[zhoutong]

I was initially surprised about this because AT1 notes are supposed to rank higher than equity. It seems that almost no one saw this coming (CS AT1 bonds traded higher this weekend before the write-down announcement), and traders presumed that bondholders should be made whole if equity holders get something.

However then I looked at the information memorandum of these AT1 bonds (e.g. https://www.credit-suisse.com/media/assets/about-us/docs/inv...). Credit Suisse titled their issues as "Perpetual Tier 1 Contingent Write-down Capital Notes". Note that it's "contingent write-down" rather than the more typical "contingent convertible". The IM also doesn't contain an explicit conversion price or conditions.

Almost everyone would call this a "CoCo bond", even though its terms are exceedingly clear -- if CET1 falls below 7%, a Contingency Event, which is a Write-down Event, occurs, and "the full principal amount of the Notes will automatically and permanently be written-down to zero on the Write-down Date." In other IM issued by other banks I've seen, usually such event is followed by a mandatory conversion to ordinary shares rather than an immediate write-down. I wonder if this nuance was fully considered and priced in the trading of such instruments.

[testfoobar]

Between this and Janet Yellen's shaky answer to the Senate regarding deposit flight from community banks on Thursday, I think regulators are prolonging this crisis. Each solution seems designed to address the localized problem but does not consider systemic effects.

1: With this weekends actions in Europe, how will the AT1 bond market react tomorrow?

2: With Yellen's uninspiring answer on Thursday regarding deposits in mid sized banks, what will depositors / bondholders / shareholders do?

Regulators need to address the system as a whole.

Yellen:

https://www.youtube.com/watch?v=Bcvl104tyRY

https://www.cnbc.com/2023/03/16/svb-signature-bank-failures-...

[bradleyjg]

Yellen really fumbled the answer and she should have had some slick thing prepared but at the end of the day it isn’t the answer that was the problem. It was that the apparently no one thought through the second order consequences of the SVB depositor bailout. This even though the explicit legal requirement was that the government actors determine it was necessary to prevent systemic risks to the financial system.

[markus_zhang]

No sane regulator would want the bomb to explode on his/her own hands. Volcker might be an outlier but everyone else is sane.

[lmm]

Everyone's trying to prop the banks up enough, but not too much; there's a fundamental tension between preventing a panic and ensuring that those who were prudent or otherwise are fairly compensated.

[cm2187]

Except that the CET1 is above 14%. I think what happened wasn't related the coco trigger but a bailin, i.e. the regulator forcing losses on bond holders to create equity. So the terms of the coco feature aren't really relevant.

[zhoutong]

Upon further reading I found that the Viability Event (which is also a Write-down Event) is probably the applicable one in this case:

> (b) customary measures to improve CSG’s capital adequacy being at the time inadequate or unfeasible, CSG has received an irrevocable commitment of extraordinary support from the Public Sector (beyond customary transactions and arrangements in the ordinary course) that has, or imminently will have, the effect of improving CSG’s capital adequacy and without which, in the determination of the Regulator, CSG would have become insolvent, bankrupt, unable to pay a material part of its debts as they fall due or unable to carry on its business.

Clearly this deal required non-customary, extraordinary support from the Public Sector, so if the regulator determines that without such a transaction CSG would have liquidity issues, then this event would occur.

However I think my point stands that the terms of these CS AT1 notes should be understood as materially different from similar securities. For example, this note from ING (https://www.ing.com/MediaEditPage/XS2122174415-ING-Groep-N.V...) has a single Trigger Event that will cause mandatory conversion into ordinary shares, and a more general provision for Statutory Loss Absorption which may be a conversion or a write-down. The terms of CS AT1 notes do not seem to provide for any automatic or discretionary conversion, only automatic write-down.

I completely agree that in situations like this, the regulators have a lot of discretion on these bail-in securities, but I consider this "automatic permanent write-down" feature to be of a materially higher risk than "automatic mandatory conversion" variant because it could be a difference between getting back something (or everything) vs nothing. What the regulators do are, by definition, not "automatic", and an automatic write-down should be a much lower hurdle than an explicit regulatory action.

[cm2187]

In the end bailin is a statutory action, so you really have to look at the terms in the law not in the doc.

[personomas]

Great analysis man