Credit Suisse’s AT1 bonds worth $17 bn written off: How Indian banks are exposed to risky these bonds

Credit Suisse takeover deal: Swiss regulator FINMA on Sunday said that the embattled Swiss lender's Additional Tier 1 (AT1) bonds worth $17 billion will be written off as part of the takeover deal by UBS. The move has angered bondholders as their investments have been reduced to zero, whereas shareholders are scheduled to get payouts as part of the takeover deal. Post-2008 financial crisis, AT1 bonds became a more preferred form of investment, whereas equity investments are classed as secondary.

AT1 bonds issued by other European banks fell sharply on Monday, according to a report in Reuters, as the collapse of Credit Suisse AT1 bondholders highlighted the risks of investing in this type of debt.

What are AT1 bonds?

AT1 bonds, also known as contingent convertibles or “CoCos,” are high-yielding bonds, which are similar to equity shares sold by banks. These bonds are used to raise capital when banks need immediate funding and don’t want the government’s help for the rescue.

These bonds can be converted into equity when the capital level of a bank falls below a specified threshold.

In this case, AT1 bonds were created after the financial crisis as a way of shifting risks away from taxpayers in crisis situations. Due to their elevated risk factor, they often have higher yields than other bonds.

Why AT1 bonds are riskier than other bonds

The AT1 bonds are considered as riskier and more volatile as they have no maturity date and their interest payments are not guaranteed. Their takeaways largely depend on the financial health of the bank, which is issuing the bonds.

In AT1 bonds, investors are exposed to higher risks of default or loss, compared to traditional bonds. Banks issue these bonds to absorb shocks in the market. So, AT1 bonds can be written off entirely, as it happened in the case of Credit Suisse.

What have analysts said?

Citi analysts said on Tuesday the decision to write off AT1 bonds will weigh on the pricing of such bonds and affect investors’ confidence in the future.

"Another instance of AT1 bond write-off questions seniority of claims of AT1 bondholders and dampens sentiments for AT1 market issuances," Citi analysts wrote in a note as reported by Reuters.

Goldman Sachs analysts have said that the wipeout of Credit Suisse's AT1 bonds could reduce demand for this type of bond in the long term.

Goldman Sachs noted that FINMA’s Credit Suisse decision will “greatly weaken the case to add risk.”

Indian banks’ exposure

According to Jefferies, domestic lenders, such as the State Bank of India, HDFC, and others, have limited dependence on such securities.

Despite Yes Bank’s episode in March 2020, where the Reserve Bank of India initiated a restructuring of the lender, Indian banks have raised AT1 bonds at 65-75 basis points premium over government bonds, Citi said in its note on Tuesday.

According to Jefferies' note, PSU banks have a higher share of AT1 bonds as compared to private banks.

After the Yes Bank episode, the issue of such papers has slowed as the investors leaned towards larger, high-quality banks, the note further added.

Banks	AT-1 capital Risk-weighted	AT-1 capital (In billion rupees)	AT-1 capital (In as % of RWA rupees)
HDFC Bank	123	15,363	0.80%
ICICI Bank	51	10,414	0.50%
Axis Bank	48	7,953	0.60%
IndusInd Bank	15	3,225	0.50%
YES Bank	Nil	2,441	0%
State Bank of India	415	26,940	1.50%
Canara Bank	124	5,573	2.20%
Punjab National Bank	87	6,361	1.40%
Bank of India	29	3,406	0.80%
Indian Bank	20	3,227	0.60%

Source: Jefferies

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