UBS/AT1s: erasing the past will come at a price

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Time heals all wounds. But bond investors wiped out by Credit Suisse’s takeover may need more than a few months before they are willing to jump into the additional tier 1 bonds that rescuer UBS hopes to sell.

It is easy to see why subordinated debt investors might be wary. They were dealt a painful blow when the Swiss bank agreed to take over its failing rival in March. Securities with a face value of $17bn were entirely wiped out. Worse, they were wiped out despite equity holders managing to retain some value, in an extraordinary upending of the traditional capital hierarchy.

Confusion over whether the decision was pinned on the terms and conditions of the bonds themselves or an emergency piece of legislation, or both, did not help. Cue market ructions, bondholder lawsuits and the resignation — for health reasons — of Urban Angehrn, the chief executive of Swiss regulator Finma. He will step down at the end of September. 

New UBS AT1s will test the short-term memory of investors. Yet fears that the Credit Suisse fiasco might permanently destroy the market are overblown. In Europe, authorities were quick to reiterate that they believed debt to be senior to equity. Spreads on a basket of AT1 securities, which ballooned following the wipeout, have fallen a third. They are now not much higher than the long-term average. Moreover, the market for new issuances has reopened. BBVA, BNP and Italy’s Intesa have all raised new capital with AT1s.

In addition, UBS is considering ways to minimise “Swiss risk” — the perception that its regulators might behave particularly aggressively towards bondholders. One idea under consideration is to offer securities convertible into equity if things go wrong. That would reduce the risk of bondholders taking a bigger haircut than shareholders. Investors may also push for a detailed definition of what, exactly, would trigger the bail-in of bondholders — the “viability event”, as it is known.

These are all helpful suggestions. Still, investors could be forgiven for some residual unease. Resolving bank crises is a dirty business and regulators typically have sweeping powers to intervene. Terms and conditions, no matter how detailed, need to be underpinned by trust. UBS is a well-capitalised bank. Even so, it may have to offer high yields to entice investors.