AT1 bonds back as preferred avenue for PSBs to raise capital

Private banks stick to equity capital; fund-raising spree driven by RBI's call for adequate capitalisation

After going out of fashion for a year or two, additional tier-1 (AT1) bonds have come back as a favoured instrument for bank recapitalisation.  

However, public sector banks are the issuers of these bonds, while private banks are raising equity capital. The capital raising spree is prompted by the Reserve Bank of India (RBI), which wants banks to be adequately capitalised to lend in the coming days and to take care of the bad debts.  

Meeting the minimum capital requirement would be necessary, but not a sufficient condition for financial stability, the RBI governor had said in July. Covid like situation may revisit again, and banks but build buffers and raise capital on a proactive basis, he had said.   

Soon after, on July 17 Bank of Baroda raised Rs 764 crore through AT1 bonds at 8.30 per cent. The latest is Bank of India, which raised Rs 750 crore on Wednesday at a coupon of 9.04 per cent.  

Canara Bank is scheduled to raise Rs 180 crore on Friday through this instrument. So far, this fiscal, public sector banks have raised Rs 17,608.1 crore through AT1 bonds. The conditions remain the same, but one crucial change is that the Securities Exchange Board of India (SEBI) have shielded retail investors from buying these bonds. These bonds are getting placed on a private placement basis. Only qualified institutional investors (QIB) are allowed to invest in these bonds. Mutual funds and retail, including high networth individuals are not allowed to invest here. Even as, sources say, HNIs are regular buyer of these bonds in the secondary market.  

 

That is because in such bonds, the banks are in no obligation to dip into their reserves to pay back the bond holders if there is loss. In recent case of Yes Bank, investors had to write-off the entire Rs 8,400 crore invested in AT1 bonds.  

Given the complexities involved, the bonds have to be issued at a higher coupon to compensate for the uncertainty and potential write-off in future.  

"The AT1 is a complex instrument, but the possible problem, if any, flows more from the credit issuing it, when there is a rapid downward credit migration which in extreme cases can lead to a write-down of the instrument," said Shameek Ray, the head of debt capital markets at ICICI Securities Primary Dealership. 

There was always appetite for AT1 bonds among investors as they offer higher coupon than other investment options. If the issuer is public sector banks, the credit risk gets eliminated to a great extent, as the government is the owner of these banks. 

“The AT1 is not necessarily unsafe and with larger and safer Issuers, it provides a higher rate along with decent liquidity and hence has again found preference in some investor segments," said Ray.