Santander has decided against early repayment of a €1.5bn capital bond, defying investors’ expectations in a move that threatens to rattle Europe’s $200bn market for riskier bank debt.
Issuance of bank capital bonds has boomed since the financial crisis, as Europe’s lenders have looked to build up capital buffers without raising more equity. At the same time, the hunt for yield has led fixed-income investors to take on the extra risk the bonds bring.
The Spanish lender’s decision to not repay — or “call” — the bond is also the first such instance in the additional tier 1 (AT1) bond market, the riskiest class of bank debt that regulators introduced after the financial crisis to shore up banks’ balance sheets.
“When making call judgments we have an obligation to assess the economics and balance the interests of all investors,” a spokesman for Santander told the FT. “We will continue to monitor the market closely and will seek to exercise call options where we believe it is right to do so.”
AT1 bonds have a perpetual maturity, meaning that they never have to be repaid. But investors in the bank bond market have long relied on a gentleman’s agreement that lenders will repay the bonds at the first opportunity, typically five years or more after they are sold. A rare decision by Deutsche Bank not to call such a bond a decade ago sent tremors through the market at the height of the financial crisis.
“If [Santander] did not call it, then my god, all hell would break loose,” said one senior banker earlier on Wednesday.
European regulators have indicated that they do not believe that financial institutions should always honour this gentleman’s agreement on AT1 bonds, if the bank had to replace it with more expensive debt. Santander’s management reiterated on an investor call last month that they would only make a repayment of such bonds if it made economic sense.
However, many analysts and investors last week decided that Santander had settled on calling the bond, when the Spanish bank launched a new $1.2bn AT1 bond sale. The decision to sell such a bond during Chinese new year gave many the impression the lender was in a hurry to raise money to fund early repayment of the existing bond, given that Asian private banks, usually an important buyer, were closed.
“We expect the call notice to be filed next week,” analysts at CreditSights said last week, in a note titled “New deal increases call probability”.
Following the sale of the new debt, the €1.5bn existing bond surged in value as traders and investors rushed to buy it in expectation of early repayment.
“I think holders of the existing euro bond put two and two together and got five, to be honest,” said a banker who worked on the bond sale, however.