Since the takeover of Credit Suisse (NYSE:CS) by its bigger competitor UBS Group (NYSE:UBS), the struggle for investors doesn’t appear to be abating. The deal has erased around $17.3 billion of AT1 (additional tier 1) bonds from the market.
According to Swiss regulator FINMA, the AT1 bondholders were left with nothing in this deal after these bonds were written off, while the shareholders of Credit Suisse will receive their payments.
AT1 is the type of bond that is issued by banks and can be converted or written down in emergencies. These bonds first came into the picture after the 2008 financial crisis to help banks raise more capital in another form.
As an after-effect of this news, AT1 bonds in the Asian and European markets opened lower starting this week. The Invesco AT1 Capital Bond UCITS ETF (GB:AT1) lost almost 5% over the last five days. The newly issued AT1 bond by HSBC Holdings (GB:HSBA) also dropped 8% on Monday.
Moving ahead in the week, the bonds recovered slowly as the regulators tried to ease off investors’ panic. The authorities in the UK and the European Union have assured bondholders that they will be given preference over shareholders in any such future catastrophe.
AT1 bonds from Commerzbank AG (DE:CBK), HSBC Holdings, and UniCredit SpA (DE:CRIN) were the top gainers in the bond market.
Even though these bonds carry such conditions that justify the wipeout, this could lead to higher funding costs for the banking sector in the future. This has posed a threat to European banks, which prefer issuing AT1 bonds to raise capital as compared to traditional bonds.
Analysts at J.P. Morgan said, “We expect that credit investors are now likely to demand a higher risk premium across the spectrum, with the cost of AT1 issuance potentially rising into double digits.”
As investors are exploring multiple options to find safer instruments, this move has further aggravated investors’ fear of the bond market. As for banks, the AT1 bonds will become more expensive, squeezing their balance sheets.
