State-run banks prefer AT1 bonds to raise capital

After going out of fashion for a year or two, additional tier-1 (AT1) bonds are back as a favoured instrument for bank recapitalisation. However, public sector banks are the only ones issuing such bonds, while private banks are raising equity capital.

The capital-raising spree is prompted by the RBI which wants banks to be adequately capitalised to lend in the coming days and to take care of the bad debts arising from the disruptions caused by the pandemic. Soon after, on July 17, Bank of Baroda raised ~764 crore through AT1 bonds at a coupon of 8.30 per cent. The latest is Bank of India, which raised ~750 crore on Wednesday at a coupon of 9.04 per cent. Canara Bank is scheduled to raise ~180 crore on Friday through this instrument. So far this fiscal year, public sector banks have raised ~17,608.1 crore through these instruments.

While most conditions remain the same, one crucial change is Sebi has shielded retail investors from buying these bonds. AT1 bonds are getting placed on a private placement basis, with only qualified institutional buyers allowed to invest. Even mutual funds and high networth individuals are not allowed to invest. Even then, sources say, HNIS are regular buyers in the secondary market.

Sebi barred retail investors because in such bonds, the banks are in no obligation to dip into their reserves to pay back the bond holders. In the recent case of YES Bank, investors had to write off the entire ~8,400 crore invested in AT1 bonds. Given the complexities involved, the bonds have to be issued at a higher coupon to compensate for the uncertainty and potential write-off in future.

“The AT1 is a complex instrument, but the possible problem, if any, flows more from the credit of the issuer… when there is a rapid downward credit migration which in extreme cases can lead to a write-down of the instrument,” said Shameek Ray, head of debt capital markets at ICICI Securities Primary Dealership.

“It’s not necessarily unsafe and with larger and safer issuers, it provides a higher rate along with decent liquidity and hence has again found preference in some investor segments,” said Ray.

The capitalraising spree is prompted by the RBI which wants banks to be adequately capitalised to lend in the coming days and to take care of the bad debts