Krung Thai Bank sold a $700 million 10.5-year bond — Thailand’s first ever Basel III instrument — despite ongoing investor scepticism as to whether the government will extend extraordinary support to such instruments.
According to Standard & Poor’s in a recent note, issue ratings on any Basel III-compliant subordinated debt by major Thai commercial banks are likely to be three to five notches lower that its long-term issuer credit ratings, prompting investors to exercise caution when it comes to buying these instruments.
This essentially reflects the rating agency’s view that the Thai government is unlikely to extend extraordinary support in the event the bank is deemed non-viable.
Also, Bank of Thailand has stipulated a condition that the bonds must have a non-viability contingent clause, which could lead to principal write-down or equity conversion even before a bank’s share capital has been completely written-off.
Put simply, investors could lose all their money even before a bank’s equity capital has been totally wiped out.
“We believe it is unlikely that the government will extend support to the banks' Basel III-compliant subordinated debt because such debt is designed to absorb losses and form a part of the bank's regulatory capital,” Chris Lee, Singapore-based credit analyst at S&P said.
Krung Thai Bank is rated BBB by S&P, but the likely issue rating for its Basel III subordinated debt would be B+. Fitch, however, has rated its new bank capital note as an expected BBB-.
Approach cautiously
Despite these concerns, credit analysts note that investment into Thai banks’ Basel III-compliant Tier 2 instruments depends on one’s time horizon.
In the case of Krung Thai’s issuance — by far the highest-yielding Thai dollar-denominated bond on record, according to credit analysts — Mizuho Bank said that the deal will perform for short-term momentum investors if it prices at 5.25% and above given investors’ current scramble for yield and exposure to scarce Thai paper.
However, investors with a medium-term or longer time horizon approach should approach the transaction with more caution, added the Japanese bank in a research note on Thursday.
“We consider this deal’s non-viability language to be less bondholder-friendly than for recent deals out of Korea and Japan where pre-emptive government capital injections are not considered a non-viability trigger event,” said Mark Reade, Asian fixed-income trader at Mizuho. “The economic fallout from Thailand’s ongoing political instability is bound to have a negative impact on Krung Thai Bank’s asset quality.”
Political tensions have been running high in Thailand since the beginning of the year. Supporters and opponents of the country’s government have staged mass protests in recent months and, in early May, a top court removed Prime Minister Yingluck Shinawatra from office, along with nine cabinet ministers, after finding them guilty of abuse of power.
Thailand’s beleaguered government endorsed the army’s sudden decision to impose martial law on May 20, saying military intervention could help bring forward proposed elections and reforms after six months of political impasse.
Because of this, Mizuho’s Reade said there is no need for investors to rush to buy Krung Thai’s bond as he expects to see plenty more Basel III Tier 2 supply from regional banks in the second quarter.
Callable
Krung Thai’s Basel III-compliant Tier 2 offering, which is callable in year 5.5, will reset at a prevailing five-year US Treasury rate plus an initial spread of 3.535% after its call date, according to a term sheet seen by FinanceAsia. This somewhat compensates investors for the additional risk that they have to hold for a long-tenor bond.
Under the terms of the Krung Thai’s bond, investors can be reassured that loss absorption will only occur if the Bank of Thailand and/or other government agency decides to grant financial assistance to the issuer in the form of capital injection, without which the borrower would be unable to continue its business in any manner.
Such a scenario includes having insufficient resources to make repayments to its depositors and creditors, the issuer’s capital funds having been depleted to the extent that depositors and creditors will be adversely affected or the borrower not being in a position to independently increase its capital base.
Under new global capital rules, the world’s biggest banks will need to hold core capital of about 9.5%, plus an extra 3.5% of loss-absorbing debt.
Nonetheless, Krung Thai managed to price its debut bond in the Basel III Tier 2 space 30bp tighter than its initial price guidance of 5.5% area, buoyed largely by the scarcity factor, according to a source close to the transaction.
In terms of comparables, the Thai financial institution’s new notes came to market 210bp wider than the bank’s existing senior notes expiring September 2018 on a G-spread basis. Other comparables include Woori Bank and Dah Sing Bank’s Basel III-compliant notes maturing April and January 2024 respectively, which were trading at a yield of about 4.65% prior to the announcement.
Oversubscribed
Krung Thai’s new notes obtained an order book of more than $4 billion from more than 175 accounts. Asian investors subscribed to 84% of the paper while the rest went to Asia, a source familiar with the matter said.
Fund managers bought 66% of the bond, followed by private banks with 16%, financial institutions with 8%, insurers and sovereign wealth funds with 7% and central banks with 3%.
In secondary market, Krung Thai’s Basel III bond tightened by 13bp, added the source.
Goldman Sachs and HSBC were the joint bookrunners of Krung Thai’s bond.
