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BBVA scores with Tier 1 bond despite shaky fundamentals
05/03/2013 Email this story  |  Printable Version

* Six-times subscribed book highlights hunt for yield

* Spanish 10yr yields at 2yr low, but unemployment over 27%

* Banks wait for EBA standards to sell temporary write-downs

By Aimee Donnellan

LONDON, May 3 (IFR) - A USD9bn-plus order book for BBVA's Additional Tier 1 bond this week, at a time when economic fundamentals are at their worst, has proved that the hunt for yield is transcending any fears about a potentially calamitous market correction down the road.

The deal, the first to comply with the Capital Requirements Directive (CRD IV), was unexpectedly driven by European accounts, who found the 9% coupon irresistibly high.

"The strength of the technicals are currently outweighing the economic fundamentals, which is leading to demand for yield in the market," said Mark Geller, head of European financial institutions syndicate at Barclays.

For the issuer, the timing was perfect.

Spanish 10-year yields dropped to 3.95% this week, falling below 4% for the first time since September 2010, as central bank easing across the globe drives a widespread risk-on mentality across credit markets.

From an investment perspective, however, the underlying economic conditions should actually be a deterrent for structures like Tier 1, where investors run the risk of being converted into equity at best, and intense volatility in secondary if there is a market correction.

Spain is still plagued by negative growth and record-breaking unemployment above 27%, both of which are unlikely to improve in the near term.

"Getting USD10bn for a high-yield product like BBVA, which is not even rated by S&P and where the language is very vague and the structure is complex, shows there is a massive demand for yield," said a hedge fund manager.

"But investors are just looking at the coupon, and not the risks."

ROCK AND A HARD PLACE

The problem for investors is that sitting on the sidelines has its own set of problems, especially when analysts worried about a correction are struggling to pinpoint an event that will trigger it.

"Investors have two options in this market: sit on your hands and wait for a correction that may not happen; or buy some of these instruments and keep a wary eye on the market," said Robert Montagu, a senior financials analyst at ECM.

The coupon on the BBVA deal was a fair price compared to where other subordinated bonds were trading, and the fact that the bond converts to equity is much more appealing than the permanent 100% write-downs on other high-trigger CoCos, said Montagu.

The USD1.5bn bond will convert into equity if BBVA's Core Equity Tier 1 ratio falls below 7%, meaning investors have a buffer of more than 400bp from the current 11.2% level.

The complex structure of the bond, rated BB- by Fitch, was not a deterrent either. It includes four different trigger points to reflect the requirements of the European Banking Authority, the Spanish regulator, and Basel III rules, but 7% is the highest.

"Three [of those] are transitory, so it's possible that investors will end up with just the CRD IV-related trigger over time," said Erik Schotkamp, BBVA's capital and funding management director.

The end result exceeded the bank's expectations on size, price, and demand, and released almost 30bp of core capital.

WRITE-DOWN, WRITE-BACK NEXT?

Lead managers BBVA, Bank of America Merrill Lynch, Goldman Sachs and UBS said the 9% pricing level was an attractive benchmark for further issuance in the sector, and others agree that more will follow, even if further bouts of volatility arise.

"If you believe the euro is here to stay, then you will buy deals like this," said Jorge Alegre, a capital markets lawyer at Linklaters in Madrid

"Accounts in Asia and institutional European investors are taking a view that Spain is unlikely to leave the eurozone despite its economic difficulties."

The structure of other deals, however, is still uncertain.

Some bankers say other issuers are likely to favour a temporary write-down instrument rather than straight equity conversion. However, they are unlikely to do so before the end of June at the earliest, when the EBA is expected to publish its technical standards that will provide clarity on how temporary write-down structures will work.

DCM bankers and syndicate officials say that with clarity from the Capital Requirements Regulation (CRR), the market conditions are ideal for future issuance.

"The success of this trade will encourage other bank issuers to capitalise on current market conditions," said Peter Jurdjevic, head of the balance sheet solutions team at Barclays. (Reporting by Aimee Donnellan, editing by Philip Wright, Natalie Harrison and Julian Baker)


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