Powered by MOMENTUM MEDIA

Investors underrating hybrid risks: FIIG

Reporter
— 1 minute read

Investors are underestimating the probability of hybrid securities being used by banks to absorb losses in a downturn, warns fixed income manager FIIG Securities.

FIIG's head of markets, Craig Swanger, said the problem with hybrids is that they are “specifically designed to provide financial support to banks if they have another financial crisis like the 2008/2009 global financial crisis”.

“That is, they will convert to equity, without investor choice, at precisely the wrong time for investors,” Mr Swanger said.

Advertisement
Advertisement

This warning follows the release of the PERLS VII capital notes offer by CBA on Monday, which Morningstar credit analyst John Likos said failed to offer investors adequate compensation for risk

Mr Swanger said many investors are under the impression hybrids will only convert when the bank becomes bankrupt; however, this is not the view of the regulator.

“[The regulator] sees this capital converting when the bank is in trouble but still a growing concern and investors in these new securities will likely take a significant haircut on their capital when they convert” said Mr Swanger.

“It is important to understand that these securities are designed to be equity in the eyes of the banking regulators.”

Mr Swanger explained the relatively minor risk of one of the Australian banks becoming non-viable is therefore “not the biggest risk facing holders of these hybrids”.

He said a sell-down of the hybrids will occur “well before any actual crisis triggering a non-viability clause”.

The sell-down of hybrids in 2008 and 2009 saw even the major banks’ hybrids drop by more than 30 per cent without any question of default of the banks, Mr Swanger said.

“What we don’t know yet is what will happen in the next financial crisis when these new bail-in hybrids are put to the test,” he said.

“These new hybrids could fall much further than 30 per cent, and potentially even more than equities if investors dump the hybrids ahead of conversion.”

Mr Swagner said hybrids failed to offer protection in 2008/2009, unlike bank bonds which fell just 2 to 3 per cent and recovered immediately.

“Bank equities fell by 40 per cent on average, but you accept that risk because you also have the chance for upside, as investors that held on to their bank stocks have now found,” he said.

“With these hybrids, you get neither the protection of bonds nor the upside of equities.”

 

 

Investors underrating hybrid risks: FIIG
investordaily image
ID logo

related articles

promoted stories

Website Notifications

Get notifications in real-time for staying up to date with content that matters to you.