Bank of Ireland

Borrowing the approach of ‘wall-crossing’ from the equity markets, the bank was able to achieve a good outcome in highly challenging conditions. 

Alan McNamara

Alan McNamara

In a difficult year, Bank of Ireland (BoI) has reasons to be sanguine. Over the first six months it increased net lending, reduced costs and maintained stable net interest income. If not for its typically conservative impairment charge of €937m, it would have recorded an interim pre-tax profit.

Its capital and liquidity position is equally robust. The only wrinkle has been its Tier 1 ratio. Introducing a holding company in 2017 made its outstanding Additional Tier 1 (AT1) bond partially ineligible as regulatory capital.

“We were effectively getting about €600m of capital from a €750m bond, which is quite inefficient,” says Alan McNamara, the bank’s head of financial solutions and markets execution. “So our focus for the first half of the year, among other things, was to refinance that bond and introduce a more efficient capital instrument.” His team made short work of that, raising nearly €1bn via two AT1 deals over three months.

Reopening the market

Naturally, BoI wanted to take advantage of the year’s early AT1 rally which drove the Bank of America (BofA) CoCo index to a record low in mid-February. But its long blackout period kept it out of the markets until its annual results came out on February 24.

“We were effectively ready to go when our results were announced,” says Mr McNamara. There was, however, an unexpected twist. “ING came out that day with its AT1 and few could have predicted that was going to be the last deal before the market closed for almost three months.”

Covid-19’s arrival in Europe hit the markets immediately after the Dutch lender’s deal. BoI’s options were limited. Conditions improved throughout April but not enough to support a deal, and the bank was approaching another blackout period leading up to its first-quarter results on May 11. BoI’s deadline for calling the outstanding AT1 bond was just one week later.

“There was a market window there,” he says. “It wasn’t clear if it would be conducive to support an issuance, but the one thing we could do was have our documents ready.”

BoI and its bookrunners – UBS, BofA, Citigroup, Credit Suisse and JPMorgan – prepared accordingly, but markets were still weak 48 hours after the interim results. BoI had a choice: it could forgo the call option, or de-risk the issuance.

“Rather than allowing a non-call to simply happen, we thought an alternative strategy was to at least approach a few market players and get genuine feedback rather than just surmise if the market was ready to reopen,” says Mr McNamara.

Borrowing from the equity world, the banks wall-crossed a small group of accounts to assess demand. The tactic worked. There was sufficient interest to raise €625m – enough to refinance the outstanding AT1 – at 7.5%. BoI fixed the coupon and launched the 5.5-year notes on May 14, having effectively already covered the books. Nevertheless, the order book grew to €1.4bn in two hours, prompting the bank to upsize the deal to €675m. To the casual observer, replacing a 6.7% coupon (the level that the outstanding AT1 coupon would have reset if not called) with 7.5% notes may seem little to celebrate, but it improved BoI’s cost of capital.

“When you do the maths it was broadly the same coupon as what we would have been paying had we reset, but we got 10 basis points [bps] more Tier 1 capital,” he explains.

Seizing the initiative

BoI did not rest on its laurels. Seeing some heavily oversubscribed AT1 deals towards the end of the summer lull, it spotted an opportunity. On August 26 it sold €300m of 5.5-year AT1 notes at 6% led by BNP Paribas, Citi, Davy, Morgan Stanley and UBS. Compared with the complexity of its earlier deal, the August AT1 was refreshingly straightforward.

It’s reasonable for us to believe that when we reach a refinancing window in five years’ time, tighter spreads may be on offer

Alan McNamara

“We were able to mandate banks the day before, put a transaction on screens after 8am, execute a very conventional book-build, grow the books quickly, tighten the pricing 50 bps and close books,” says Mr McNamara.

The deal was a tactical move. It allowed BoI to top up its Pillar 2 levels, capitalising on recent regulatory changes that gave banks more flexibility to use Tier 1 capital for this purpose. Looking ahead, it creates a €975m refinancing requirement split across two instruments with overlapping call periods.

“It has been rare for our AT1 spreads to be as wide as this year, given Covid-19, so it’s reasonable for us to believe that when we reach a refinancing window in five years’ time, tighter spreads may be on offer,” he says. “Having the call periods overlap gives us far more options around doing that in a slightly larger benchmark size.”

Lessons from a weak market

The May deal was instructive in more ways than one: demonstrating that wall crossing can greatly de-risk a bond sale in turbulent markets, and the importance that equity investors place on efficient bank capital structures. Equity markets were down on the morning of launch, but by market close BoI’s shares had jumped 10%.

“There is absolutely no doubt that it was correlated to the AT1,” says Mr McNamara. “The success of that transaction was recognised by the equity market.”

 

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