Bonds Slump on EU Rule Change
World Economy

Bonds Slump on EU Rule Change

Europe’s riskiest bank debt has lost its immunity to strains in financial markets.
The notes, which have beaten corporate debt for two years, are getting dragged into a global selloff of risky assets because tighter capital regulations have increased the chances of bondholders not getting coupon payments. Yields also no longer dwarf those available from euro-denominated corporate junk bonds, Bloomberg reported.
“It’s getting more difficult to be enthusiastic about European banking when regulators keep making life harder,” said Bill Blain, a strategist at brokerage Mint Partners in London. “The brutal truth is that European banking remains very badly damaged.”
So-called additional Tier 1 notes have lost about 1.8% this year, closing another door for investors seeking to escape a global market rout encompassing stocks, commodities and corporate debt. New capital rules have driven the losses by pushing lenders closer to thresholds that can prevent them from paying coupons on the notes, dividends or staff bonuses.
Banks laden with bad loans, such as Banco Popular Espanol SA and UniCredit SpA, have led the selloff. That’s because the European Central Bank’s rule change increases the significance of soured debt in determining thresholds for barring coupon payments. Losses imposed on senior bondholders at Portugal’s Novo Banco SA have also raised concerns about lenders in peripheral European economies.
Additional Tier 1 notes returned about 8% last year, surpassing most other types of debt, based on Bank of America Merrill Lynch indexes. The returns were mainly due to high coupon payments, which reflect the risk that the bonds can be converted into equity or written off if a bank is in danger of failing.

  More Charges
The new regulations will probably mean that lenders have to pay even more to sell the securities, said Simon McGeary, Citigroup Inc.’s London-based head of new products.
“If investors perceive that coupon-skipping is more likely, then they’ll potentially charge more for that,” he said.
The risk could be mitigated by weak banks cutting dividends and bonuses instead of payments on notes, or by regulators allowing limited payouts, he said.
Risky assets have slumped worldwide this year because of a slowdown in Chinese growth and a plunge in commodity prices to near 25-year lows. Euro and dollar junk corporate bonds have both lost more than 2%, while global stocks have declined 8%. Investment-grade corporate debt has dropped 0.4% in euros, and returned 0.6% in dollars, Bank of America Merrill Lynch indexes show.
Additional Tier 1 notes sold by Banco Popular have lost 6.4% in 2016, the biggest decline among the 50 biggest issuers in a Bank of America Merrill Lynch index. Similar bonds from UniCredit and BNP Paribas SA have fallen more than 3%.


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