(Adds background on Spanish banks, analyst views on Popular capital)
By Helene Durand
LONDON, Oct 1 (IFR) - Banco Popular Espanol will test investor appetite for Additional Tier 1 debt from Spain’s second-tier banks with a new contingent convertible capital (CoCo) issue announced on Tuesday.
At a time when rising bad debts are adding to woes in one of the eurozone’s struggling economies, BPE is planning a EUR500m issue that will count as Additional Tier 1 capital.
If the trade is successful, it will show that even Europe’s weaker banks can meet increasingly stringent capital requirements under the Basel III framework.
Banks will have to have a minimum 8% total capital under Basel III, of which 4.5% is Common Equity Tier 1, 1.5% Additional Tier 1 and 2% Tier 2.
Additional Tier 1 can also be used to help lift the leverage ratio of banks, as regulators set strict rules to cap risk.
The CoCo market has so far been dominated by systematically important financial institutions such as Credit Suisse or Barclays - not weaker credits such as BPE.
“We have had a meeting with investors whom we wall-crossed over the last week and felt there was enough momentum behind the trade,” said a source close to the deal.
Another banker said that while the transaction could come as early as this week, it could be pushed into next week.
“There is not much Additional Tier 1 out there, and this will only be EUR500m and will be the first of its type in euros. And we have spoken to accounts who said that for the right price, they will buy,” the banker said.
Investors have faced volatile markets this week amid political turmoil in Italy and the United States, but Spain has so far escaped unscathed with 10-year yields dropping to 4.18% Tuesday from 4.44% on Monday.
Spanish banks are recovering from a financial crisis triggered by a 2008 property crash, which left some with gaping capital holes last year after the government enforced writedowns on real estate holdings.
Some had to be bailed out by the state, while others like Popular escaped such aid but had to turn to the market. The bank raised EUR2.5bn in a capital hike last year. But it is still rated below investment-grade at Ba3/BB-/BB+ at the senior level.
The new CoCo issue will be unrated.
Popular ended the second quarter of this year with a core capital ratio under of 10.28%, comfortably above a minimal European Banking Authority requirement of 9%, while its Tier 1 ratio was 10.46%.
Like its peers, BPE has been hit by a rise in soured loans to households and companies, forcing it to keep stumping up provisions against debt losses, while margins suffered due to a recession amid low interest rates.
Spanish banks also face a struggle with the stricter Basel III rules to be phased in next year, which could wipe out large parts of their capital made up of deferred tax assets - assets deriving from losses that can be offset against future tax bills - unless Spain’s government converts some of these into tax credits that would still count.
While some analysts believe Popular is not currently short of capital, researchers at Goldman Sachs, who recently ran their own stress tests on Spanish banks and their property exposures, estimated that Popular could have a EUR3.7bn capital shortfall under EBA requirements.
A banker on the deal explained that a desire to pre-emptively strengthen its credit - and meet its Tier 1 bucket requirement - was the rationale behind the new offering.
The transaction is the second Additional Tier 1 CoCo to come out of Spain. The previous deal was BBVA’s USD1.5bn perpetual non-call five-year deal in May this year. BBVA chose the dollar Reg S market as it was the deepest sector, while the bank’s national champion status and geographic diversity made it a much easier sell than BPE will be.
That transaction attracted strong demand from European investors despite being in dollars.
The high-beta nature of BBVA’s bonds means that trading has been volatile. They were quoted as high as 9.4% earlier this week, having priced at 9% although they have retraced some of those losses and were quoted at 8.9% today.
The differential between BBVA and BPE in the senior market is around 125bp, according to one banker, which suggests that BPE will have to pay a double-digit spread to get the trade away.
Another banker was less optimistic and said that market chatter was indicating BPE may have to pay a coupon in the 11.25%-11.75% range.
The demand dynamics have changed recently, and Credit Suisse has for example successfully sold a total write-off trade in the single currency.
BPE’s deal will convert into shares if the bank’s Common Equity Tier 1 ratio falls below 5.125% or its Tier 1 ratio falls below 6%. The latter trigger becomes redundant from January 2014.
The sale of the perpetual non-call five-year bonds will be managed by Bank of America Merrill Lynch, Barclays, Santander and UBS. A roadshow begins on Wednesday. (Additional reporting by Sarah White in Madrid, Editing by Alex Chambers, Aimee Donnellan and Marc Carnegie)