Merrill in 2nd about-turn on contingent capital

LONDON (Reuters) - Bank of America Merrill Lynch (BAC.N) reversed its position for a second time on Wednesday to decide its bond indexes would not include new contingent capital securities, devised for Lloyds (LLOY.L).

On Tuesday the U.S. bank said it would include these new bonds in its benchmark indexes, but many investors objected.

"The preponderance of feedback that we have received from investors who are measured against our indices indicates that most do not view the new contingent capital securities as part of their investment universe," Bank of America Merrill Lynch said in a research note.

The Association of British Insurers (ABI) said on Tuesday its members were against including these new securities in bond indexes.

Contingent capital bonds are designed to convert into equity if a bank comes under stress and breaches certain triggers.

BofA Merrill Lynch had originally planned not to include the new bonds in its indexes, but then changed its mind on Tuesday.

"We have decided to evaluate the new securities on their own merits and will revert to our original decision to exclude them from the indexes," Merrill's research note said.

The note also said the bank would review all bank Tier 1 debt - the lowest ranking bank bond that has equity-like features - currently in the index to determine if there are, in fact, other securities that should be removed from the index.

The contingent capital securities form part of a multi-billion cash raising planned by British bank Lloyds (LLOY.L) to free itself from a government insurance scheme for bad loans.

The ABI complained that if the new bonds were included in indexes this would mean some investors would have to buy them and subsequently become forced sellers if and when they converted to equity.

Some fixed income investors have investment mandates that means they are not allowed to hold equities.

Peter Montagnon, the ABI director of investment affairs, said: "We are very pleased Merrill Lynch have registered our concerns. We want a full debate to understand these instruments and their place in the new capital structure."

No decision has been made yet for the iBoxx indexes, a leading benchmark in the investment grade arena, said Markit, which runs the indexes.

Markit's oversight committee, made up of asset managers, regulators and consultants, is expected to meet next Tuesday to discuss a recommendation on this issue, Markit said.

Barclays Capital has already decided that contigent capital securities that are convertible to equity will not be eligible for broad-based investment-grade Barclays Capital bond indexes such as the Global Aggregate, Sterling Aggregate and US Aggregate indexes.

The new securities would also not be eligible for the bank's high-yield benchmark indexes, but might be eligible for Barclays Capital Convertible Bond indexes, provided they meet inclusion rules, Barclays said.

(Editing by David Cowell)