French insurer CNP Assurance issued the debut tier-3 bond in euros on October 12, a €1 billion triple-B-plus rated deal that the market hailed as showing the way forward for the sector under Solvency II. The six-year bullet trade, arranged by Bank of America Merrill Lynch, BNP Paribas, Citi, Crédit Agricole, Natixis and Nomura, was priced at 233bp over Bunds.
The new bonds will rank pari passu to old-style tier 2 but are senior to new-style Solvency II compliant tier-2 bonds. Tier-3 bonds can be used to meet up to 15% of insurance firms’ Solvency II SCR (Solvency Capital Requirement). However, they are not included in S&P’s measure of a company’s total adjusted capital (TAC).
CreditSights analysts observe that their trigger is based on the minimum capital requirement rather than the SCR, which means that should it be reached, the insurer would be almost bankrupt. CNP lacks hard capital, is highly leveraged and suffers from weak profitability, according to CreditSights, but the analysts say that as the bonds look very similar to senior debt the pricing looks “very generous”.
Mark Holman, CEO at TwentyFour Asset Management in London, says: “With so much capital sitting beneath this tier-3 capital and the bullet nature, as well as much stronger ratings, it was bound to provoke interest.” The average yield on the euro IG index is just 0.73%.
The deal is very good news for the insurance sector. The 1.875% coupon is the lowest fixed coupon ever paid by a European insurer for euro-denominated subordinated debt.
However, it also highlights the lack of progress on non-preferred (tier-3) issuance by French banks.
“French banks need to raise capital in non-preferred senior but the regulations are not clear,” says a senior banker at one French bank. “The legislation covering this was initially due in September but it has been bundled up with a larger legislative package, which is what is delaying it.”
An alternative view is that the French parliament is waiting until the European Commission’s position is clear on having a standardized approach to contractually bail-inable senior debt across the banks that are now supervised by the ECB.
Germany and Spain were swift to enact the Bank Recovery and Resolution Directive (BRRD) into their national regulations last year, with Germany opting for statutory subordination and the Spanish authorities choosing a contractual approach which changes the hierarchy of debt and allows a third tier of debt to be issued between tier 2 and senior debt. Italy added an extended depositor preference which ensures that all deposits are senior to debt in the BRRD hierarchy. If and when the French legislation is passed it will add another option to the mix.
Erik Litvack, SGCIB
“The EC is leaning towards having a standardized approach, but it depends whether they can get sufficient buy-in from Parliament,” Erik Litvack, head of regulatory strategy at Société Générale CIB, tells Euromoney. “They seem reasonably favourably disposed towards the French approach.”
Indeed, Elke König, chair of the Single Resolution Board (SRB), has previously stated to Bloomberg: “Both the German and the French models for subordination are feasible,” and if the European Commission, “is tending toward a compromise based on the French model, the SRB can live with that perfectly.”
However, at the IIF meeting in Washington in October, she seemed to change position, saying that it will take time for banks to build up their stocks of non-preferred tier-3 bonds under the French plan, while the German approach of statutory subordination, whereby senior unsecured securities of German banks become subordinated to the bank’s other senior unsecured liabilities in insolvency, is immediate.
“The German solution, from our perspective as a resolution authority, is a solution now; the French solution is a solution that has to be built up,” she said.
So the only seeming certainty is that a harmonized approach to contractual bail-in remains a long way off. In the interim, the French banks are faced with a conundrum: wait and see while the 2019 TLAC deadline looms or issue and risk falling foul of later regulation.
“The big four French banks will have to think hard about this,” says the French banker. “They have got a lot to do, do they really want to back load it?”
BNP Paribas, for example, needs to issue roughly €10 billion such paper to be TLAC-compliant.
The banker expects the banks to ramp up in tier 2 in the interim. “We will see further front loading of issuance in the tier-2 market this year,” he reckons. “Tier 2 is an under utilized capital instrument. There has been a lot of tier-2 issuance in dollars so this suggests that there is room for investors to buy in euros. The dynamic for tier-2 investors is less driven by concern over a big level of supply, however, and issuers aren’t going to pay up to do these trades.”
Another debt specialist suggests that banks such as BNP Paribas could simply reclassify their existing senior unsecured debt from preferred to non-preferred once the rules are clear.