Deluge of Chinese bank capital bonds gathers pace

An important new sector of the Asian debt markets picks up speed with the pricing of jumbo offshore Tier 2 deals for Bank of China and China Construction Bank.

A weighty pipeline of bank capital bonds from Chinese banks does not yet appear to have deterred investors who were offered two very contrasting Tier 2 transactions on Wednesday.

Earlier this summer, China's big five banks announced plans to raise a total of Rmb270 billion ($44 billion) in Tier 2 capital through the onshore and offshore debt markets in order to make themselves Basel III-compliant.

It presages an important new sector for the Asian debt markets but has been some time in coming while the banks waited to report their third quarter results. However, Bank of China has now set the pace for the rest of its peers after replenishing its capital with two very sizeable Tier 1 and Tier 2 deals in the space of three weeks. 

This Wednesday, it followed up its recent $6.5 billion debut Additional Tier 1 (AT1) deal with an equally successful $3 billion offshore Tier 2 deal, which attracted an order book of $18 billion. China Construction Bank (CCB), meanwhile, priced the sector's second offshore renminbi-denominated Tier 2 deal with an Rmb2 billion offering.

Bank of China gets ahead of the pack

Bank of China is not the first of the policy banks to raise Tier 2 debt this year but its $3 billion transaction is almost double the size of recent combined offerings from CCB, which raised $750 million in August and Bank of Communications (Bocom), which priced a $1.2 billion deal in October. 

It has given the markets a huge amount of paper to digest, particularly with the other policy banks not far behind it. But more importantly, the bank has provided global players with the kind of sizeable and liquid benchmark Asia still sorely lacks.

In terms of structure, BoC opted for a 10-year straight 144a bullet deal. The transaction was formally launched at Asia's open on Wednesday at 300bp over Treasuries.

With $4 billion of anchor orders already in place at launch, the leads had ensured momentum would build fast. This enabled them to tighten pricing to a range of 5bp either side of 275bp over Treasuries.

Unsurprisingly, pricing came at the very tightest end of the range once the final order book topped $18 billion. This was fixed towards the end of the New York trading day, with a re-offer price of 99.588% and yield of 5.053%, equating to 270bp over Treasuries.

The deal has a 5% coupon and was allocated to 580 accounts. By geography, Asia took 60% followed by Europe on 27% and the US 13%. By Investor type, 49% went to insurance companies, 38% to fund managers, 8% to the public sector, 3% to banks and 2% to private banks.

The transaction carried a Baa3/BBB+/BBB+ rating by the three agencies. Both Standard & Poor's and Fitch assigned it their standard Tier 2 rating two-notch lower rating than the bank's A/A issuer rating. 

However, Moody's opted for a Tier 2 rating four notches below BoC's A1 issuer rating. Its less favourable view of the Chinese banking sector probably explains why CCB did not get a Moody's rating for its own tier 2 deal on Wednesday.

BoC's nearest Tier 2 comparable is Bocom's 4.5% October 2024 deal. This has a five-year call option in 2019 and a variable coupon, which re-sets in 2019 to 285bp over five-year Treasuries.

This was trading at 4.48% on Wednesday, equating to 290bp over Treasuries or 293bp on a G-spread basis.

Bankers said the 15bp differential between BoC and Bocom's Tier 2 deals relates to Bocom's call option. Had Bank of China opted for a similar structure rather than its bullet deal, this would have added 15bp to 20bp to the cost on a fair value basis. 

CCB's August 2024 Tier 2 bond was trading 41bp tighter at 238bp on a Z spread basis on Wednesday. This $750 million deal also has a five-year call option and variable coupon. 

When it was launched in August, it initially priced at 275bp over five-year Treasuries.

Aside from the three months on the curve, the spread differential between CCB and BoC can be explained by the fact that CCB's deal was issued by its Hong Kong branch, while Bank of China's deal has come from the parent level under China's regulatory jurisdiction.

Investors have said previously said they prefer structures where the Hong Kong Monetary Authority makes the final call on the Chinese banks; viability rather than the China Banking Regulatory Commission in the case of bonds issued by their onshore parents. 

