January 19, 2018 / 3:30 PM / 3 months ago

AT1 sector starts 2018 on a high

* Bumper book for RBI despite minimal concession

* AT1 sector is decoupling from high-yield

By Alice Gledhill

LONDON, Jan 19 (IFR) - Greater numbers of investors are chasing fewer Additional Tier 1 bonds in primary, putting the sector on a rock-solid footing even as signs of weakness emerge in the high-yield market.

Raiffeisen Bank International reopened the sector in style on Wednesday, selling a tightly-priced €500m 4.50% perp NC7.5 (Ba3) at par on books more than eight-times subscribed from some 334 accounts. It was trading up at 100.8 on Friday.

The response highlighted the depth of demand for AT1, the most subordinated layer of bank debt, enabling RBI to claim the second lowest coupon for a euro AT1 despite its chequered history.

A phenomenal rally has seen the Bank of America Merrill Lynch CoCo index move from 6.14% to around 4.40% over the last 12 months, though there is still room for further compression - RBI priced around 300bp wide of its Tier 2 debt, for example.

“Many fixed investors who are now more comfortable with European bank fundamentals have woken up to the fact it’s one of the only places left with a bit of value,” said Ciaran Callaghan, head of financials credit research at Amundi Asset Management.

Dealers are also reporting increased demand from the US for euro European AT1s given the richness of the US dollar market.

“There is more money chasing new deals, and RBI was a prime example,” Callaghan said. “It feels as if the market is still under-invested in the asset class, with more cash on the sidelines waiting to get involved at some point this year.”

Citigroup forecasts just €13bn of euro-denominated AT1 issuance in 2018. Belfius (A2/A-/A-) will be the first to follow RBI, having already announced a debut €500m no-grow perp NC2025.

ONE IN, ONE OUT?

The stability of the AT1 market contrasts with the high-yield sector, where valuations have backed up in recent months and single names like Altice are under pressure.

“You’re seeing a complete decoupling,” said Barry Donlon, head of capital solutions at UBS, a joint bookrunner on RBI.

“There is some negative sentiment across the high-yield market, and in AT1 there is absolute bullishness. It’s a really positive thing.”

High-yield funds have been major AT1 buyers in the past, even though the large HY borrowers have little in common with the likes of RBI, except on a ratings basis.

High-yield investors have by no means disappeared though one banker said some are losing interest, with one hedge fund manager anecdotally “removing the AT1/HY indicator from his dashboard”.

On the other hand, AT1 rating upgrades have been a major factor attracting a broader base of investors. Moody’s, for example, upgraded Erste Group Bank’s AT1 debt to BBB- from BB+ in October.

“So from a comps perspective, fundamentally, we’ve moved away; and then from a technical market perspective, because you’re accessing a larger IG investor base instead of relying on the HY base, the correlation isn’t there,” said Donlon.

But Amundi’s Callaghan suggested any proper repricing in the HY market could trigger some volatility in AT1 later in the year given their off-benchmark status.

“It’s one of the main headwinds, along with extension risks,” he said.

BLINDSIDED?

While a growing buyer base is clearly a boon for banks that still need to sell AT1, the grab for paper is arguably fostering complacency among investors.

Despite improvements in RBI’s asset quality and capitalisation, it is regarded as one of the sector’s weaker credits with sizeable exposure to Eastern Europe, for example.

It has also failed to call Tier 1 bonds in the past, though such is demand that investors did not unduly focus on the new issue’s lower back-end spread.

The coupon would reset to five-year mid-swaps plus the initial margin of 387.7bp if RBI failed to call the bond. That compared to the 595.4bp reset spread on its inaugural €650m 6.125% NC5.4, which unusually tightened 40bp on the back of the new deal.

A second investor warned the new issue could underperform in a weakening market.

“For an issuer that was under some pressure to improve capital ratios not too long ago, I find it striking that the last basis point of new issue premium gets squeezed out,” he said.

Deutsche Bank, HSBC, Morgan Stanley, Societe Generale and Raiffeisen Bank International were bookrunners for RBI, alongside UBS. Bank of America Merrill Lynch, Belfius Bank, Citigroup, JP Morgan, Nomura and UBS are bookrunners for Belfius. (Reporting by Alice Gledhill, editing by Helene Durand, Julian Baker)

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