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Al Hilal perp is a door opener – but investors must be vigilant about what walks through

Al Hilal’s additional tier one perpetual sukuk drew big demand on Tuesday and set a template for further deals of its kind. Not everyone was convinced that the aggressive price compensated for what was essentially equity risk, but while the doubters may rue missing out this time, investors should carefully heed the warnings they have raised.

With a book of over $5bn, most people who looked at Al Hilal’s $500m but didn’t get bonds are unlikely to have missed out through excessive caution. Many will have seen it as a great opportunity – the first for over a year – to earn a 5.5% return off a well-rated bank with 100% Abu Dhabi backing.

And there was good reason not to overthink terms beyond that. As one lead banker pointed out, the possibility of Al Hilal’s financial non-viability is extremely remote. This is a young bank with a clean book and good provisioning, backed by a sovereign with a $700bn to $800bn budget surplus.

Nor is the track record for government support in the UAE in any doubt. Dubai, for all its troubles during the financial crisis, put its weight behind government-related entities to see them through tough times. And Abu Dhabi made an even stronger show of support for its companies during those years – as well as bailing out its neighbouring emirate.

But Al Hilal should be seen as an exception where risk is concerned. If other banks follow its lead in issuing tier one perp sukuk – and they surely will – investors should be much more vigilant in examining the fine print and making sure they are adequately rewarded.

Al Hilal’s main purpose in issuing was to raise capital that would be compliant with Basel III directives. In the absence of a lead from the UAE’s regulator (the central bank), borrowers have had to assume that such notes could be interpreted as ranking parri passu with other debt unless they include provisions that specifically detail a complete write-down to zero at the point of a bank’s financial non-viability.

Al Hilal’s sukuk write-down disclosures will be copied wholesale by other banks who are looking to expand. The lengthy legal, structuring and regulator-educating work has been done and no-one wants to issue paper that is no longer compliant months down the line.

And if their paper is Basel III compliant and they can get good rates, banks may have little incentive to ever refinance it. This means investors will be sitting for a long time on paper that will become worthless the minute a bank ever gets into trouble. There will be no chance to convert to equity and no guarantee that any government recapitalisation will come before they, the deeply subordinated, have taken a heavy hit.

Those investors who piled into Al Hilal without asking such questions – and from the looks of it there were many – probably have nothing to fear. But if the idea takes off and lessor banks charge forward with expansion plans then investors need to have their wits about them. 

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