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Financials Credit Analyst

Hank Calenti, CFA

CreditContinuum

Credit

<a href="https://www.smartkarma.com/entities/hsbc-holdings-plc-a723bd63-0890-486f-aaa0-3bb9ad2b95ce" target="_blank" data-smartkarma-citation="entities:21976:1" rel="noopener">HSBC Holdings' (HSBA LN)</a> newly issued Additional Tier 1 (AT1) bond is not worth chasing. HSBC remains adrift and a strategic reset in February could have an outsized impact on longer dated notes. We see better risk adjusted returns in lower duration securities of the issuer.HCBC’s 4.6% coupon 2030 first call AT1 bond priced in-line with similarly long-duration AT1 notes. The market’s preference for duration aided in generating attractive pricing for the issuer. Priced at 10-year Treasuries plus 365 basis points, we see little upside and plenty of market-driven downside at this level. Only <a href="https://www.smartkarma.com/entities/bnp-paribas" target="_blank" data-smartkarma-citation="entities:525:1" rel="noopener">BNP Paribas' (BNP FP)</a> 4.5% coupon 2030 first call AT1 priced at a tighter spread in 10-year AT1 paper this year and BNP’s market timing was perfect.This issuance also suggests to us a sooner than expected restart of stock buybacks. To limit capital leverage, HSBC Holding’s UK regulator generally does not allow banks to issue AT1 while the firm is buying stock in the open market. Stock buybacks can deplete capital buffers faster than regular dividends and, therefore, are not AT1 investor friendly.  Taken together, a flat yield curve combined with<ul><li><ul>
<li>overpriced risk relative to ratings,</li>
<li>spreads that are tight to similar maturity senior bonds</li>
<li>capital buffers that are in-line with peers but driven by high conversion trigger levels that are not priced-in, and</li>
<li>underpriced credit default risk at the long end</li>
</ul></li></ul>leads us to conclude that the newly issued AT1 note has limited upside relative to its shorter duration cohorts.Finally, investor preference for long-duration assets in the low yield environment appears to be having a large impact on valuations. Chasing spread at this point in the cycle can be dangerous. Given better risk / return opportunities on other parts of the credit continuum, we do not recommend chasing HSBC’s new AT1 bond.

HSBC Holdings' (HSBA LN) newly issued Additional Tier 1 (AT1) bond is not worth chasing. HSBC remains adrift and a strategic reset in February could have an outsized impact on longer dated notes. We see better risk adjusted returns in lower duration securities of the issuer.HCBC’s 4.6% coupon 2030 first call AT1 bond priced in-line with similarly long-duration AT1 notes. The market’s preference for duration aided in generating attractive pricing for the issuer. Priced at 10-year Treasuries plus 365 basis points, we see little upside and plenty of market-driven downside at this level. Only BNP Paribas' (BNP FP) 4.5% coupon 2030 first call AT1 priced at a tighter spread in 10-year AT1 paper this year and BNP’s market timing was perfect.This issuance also suggests to us a sooner than expected restart of stock buybacks. To limit capital leverage, HSBC Holding’s UK regulator generally does not allow banks to issue AT1 while the firm is buying stock in the open market. Stock buybacks can deplete capital buffers faster than regular dividends and, therefore, are not AT1 investor friendly.  Taken together, a flat yield curve combined with
overpriced risk relative to ratings,
spreads that are tight to similar maturity senior bonds
capital buffers that are in-line with peers but driven by high conversion trigger levels that are not priced-in, and
underpriced credit default risk at the long end
leads us to conclude that the newly issued AT1 note has limited upside relative to its shorter duration cohorts.Finally, investor preference for long-duration assets in the low yield environment appears to be having a large impact on valuations. Chasing spread at this point in the cycle can be dangerous. Given better risk / return opportunities on other parts of the credit continuum, we do not recommend chasing HSBC’s new AT1 bond.

HSBC Holdings

HSBC’s New AT1: Not Worth Chasing