* DBS redeems old-style bank capital and sparks fears of trend
* Investors face losses on swap to new-style, riskier bonds
* Malaysian banks toy with the idea as well
By Kit Yin Boey
SINGAPORE, Feb 28 (IFR) - DBS Bank will become the first Asian lender to exercise a regulatory call option on a Basel II capital instrument on March 21, sparking investor concerns that other Asian banks may follow its lead.
Similar call options, which allow the issuer to redeem the bond at par if regulatory changes mean it no longer counts as capital, are featured in a number of outstanding bank capital bonds across Asia, including Singapore, Malaysia, Hong Kong and India.
In many cases, the bonds are years away from redemption and trade above par. Hence, if these banks decide to exercise regulatory calls, investors stand to lose out.
In the case of DBS, the bank offered Tier 1 notes which feature loss-absorption clauses at the same 4.7% coupon of its outstanding S$1.7bn Basel II perpetuals, which did not include the option to write down the value of the bond in case the bank is considered not viable.
That offered a solution for banks looking to replace Basel II instruments, which are beginning to lose their capital treatment, with Basel III bonds. Other treasurers are also considering similar moves.
“If a regulatory call can save me costs, I don’t see why I should not look into that option, especially since our outstanding Tier 1 bonds are not only expensive, but also will start to amortise (their capital treatment) soon,” said one executive at a large Malaysian bank.
According to a CreditSights report released at the end of January, Malaysian banks’ Tier 1 and Tier 2 paper, Indian banks’ US dollar notes and issues from a couple of Hong Kong banks are most at risk of an early redemption.
Malayan Banking is among those likely to benefit from such a call. The lender has three Tier 1 issues that are callable in 2018, making it a prime candidate for a regulatory call since there is a significant amount in excess of the eligibility cap from 2014 to 2018, said analysts David Marshall, Matthew Phan and Nicholas Yap from CreditSights.
Yet, analysts at CreditSights acknowledged that banks were likely to be mindful of the backlash from investors, something that treasury officials said they were keeping in mind.
“At the moment, we are monitoring the developments in Asia and Europe of how banks are moving to Basel III bank capital,” said Wong Yee Fun, head of capital management at Maybank.
“We know that a reg call will have implications on our investors, and it is a very delicate balance to maintain as we also have to ensure that our investors are satisfied with what we decide.”
Although most recent US dollar issues from major Indian banks include a regulatory call option, there is little likelihood they will exercise them. The bonds are generally trading below par.
So, while investors will welcome such a move, there is no incentive for the cash-strapped Indian lenders to make the calls, since they will have to offer higher coupons to replace the old notes with new issues.
In Hong Kong, regulatory call risks are present in issues from Bank of East Asia and Dah Sing, but CreditSights believes that the risks are limited.
DBS launched its par-for-par exchange exercise for its Tier 1 notes in November, offering new bonds with loss-absorption clauses that qualify as capital under the new regime, but on the same terms as the outstanding safer bonds.
The Singapore bank had looked to launch the exercise last May, but the bonds were trading at cash prices around 107/108, which meant that a call would have imposed severe losses to investors.
In holding off until November, when the bonds fell to around 102, DBS was able to minimise the pain. Its move, however, left many investors unhappy.
The exchange offer upset investors as the new bonds paid only a negligible premium for the increased risk of loss that is a condition of all Basel III-compliant bank capital.
Investors were also annoyed with what they saw as a threat in the offer, which had reiterated that the old bonds were subject to a regulatory call at par. The change-of-qualification event was triggered with the implementation of the Basel III regulations in Singapore on January 1 2013.
After completing the exchange, DBS in February said it would exercise the regulatory call at par on the remaining S$895m of the issue. At that time, the bonds were trading around 100.5 as investors were expecting the call.
Even if other banks do not follow suit, DBS may look to repeat its trick. A similar regulatory call option is included in the bank’s Tier 2 capital, of which about S$1bn is outstanding in excess of the eligibility cap for the next three years.
“We think there is some risk that DBS may conduct an exchange offer at par or exercise the reg call on the sub-debt, as it has already shown willingness to do this for the hybrids,” said CreditSights. (Reporting By Kit Yin Boey; editing by Christopher Langner and Steve Garton)