Hybrid call decisions become more nuanced

The market had already been guided to the possibility that Santander’s upcoming March call (of the EUR 1.5bn 6.25% perpetual non-call five AT1s that originally settled on March 12, 2014) may not be exercised. Santander has until a month prior to the call date to inform investors so could still make the March call, but the yield-to-call reported by market participants suggests this is an unlikely eventuality.

Santander’s call/no call decision has nonetheless fed into constant market chatter about whether AT1s are perpetual securities or not; some even suggesting that issuers have some sort of moral obligation to redeem them at call dates since this is how some investors have priced them. However, the language around calls is clear. Issuers have no such obligation. This was a key change under CRD IV to improve the quality of banks’ capital positions.

“The market should not assume that all AT1 securities will be redeemed on their call dates,” said Pauline Lambert, executive director in the financial institutions rating team of Scope Ratings. “In an environment with greater market volatility and wider credit spreads, subordinated debt levels have materially repriced bringing the issue of funding economics to the fore.”

“It is also important to bear in mind that calls have to be approved by regulators and one of their criteria is whether the securities can be replaced at a sustainable cost considering the bank’s income capacity. As issuing AT1s has become more expensive, this could become a more relevant consideration.”

If, in the current environment, banks are likely to have to pay up significantly to refinance, they presumably have some duty of care to stakeholders to choose instead to extend the life of outstanding securities beyond call dates at attractive reset spreads. Rather than short-termism or opportunism; it’s more a case of capital planning.

Santander has a series of AT1s outstanding. Beyond the March call, it has a May call for a US dollar issue and a euro AT1 call curve running through 2021, 2022, 2023 and 2025. The group expects to be back in the market this year, subject to market conditions and other considerations, with EUR 1.5bn of new issuance planned.

Whatever it decides to do, Santander is unlikely to be an outlier as AT1 issuers review the options open to them and act accordingly. “One thing is certain: as call decisions become more nuanced, investors will need to be comfortable with issuer fundamentals or at least be appropriately compensated for the risks taken,” Lambert said.