Wall Street’s institutional memory is now officially shorter than that of an HFT algo.
Exactly half a year after countless investors were obliterated when the forced bail-in of now-defunct Swiss giant Credit Suisse by UBS inverted the recovery waterfall, and wiped out AT1 bondholders while still preserving (fractional) equity value to avoid the optics of bank failure, none other than UBS is testing if lighting can strike twice, and according to the FT is – hilariously – roadshowing to potential investors an AT1 (aka Contingent Convertible) bond of its own, despite the now legendary writedown of such bonds issued by its crosstown peer, that crushed confidence in the market and triggered a wave of lawsuits. But apparently confidence wasn’t crushed quite nearly enough, however, and now UBS is trying to see just how much dumb money is really left out there.
According to the report, UBS executives have been pitching investors after reporting blowout quarterly results last month, in which the bank earned a record $29 billion – the largest quarterly profit that any bank has ever reported and was the 2nd highest profit of any company during Q2 behind only Berkshire Hathaway – thanks to the historic transfer of “good” CS assets to UBS while Swiss taxpayers remain on the hook for the “bad” ones.
During the roadshow, the UBS team suggested changes to the terms of future additional tier 1 securities to make them more palatable to bondholders, however fundamentally the underlying security still remains the same bag of worthless horseshit come a worst case scenario, which it will. UBS has been under pressure to replace up to $17bn of Credit Suisse AT1 bonds in the coming years to improve the efficiency of the enlarged bank’s capital structure and free up funds for shareholder returns and potential acquisitions.
Not everyone is an idiot, however, and some investors are wary after bondholders lost billions of dollars during the rescue of Credit Suisse when an emergency law brought in by the Swiss government allowed the country’s financial regulator, Finma, to “protect” shareholders while wiping out AT1 holders.
Similar to the bailouts of labor unions in US automakers after the financial crisis, the decision shook up the traditional hierarchy of bank creditors and undermined confidence in AT1s, which were introduced after the financial crisis as regulators tried to shift risk away from depositors and imposed greater capital requirements on banks in case of failure.
“UBS are working frantically in the background to sort this out,” said a bond fund manager who recently met the bank’s representatives. “They need to give investors confidence that the capital structure won’t be inverted and the rules won’t be changed at the eleventh hour again.”
One option discussed is replacing UBS’s AT1 bonds, which are designed to be written down in the event the bank runs into trouble, with versions of the security that would be converted into equity.
“Equity conversion is probably better and there is more demand if you do it like that,” said another bond investor. “But we are not naive and don’t think it changes the risk.”
AT1s have no maturity date but can typically be called every five years by the issuer. Banks usually call AT1s when they are able to and reissue replacements. UBS has a S$700mn ($510mn) bond that is callable at the end of November and $2.5bn bond that is callable at the end of January.
When UBS in August reported $29bn in profit, a record quarterly figure for a bank, due to an accounting gain from the Credit Suisse takeover, chief executive Sergio Ermotti said it was weighing up when to re-enter the AT1 market.
“We are watching the market carefully,” he said. “We will assess the timing and the need of tapping the markets when appropriate.”
“They will have to make their bonds as investor-friendly as possible,” said a bond manager involved in the UBS roadshow. “They will have to pay a premium, too.”
“I think they’ll be able to get a deal done,” said another investor. “UBS is obviously an absolutely massive bank now, probably too big to fail and too big to save for the Swiss economy now, considering its size.”
Of course, he is right, and the moment he sees some whale account take down 30% or more of the offering, every Tom, Dick and Henrich managing other people’s money will call scramble to get a piece of the 10x oversubscribed action, completely oblivious that in a few years they will again be suing UBS for getting written down to zero, just as the fine print warns. Only this time Switzerland – which idiotically agreed to make UBS a bank that is far bigger than Swiss GDP ever will be – will not be bailing anyone out anymore as it too will find itself dragged down to the bottom.