re: UBS agrees to buy Credit Suisse for more than $2bn

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change the country’s laws to bypass a shareholder vote as they rush to announce a deal before Monday.

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How many stock holders will bail from both banks on Monday?

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Yep, bondholders wiped out

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How do you wipe them out before equity

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Bond investors are typically better protected from losses than shareholders, but not in this case. The Swiss regulator will impose losses on $17 billion of high-risk debt known as Additional Tier 1 bonds that make up part of a buffer of debt and equity intended to prevent taxpayers from having to shoulder the bill for a bank’s collapse. The total writedown marked the biggest loss yet for Europe’s $275 billion AT1 market. Shareholders, who typically are first to take a hit in a writedown scenario, got at least a small consideration.

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the biggest losers of a wild weekend are undoubtedly investors in CS’s AT1 bonds.

Additional Tier 1 bonds are a creature of the post-financial crisis regulatory architecture for Europe. In addition to carrying far more plain equity, big banks were forced to issue “contingent convertible” bonds that could be quickly transformed into more equity or just wiped out in a crisis, and thereby hopefully make a taxpayer bailout less likely.

The most common form of these CoCo bonds are just known as AT1, because their design means that banks can count them towards their overall loss-absorbing tier one capital. TwentyFour Asset Management has an excellent explainer.

Credit Suisse issued a big fat chunk of them in the past decade. Here is a presentation that Credit Suisse gave to investors last week as it was battling to save itself, which says it had SFr14.7bn of AT1 bonds outstanding at the end of 2022.

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Clearly the Swiss regulators looked at the instruments and felt confident that they have the legal backing to vaporise the AT1s. The standard threshold is when Common Equity Tier 1 falls below 7 per cent, but we think they can often be triggered at a national regulator’s discretion — basically when they reckon a bank is “non-viable”.

A separate Credit Suisse press release puts the value of AT1 bonds being wiped out at CHF16bn. We’re not sure what explains the discrepancy with the Swiss government statement and last week’s presentation, but it’s probably related to different parts of the CS sprawl, with some bonds issued by the holding company and others by different subsidiaries.

What is clear is that this was a swift nuking of Credit Suisse’s AT1s. Beyond the immediate pain for the holders, we suspect this is going to be viewed?.?.?.?unfavourably by investors in the broader European AT1 market.

Now, getting zeroed at times of crisis is obviously the whole point of these securities, and it’s easy to see why the Swiss decided to do this. It will make CS far easier to swallow for UBS without indigestion. Legally, we’re sure Finma and the Swiss National Bank are fine.

But sometimes the legal niceties matter less than the optics — especially in stressed markets. And bondholders really care about being behind equity when the pain is being distributed.

Europe’s AT1 market is about €250bn, and this is the biggest wipeout since it was born. The only other example is Banco Popular’s €1.35bn AT1 bond vaporisation in 2017 — but in that case the equity was also zeroed.

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So these AT1 bonds are worse than junk bonds. Could we see that market completely collapse and create more chaos?

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