UBS shows write-down bid, but AT1 still a stretch

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UBS shows write-down bid, but AT1 still a stretch

Increased demand from dollar investors for yieldy bank paper helped UBS print its new $2bn Coco with permanent principal write-down features. But institutional funds may still not be ready for additional tier one products.

The distribution of UBS’s $2bn bullet 10 year transaction will certainly cheer up those banks looking to print new style instruments. But claims that the deal marks a hybrid capital breakthrough are overblown.

Until now, Asian private banks have been the bedrock of support for new style hybrid capital instruments. Nearly three quarters of the $2bn 10 non-call five year deal that UBS printed in February went to private banks.

This time, allocations to private banks were a third of that.

Both deals have similar principal loss absorbency features — if UBS’s capital ratio falls below 5% of risk weighted assets, investors will take a permanent haircut.

So news that managed funds took 49% of the latest deal is a welcome sign that the investor base is diversifying for securities containing permanent write-down features.

But the distribution documentation was not the same. February’s deal ruled out a large pool of US dollar investors with its Reg S format. The 3(a)(2) format for last week’s deal allowed investors from all around the world to participate.

That makes a difference. Old style Trust Preferred securities are rolling off in the US, and investors are looking for nice yielding replacement assets. Deals like UBS’s fit the bill.

Institutional accounts will remain cautious about other new style hybrids, however. The low 5% trigger ratio makes write-down seem remote, while UBS’s Swiss status gives it kudos (Credit Suisse’s multi pronged capital raising announced last month shows that the country’s authorities are serious about keeping its lenders strong).

And of course, a tier two Coco like UBS's is not the same as a new style additional tier one, even though the principal loss absorbency may be the same. The tier two host gives investors more security: the instrument is dated, coupons are mandatory.

In contrast, worries about coupons being switched off even while dividends continue to be paid will make institutional accounts wary of new style tier ones. UBS's trade is important, but it doesn't mean that investors are ready to embrace everything in the new hybrid capital universe.

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