Australia’s Basel III-compliant bond market is
among the most sophisticated globally. And while a framework
has been established for Additional Tier 1 (AT1) offerings,
more innovation is expected in Tier 2s.
The Australian market has developed independently of other
developed jurisdictions. Contingent convertibles (CoCos)
are exciting in Europe,
non-existent in Asia, but fairly common in Australia. Most
deals in the country include equity conversion instead of a
write-down at the point of non-viability (PONV).
The Australian Prudential Regulatory Authority (Apra) was
one of the first regulators to implement Basel III. Australian
began selling Basel III-compliant bonds in 2012, and those
early deals created a template that has been replicated by
"It’s very well established what is needed for
a security to be Basel III-compliant," said Shannon Finch,
partner at King & Wood Mallesons.
Convertibility has been a common feature of hybrids in
Australia. The only new aspect surrounding the equity
conversion in Australia was the mandatory nature of the
non-viability trigger and the introduction of mandatory
conversion into Tier 2 instruments, said Patrick Lowden,
partner at Herbert Smith Freehills.
Market participants fought for the conversion into equity
feature when Apra was determining its Basel III rules.
An immediate complete write-down without attempting
conversion didn’t strike the right balance with
consumer protection and the securities’ position
in the priority chain; they started as either preference shares
or deeply subordinated notes. The idea that they would be
treated less favourably than ordinary equity in a non-viability
situation seemed incongruous, said Finch.
"The conversion into ordinary shares brokered a compromise
between shoring up the financial system and protecting investor
interests, she added."
Partial write-down or conversion has been a feature of most
– if not all – offerings since Apra published
full Basel III prudential requirements, said Lowden. A
partial write-down is possible in a general non-viability
situation when that’s adequate for the institution
to remain viable, but isn’t possible in the
context of a public sector injection.
To protect investors, Apra has mandated an equity conversion
price floor set by reference to the market price of the shares
when the notes were originally issued. "There used to be a 50%
floor, but that’s been dropped to 20% following
the implementation of Basel III," Lowden said.
- Australia’s Basel
III-compliant bond market has developed
- Non-viability clauses
in Australia usually allow equity conversion instead of a
complete write-down at the point of non-viability. Partial
write-downs or conversions are also permitted;
- There is an
established framework for Additional Tier 1 bonds, innovation
dominates in Tier 2s. More Tier 2 offerings to institutional
investors are expected.
"We expect Tier 1 offerings to remain reasonably
consistent," said Finch, noting that the repeat issuance
process has been smooth and non-viability terms have been much
easier to resolve.
She added that while the initial focus was AT1, the market
has recently seen an increased focus on Tier 2 bonds, including
some offerings with cross-border elements in their
This month ANZ sold an
$800 million Tier 2 bond, marking its first Tier 2 deal and
the first time an Australian bank sold Basel III-compliant
notes in US dollars.
More Tier 2s are expected, as institutional investors become
more comfortable with non-viability clauses. Bendigo and
Adelaide Bank opened the wholesale market in February, selling
A$300 million ($264 million) in ten-year non-call five Tier 2
notes in the first Australian deal marketed solely to
institutional investors. Fund managers
bought 60% of the notes, demonstrating demand from more
Others quickly followed, with Westpac
selling A$1 billion ($926 million) in Tier 2 notes to the
wholesale market in March.
Insurance Australia Group (IAG) also completed an A$350 million
Tier 2 offering to the institutional investor market
– the first Australian insurance company in the Tier 2
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