it matters is when you get to crunch time: when the ECB says ‘I’m concerned about financial stability, your access to external investors and I’ve told you to have this in your capital plan - what are you delivering?’” said a banker.
“If you’re not delivering on that, you get to a trickier spot and you start getting harder deadlines.”
Investors proved particularly receptive to smaller or weaker names when they typically offered an attractive source of yield versus larger, more established borrowers.
Novo Banco (Caa2/-/-/B) and Caixa Geral de Depositos (Ba3/-/BB-/BBB) were among the lenders able to access the subordinated market earlier this year, for example.
That advantage has faded as the broader market widened over 2018. Buyers of Lloyds’ US$1.5bn PNC7 (Baa3/BB-/BB+) this month were rewarded with a 7.75% coupon, for example.
That shift has also weighed on analysts’ inclination to undertake extensive credit work on infrequent borrowers. Like Carige, French insurer CCR and Portugal’s Fidelidade were also forced to shelve sub-benchmark issues this year.
Liquidity is a growing concern. “In a weak market, the last thing you want is a position you can’t get out of,” said the global head of syndicate.
That has forced up the premium for trades like Van Lanschot’s €75m-€100m perp NC5. On that basis the 6.5% area IPTs looked ambitious, particularly given benchmark AT1 paper from much larger banks trades in the same context.
“The vast majority of investors don’t want to buy small deals, the illiquidity is a real problem,” said a third banker. “There may well be an element of people severely underestimating the premium that comes with these small deals.”
The sellside has not written off this type of trade altogether, but successful execution may require a shift in strategy.
Syndicates will need to get comfortable that the large investors who underpin bookbuilds show up on the day. That may prove increasingly difficult in such volatile markets, particularly given capacity constraints among the large asset managers as the prospect of fund outflows increases.
But for all the concerns over liquidity, some investors are drawn to small, domestic lenders such as Spain’s Abanca - it has a comparatively simple balance sheet and is sheltered from emerging markets volatility and global trade tensions. Its €250m 7.5% perp NC5 (B by Fitch) was twice covered in September and is still above par.
Still, borrowers and their lead managers will need to tread carefully.
“You can’t just do a three-day roadshow and then open books, it’s not enough,” said a FIG DCM banker.
“We will need to give investors more time in order to minimise the risk and do more in-depth marketing, more like a club deal. The market isn’t shut, but it’s currently in such a state that investors will use any excuse to pass.” (Reporting by Alice Gledhill, Editing by Helene Durand, Julian Baker)