BoC is nevertheless likely to be extremely pleased at having sourced $9.5 billion in the space of three weeks from its twin AT1 and Tier 2 deals. The bank has not only raised a large chunk of its regulatory capital, but set the pace for all the deals, which will follow.

In total it has Rmb60 billion ($9.81 billion) quota for Tier 2 debt through to the end of 2015.

Bankers said the solid trading performance of its AT1 deal underpinned the new Tier 2 deal. "It demonstrated that Bank of China is a sensible issuer," said one. "It gave investors a lot of confidence that they will make money from this new deal."

Does BoC's AT1 deal offer better value?

On Wednesday, the 6.75% perpetual non-call five AT1 transaction was trading at 100.875% to yield 6.35% or 471bp over Treasuries. At this level, it offers an almost 200bp pick up over the new Tier 2 deal.

Some analysts think this makes it a more attractive proposition.

In a research note published on Wednesday, Nomura said that both AT1 and Tier 2 deals, "effectively offer the same downside risk in a worst case scenario as both have coupon deferral risks and PONV loss absorption risks.

The loss absorption mechanism for Tier 2 (full permanent principal write-down) is worse than for AT1 (conversion to equity) though this Tier 2 ranks senior to AT1 is and there is no hard trigger for loss absorption.

On a pro-forma basis, BoC now has an overall capital adequacy ratio (CAR) of 13.15%. This includes its recent AT1 deal and an onshore Rmb30 billion Tier 2 offering.

Its CET1 CAR stands at 10.11% and its Tier 1 ratio at 10.55%.

CCB brings China's second offshore RMB-denominated tier 2 bond

Having raised Tier 2 funds from the dollar market in August, CCB opted to diversify its funding base further with an RMB-denominated issue on Wednesday.

The Beijing-based bank raised Rmb2 billion ($330 million) from a 10-year non-call five-year deal. This was priced at par with a semi-annual coupon of 4.9% to yield 153.8bp over CNH Hibor. 

The deal has a variable coupon, which re-sets annually from 2019 at 153.8bp over 12-month CNH Hibor. The call falls due in November 2019 at par, but can also be redeemed at par upon a regulatory event subject to CBRC approval. 

Initial guidance came at the 5.25% area, but was tightened after the issuer amassed an order book of Rmb14 billion ($2.29 billion). The deal was then priced at the very tight end of the final range, which spanned 5bp either side of 4.95%.

The Reg S deal had a BBB+/BBB+ rating from Standard & Poor's and Fitch, but no rating from Moody's.

Some 142 accounts participated, with a split of 99% Asia and 1% Europe. By investor type, insurance companies took 48%, followed by fund managers on 41%, then private banks on 7% and banks/other taking the remaining 4%.

Bankers said that very few funds looked at CCB's RMB-denominated issue on a relative value basis to its dollar-denominated Tier 2 debt. They also argued that ICBC's pioneering offshore RMB-denominated deal was not really a comparable since it does not have a call option in year five. 

Instead, they said most funds looked at the Chinese banks' RMB-denominated senior debt. CCB's longest tenor is a September 2017 bond, which was trading on Wednesday at 3.66%, about 124bp tighter than its new Tier 2 deal. 

CCB's recent third quarter results showed that its asset quality has been affected by its acquisition of Brazil's Banco Industrial e Comercial (BIC). This helped to push NPL's up 10.1% compared to a 4.4% rise if the Brazilian non-performing loans are stripped out. 

However, the bank's third quarter results also revealed an improvement in capital quality. Tier 1 was up 44bp to 11.65%, while CCB's overall CAR rose 64bp on the quarter to 14.53%.

Joint global co-ordinators for Bank of China's deal were Bank of China, Bank of America Merrill Lynch, HSBC and Wells Fargo, with joint bookrunners also including Credit Agricole, Deutsche Bank, JP Morgan, Mizuho and Morgan Stanley. 

Joint global co-ordinators for CCB's deal were CCB International, Goldman Sachs and HSBC.

This article has been updated since first publication.

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