* Sterling bank bond issuance back to pre-crisis peak
* Lenders unearth nearly £20bn of demand for capital trades
* Investors question senior/subordinated pricing divide
By Aimee Donnellan
LONDON, April 11 (IFR) - Continental European banks’ increasing use of the sterling market for raising hybrid capital could have ramifications for domestic UK lenders who are struggling to convince investors there is value in their senior unsecured debt.
Banks have raised over £9bn across Tier 2 and Additional Tier 1 subordinated bonds since January - the strongest start since 2006 and up £8.6bn from the same period last year, according to Thomson Reuters data.
And the demand for this paper has been insatiable. Nationwide Building Society, Credit Agricole and BPCE have unearthed nearly £20bn of demand, dwarfing the mere £2.5bn equivalent that three recent UK senior deals have received in the past few weeks.
“Investors are seeing more value in capital than in senior, unsecured bonds these days,” said Keval Shah, head of investment grade syndicate at Lloyds Bank.
“Though the question whether Tier 2 is too wide, or senior too tight, in a bail-in world remains unanswered.”
Investors say the they may begin demanding higher spreads for senior unsecured offerings and accept lower levels for Tier 2 issuance.
“Lower Tier 2 bonds have a lot of value in comparison to senior debt where bail-in clearly hasn’t been priced in yet,” said Dierk Brandenburg, a senior bank credit analyst at Fidelity.
“Once bail-in is applied we will start to see investors looking for higher spreads for this kind of debt.”
The frantic chase for yield in the euro market has been driving investors into the riskiest banks’ unsecured bonds even though, potentially, bail-in could leave them with nothing.
But the UK’s smaller investor base can be far more selective and demanding with issuers that are trying to market debt.
“Investors are asking themselves why should they buy a bank’s senior unsecured debt, when they are comfortable with the credit and happy to invest further down the capital structure,” said Shah.
Borrowers are aware that the return of sterling bank capital market is offering them a one in a 10 year opportunity, said a hybrid capital expert.
Non-domestic issuers tend to prefer the depth of the US and euro markets, and only risk the sterling sector when demand is red hot.
“The sterling market offers banks duration at competitive levels,” said David Hague, head of UK & Ireland FIG DCM at Nomura.
The low rate environment is also helping issuers. As is the case in the euro market, investors are being driven into riskier structures in search of the highest yield that will allow them to benefit from the tightening market.
“UK investors are now happy to consider investing in bank capital having seen issuers return to a greater level of financial stability over the last few years,” said Hague.
Bank capital requirements have changed dramatically since the crisis, including tough new rules that force banks to proactively raise subordinated debt.
Additional Tier 1 and Tier 2 capital are used to boost banks’ defences against collapse, ranking lower than senior debt in the capital structure, meaning that unsecured bondholders are protected by the capital buffer, in theory.
But investors are now questioning this logic. Nationwide provided the clearest example of this problem last month when it tried to sell a rare senior unsecured bond - a 750m five-year bond with a coupon of 1.625% that found lukewarm demand from investors.
At the time, bankers were at a loss to explain the lack of interest from UK investors that only took 13% of the bonds.
Some explained that UK investors were already sated by the recent sale of Core Capital Deferred Shares by Nationwide which offered a 10.25% distributon, and the 6.875% coupon on the lender’s Additional Tier 1 deal.
The expected uptick in sterling bank capital issuance is likely to further expose the lack of relative value in senior unsecured debt.
“A number of issuers are monitoring the sterling opportunity which affords some attractive tenor extension versus euro alternatives, as well as investor diversification and low all-in yields,” said David Carmalt, managing director of FIG DCM at Lloyds.
“With the expansion of the UK-based investor community, banks have an ever-wider audience to sell debt product into, which obviously provides price tension.” (Reporting by Aimee Donnellan; Editing by Alex Chambers and Sudip Roy)