Credit Suisse, SVB demise highlights risks to mum and dad investors

The market for AT1s sold off dramatically after the announced rescue of Credit Suisse by UBS in a $US3bn-plus buyout forced upon UBS by the Swiss government. Photo: GABRIEL BOUYS / AFP

The demise of banks such as Credit Suisse and Silicon Valley Bank has created heightened volatility on the Additional Tier 1 hybrid bond market, but it has also highlighted the risk for retail investors in the local market.

The market for AT1s sold off dramatically after the announced rescue of Credit Suisse by UBS in a $US3bn-plus buyout forced upon UBS by the Swiss government.

The shock factor came when the value of Additional Tier 1 Credit Suisse bonds were written down to zero.

The situation caused panic, but with more clarity around how the bonds operate here, the market recovered.

Additional Tier 1 or AT1 consists of capital instruments that are continuous in that there is no fixed maturity, such as preferred shares or high contingent convertible securities (CoCos).

They are a type of debt issued by the bank that can be converted into equity if the capital levels fall below requirements, and in Australia, they are issued by most Australian banks, with Mum and Dad investors often buyers.

Retail shareholders are drawn to them because they offer lucrative returns and they are listed on the Australian Securities Exchange, buying the investments through stock brokers that charge a fee to the banks of about 1 per cent.

But the difference between the hybrid bonds in Switzerland and those in Australia is that the bonds held by Credit Suisse and UBS stipulated that if either bank needs government support, they would be written down to zero.

Listed hybrids here have provision that if they fall below the minimum CET1 ratio, they would be converted to equity.

But if the equity in the bank that has issued the bond is not worth anything, the value of the bond is zero.

One market expert said that the risk for mum and dad investors is that they often did not read the documents related to terms of the investment.

Banks favour issuing the AT1 bonds on the listed market because they are cheap for the Australian lenders to issue compared to the broader bond market.

Sources say in Australia, the non-listed bond market consists of more sophisticated investors and have a better idea of what the bonds are truly worth.

As an example, Westpac sold US dollar hybrid bonds offering a 600 basis point return into the bond market, but on the Australian listed market, the same security offered 300 basis points.

In the United Kingdom, regulators have banned retail investors from owning the bonds because they were too complex for them to understand the risks.