The present yield-hungry environment could be the ‘trigger point’ for contingent convertibles to rally further, according to a report released by Vontobel’s corporate bonds team.
The Zurich-based asset manager maintains its year-long confidence in CoCos as the investment is coming back into fashion, the report reveals.
In fact, banks such as UBS, RBS and Standard Chartered have started to issue these bonds again as markets stabilise following Brexit news.
Order books for both RBS and Standard Chartered reached about $17 billion, an oversubscription multiple of around seven times.
Written by Christian Hantel, Mondher Bettaieb Loriot and Jamil Bouallai, the report continues: ‘This was impressive, considering that this year so far the issuance for all CoCos has been only around 17bn US dollars, half of the previous year.’
ECB CoCo boost
While CoCo spreads have tightened, they still however remain behind global corporate bonds in their recovery.
Even so, CoCo bonds have gained appeal for investors as a result of the ECB’s plans to change the structure of the Pillar 2 Capital requirement in late July, according to the report.
But there is more good news on the way says Vontobel as the European Union is set to instruct banks to first pay coupons on bonds before paying out dividends or bonuses.
The report by the managers said: ‘Prioritising coupons in a “waterfall structure” would be a positive for CoCos and should reassure the market, which was spooked in spring by rumours about Deutsche Bank not being able to pay the coupon on its AT1 bonds.’
The initial move lowered the amount banks could pay out for bonuses, dividends and coupons as it brought down the maximal distributable amount (MDA) trigger point.
‘With this change, the ECB lowered the capital requirements for European banks, and more specifically, reduced the likelihood of an AT1 coupon being skipped.’
Counting on CoCos
Speaking to Citywire Selector in both February and May, Citywire AA-rated Mondher Bettaieb said CoCo bonds still offer a strong carry opportunity.
The head of corporate bonds believed convertible bonds are offering attractive entry points even though they are often misunderstood by markets and traders, which led to extreme volatility at the beginning of the year.
‘Clearly, demand for CoCos is back or to put it more figuratively, we believe there is still milk left in the CoCo-nut.’