Rabobank’s record AT1 sets new benchmark
The successful AT1 deal by Rabobank proved that its recent strategy of focusing on efficiency and digitisation was the right call, as David Wigan reports.
In a tough environment for European financial institutions, Utrecht-based Rabobank is showing that a disciplined approach and a focus on efficiency and digitisation can pay dividends. The bank reported lower net profits in the first half of 2019, mainly due to a rise in impairments, but investors cheered the co-operative bank’s long-term strategy and continued success in cutting costs.
That positive sentiment hit home in September, when the bank printed the lowest ever coupon in the euro additional Tier 1 (AT1) market, borrowing €1.25bn amid exceptional levels of demand.
Leaner and smarter
Rabobank, one of the world’s leading lenders in the food and agriculture industries, has focused on creating a leaner, smarter operating model in the Netherlands in recent years, one which caters to customers’ changing needs and new opportunities arising from open banking. In the first half of 2019, it became the first bank in the Netherlands to extend application programming interface connections to third parties, offering account aggregation and payments services, and it launched a new funding platform for small and medium-sized enterprises. Over the past six months, it reduced its cost-to-income ratio by 1.5 percentage points to 64.4% and maintained its net interest margin at 1.4%.
“In a low interest rate environment, our focus has been to maintain healthy margins on our lending portfolio, continue to build out capital ratios, concentrate on our core activities and diversify our funding,” says Mirjam Bos, head of investor relations and rating agencies at Rabobank. “I am pleased to say we are making progress across all of these metrics.”
Rabobank is one of Europe’s best-capitalised banks, with a core equity Tier 1 ratio of 15.8%. Its A+/A-1 Standard & Poor’s credit rating reflects a generally positive outlook for the Dutch economy, notwithstanding very high levels of personal indebtedness connected with the housing market. In recent years the bank has taken steps to reduce its reliance on wholesale funding markets, bringing down its total outstanding wholesale debt to €150bn, from more than €200bn in 2015.
Extra protection
In the wake of the 2008 financial crisis, regulators have incrementally ramped up bank capital requirements, and in particular so-called ‘going concern capital’, to provide additional protection for depositors. Going concern capital can be written down to absorb losses, protecting the taxpayer while allowing the bank to continue operations.
AT1s were introduced as a new type of deeply subordinated debt to replace old-style Tier 1s, which did not explicitly contain loss-absorbing language. European regulators require a minimum 1.5% of capital to be held in AT1s. The bonds, which contain triggers for capital writedowns and conversion to equity, are callable after a minimum of five years, and only with the permission of the regulator.
“We target a roughly 2% AT1 ratio, a little above the minimum, and as of June 2019 we were right around that percentage,” says Isabel Rijpkema, Rabobank’s global head of long-term funding and capital. “We have a potential call upcoming in June 2020 and to have full flexibility and continuously meet our minimum requirements we decided to issue AT1 comfortably in time if and when markets were there.” The bond that may be called, issued in January 2015, has a coupon of 5.5%.
No roadshow
Rabobank’s treasury team started monitoring the AT1 market in August with a view to launching a €1bn benchmark transaction. It appointed Credit Suisse, Goldman Sachs, JPMorgan, Morgan Stanley and Rabobank as joint leads for an issue. Rabobank's investor relations and treasury teams conducts about 500 meetings with investors over the course of a year, and has a strong record in the AT1 market, so did not require a specific deal roadshow. In general, the AT1 investor base is slightly more institutional in Europe than in Asia, where retail accounts are big buyers. However, Rabobank was happy to connect with investors from around the world.
“We opened the book with initial price talk at 3.625% early in the European day on September 2 and we were pleased to see strong appetite out of Asia,” says Ger Buls, senior long-term funding and capital manager at Rabobank. “We also had a lot of interest from European accounts and the book quickly grew to about €2bn.”
As orders flowed in, the book swelled to about €4bn and leads on the deal decided to tighten pricing to 3.25%, a record low coupon for an AT1 transaction. Even at that level, very few orders dropped out. “The heartening thing was that the very high-quality real money stayed in and with the confidence that gave us we upsized the deal to €1.25bn,” says Mr Buls. “In the end, we were able to print the largest AT1 in 2019 and attract the second largest order book, with 270 investors."
In a market that just a couple of years ago habitually printed at 6% or 7%, Rabobank’s deal is testament to investors’ search for yield in the current interest rate environment. Equally, however, it reflects the value of strong credit and a solid strategy in fast-changing markets.
