Sunday, February 14, 2016

HYBRID BONDS....TO BLOW UP MANY BANKS

European banks are going to make life hell for the global economy. Taxpayers are running away as they are butchered by the European banking regulation where any crisis will be managed through the bond holding and then Taxpayers funds will be deployed to revive the bank’s balance sheet. According to the guidelines which were agreed upon was that 8% of a bank’s liabilities will be wiped out mandatory  before any taxpayer support can be provided, where placing of unsecured senior bondholders and also large corporate depositors  will be forced to go ahead with loses.  The problem is not with the banks across the globe but with hybrid category of debts which have been taken into account where the bond or hybrid debt holder does not know the quality of instruments being held by them. Indian stock market investors might be thinking that Equity is the highest risky asset but unfortunately Debt is the product which is of mass destruction.

Hybrid products of Bonds and debt have come up after 2008 recession where Bonds have been floated with high risk. This might sound surprising but the hard fact is that we are sitting on Island of Highly dangerous quality Hybrid Debt products. For example contingent convertibles, contingent capital, buffer convertible capital securities, enhanced capital notes, etc. are all different names for the same kind of capital instrument issued by a financial institution. Now this bond is having fancy names based on countries but the real thing is that these bonds are designed in such a way that can be used to write off the losses of an bank without even triggering the bank to be default. So it hides the banks financial position as hardly the market comes to know of its crisis and secondly is uses the bonds automatically without informing the holder of the same. The biggest risk here is the one who are the owners of the bond. Further these bonds of Hybrid quality have a tenure beyond a decade. The Lloyds Banking Group launched its $13.7 bn issue of enhanced capital notes which was spread over a number of bonds with maturities ranging from 10 to 22 years.  These bonds have been f in December 2009 right after the financial crisis. This clearly shows the risk being borne by the citizen and by the economy to hide the wrong practices of operation executed at the bank’s end.

 After this the Next in line was Rabobank, which made its first entry in the market for contingent debt with a €1.25 bn issue early 2010. The mockery is in the name of instrument being changed every time whereas the underline remains the same. Now after this Credit Suisse launched its so-called buffer capital notes and they came up with an  this issue size of $2 bn turned out to be quite popular and was more than 12 times oversubscribed. The point here is very clear same product renamed and sold too many same investors based on the theory that they are safe and hybrid quality to provide extra yield over the current treasury papers of the government. This also clearly states that how banks are protected where as bond holders are thrown out of the window. So when a crisis will come in bank bond holders will have to cry which leads to significant fall for the global economy. Santander and UniCredit are also in bandwagon.

 The depth of the pain is going to be very strong since In Europe, during the period 2009–2013, approximately $40 bn was issued of this new category of debt. Time will reveal when they will come out of the bag and create a massive turbulence for the market.

  The risk goes to the pension holders and all those common people and institutional people who have been given the bonds. The problem is with the banks who dealt wrongly with the clients without proper information about what type of bonds is being sold. Well European central bank played the game in 2010 asking not to write down the senior bond holders during the crisis of Ireland. Now the same is being feared to follow across the European banks. In all cases debt will be written off using taxpayer’s funds.
Global Big banks are shedding of their assets  and winding up business division not for cost cutting or for any grim outlook on the economies but due to manage their books and cover their losses and provide enough capital to inject into their system to avoid bankruptcy.
Hybrid Bonds have more stories to go ahead which I will cover in my next part.


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