Intesa Sanpaolo last week announced a debt exchange, giving investors the chance to sell lower tier two bonds approaching their call dates in return for an attractively priced new three year senior bond.
In connection with the exchange, the bank said (as many others have in recent months) that it would decide whether or not to call the bonds according to market conditions.
It also said that any bonds that were not tendered as part of the operation would have their call dates removed to increase the likelihood of them being counted as regulatory capital under Basel III.
This is a new development in liability management, and while the idea has been on the table for some time, bankers were surprised that Intesa — not normally at the bleeding edge of aggressive investor relations — was the first to use it.
As Intesa has suggested that it will not call the bonds in question, removing the option to do so appears a relatively benign move. But it has made no promises. Holders of the bonds, which are callable in mid-2013, might well be miffed if market conditions were to improve to the point where the issuer would have then called them if it still had the option.
Whether other issuers follow suit will depend on whether the trustees of any bonds targeted in the future follow the same strategy as The Law Debenture Trust Corporation, trustee of the Intesa notes, and wave through the call removal by arguing it is not prejudicial to the rights of bondholders.
In any case, it diverts attention from the main lesson of this deal — that the callable market is becoming less courteous and more pragmatic. Bondholders can no longer expect issuers to honour the traditional gentleman’s agreement to call without question, and they can expect them to do everything in their power to save cash — including removing call options.
If calling doesn’t make economic sense, there’s no point in being a martyr and doing it anyway — you’ll just be left behind the rest of the pack. Investors are wising up to this, and every time another bank uses the economic calls argument, it makes it more likely that those holders who haven’t been hit, will get hit.
At the same time, the pricing of call options needs to be re-examined. A 10 year non-call five bond will generally be priced inside a 10 year bullet, but only because investors assume it to be effectively five year risk.
To avoid investors and issuers facing off, creditors need to be paid for the call option they are selling.