TLAC takes shape as HK has second consultation
GlobalCapital, is part of the Delinian Group, Delinian Limited, 4 Bouverie Street, London, EC4Y 8AX, Registered in England & Wales, Company number 00954730
Copyright © Delinian Limited and its affiliated companies 2023
Accessibility | Terms of Use | Privacy Policy | Modern Slavery Statement

TLAC takes shape as HK has second consultation


Hong Kong has published its second consultation paper (CP2) on a resolution regime for financial institutions, as it readies itself for a new set of capital requirements – Total Loss Absorbing Capacity (TLAC). Market participants expect bond volumes to go up as banks prepare for the new regime, although for that to happen, the government will need to come up with answers to some tough questions, writes Rev Hui.

Hailed as the solution to the problem posed by “too big to fail” banks, TLAC is championed by the G20 group of countries and was proposed by the Financial Stability Board (FSB), which proposes that globally systemic important banks (G-SIBs) hold at least 16%-20% of risk weighted assets.

The proposed requirements could have a huge impact on the market, as they are at least twice the current Basel III leverage ratio.


“The total capital ratios of G-SIBs are generally in the 16%-19% range. However, given the sheer size of their business, we could expect to see issuance of around $700bn of debt securities (excluding the Chinese lenders) if we assumed a 19.5% target by 2019,” said Pramod Shenoi, head of Capital Solutions at Standard Chartered.

In Asia, Hong Kong is at the forefront of this change as it looks to present its own version of the regime to its legislative council by the end of 2015. The city has already undergone one round of consultation. A second is in the market and is scheduled to end on April 20.

“Hong Kong is unique in the sense that a large number of its banks consist of branches and subsidiaries of foreign banks rather than domestic lenders, so there is an actual need for the government and regulators to have the legal framework to co-ordinate efforts with the home authorities of those foreign-domiciled and headquartered banks,” said Sonny Hsu, senior analyst, Financial Institutions Group, at Moody’s.

Bracing for impact

While TLAC is not expected to come into force until 2019, market participants are already predicting that the city’s banks will start preparing for the changes.

One Hong Kong based capital market lawyer estimated that Hang Seng Bank, for example, will need to raise more than HK$10bn ($1.3bn) of capital to hold 17% of risk weighted assets and be in line with the FSB’s proposals.

Risk weighted assets (see separate chart) are calculated by adding a bank’s total capital ratio plus its unsecured, subordinated and other eligible debt. Hang Seng Bank has a total capital ratio of 14.2% (HK$65bn) as of June 30, 2014.

“That’s the rough estimate of one bank only, so if you add all the other banks in Hong Kong into the equation, the numbers can be pretty significant,” the lawyer said, adding that since foreign bank subsidiaries such as Bank of China (Hong Kong) were also likely to be subject to the rules, the potential number of deals generated could be huge.

However, he added that before banks start making their moves in the debt market, one essential issue will need to be resolved by the regulators – whether senior unsecured debt issued by operating companies counts as TLAC or whether only debt issued by holding companies is eligible.

If operating debt counts as TLAC, the impact on Hong Kong is likely to be minimal. But if it does not, then not only will the city’s banks have to issue a far larger amount of debt, it could also lead to the restructuring of some banks.

“It then turns into a whole new world of problems, such as getting the relevant approvals for the restructuring,” said the lawyer. Europe is also having similar discussions, he said.

Questions to be answered

But even once that is out of the way, a number of other issues will still have to be clarified by the authorities for TLAC to be successfully introduced in Hong Kong.

First on the list is for the government to come up with an exact figure for TLAC, which will have a direct impact on the potential supply generated by banks. Second is the recognition of cross-border resolutions and how the city will be able to effectively co-ordinate such actions between different jurisdictions.

Third is the bail-in order, which will determine the order in which different types of investor will see their liabilities subjected to write-down and/or conversion.

Bail-in is a relatively new concept in capital markets, entering the spotlight after the 2007-2008 global financial crisis. It is a tool intended to tackle the issue of investors becoming too reliant on government bail-outs, as it forces shareholders and creditors to bear the costs of bank failures.

“There are legitimate doubts about how bank resolutions can be implemented without using public funds given the highly interconnected nature of large systemically important banks," said Hsu at Moody's. "Nevertheless, the details of Hong Kong’s consultation paper clearly point in that direction.”

He added that Hong Kong would probably launch a third consultation after the FSB issues further guidelines on bail-ins and cross-border resolution.