UniCredit AT1 wraps up H1 with market finely poised

UniCredit successfully rounded off the first half the year in European bank capital on 30 June, issuing a €750m perpetual non-call seven Additional Tier 1 amid a pre-summer flurry of supply, with issuers still able to tap into tight levels, but investors unwilling to chase spreads tighter.

UniCredit’s latest AT1 was the first since Andrea Orcel was appointed group CEO in April, and also since management in May opted to skip coupon payments on its CASHES niche subordinated hybrid equity-linked securities.

The bank entered the market with initial price thoughts of the 4.875% area for its perpetual non-call seven euro benchmark AT1, with an expected Ba3 rating from Moody’s. A lead syndicate banker said a €2.25bn-plus book then allowed the borrower to skip guidance and set the coupon at 4.45% for a €750m size, while the final book good at re-offer was around €1.75bn.

The pricing was flat to fair value, according to Vincent Hoarau, head of FIG syndicate at Crédit Agricole CIB (CACIB), who said the issuer had chosen the timing well, coming in a relatively quiet end-of-half window and pre-empting a new strategic plan anticipated from Orcel in September.

“This was the first strategic capital market trade under the new chain of command and it was a real success in many aspects,” he said. “Firstly, the headline coupon — the issuer captured the best possible issuance window of the semester, with yields in AT1 at record tights.

“Secondly, the deal was very well received in spite of the noise and AT1 volatility triggered a month earlier by the decision to skip the coupon payments on some of its CASHES.”

Although the pricing of 4.45% was flat to fair value, the choice of a coupon 0.05% inside a standard 4.5% mark was seen as somewhat unconventional. However, the book held together at the chosen level, whereas moving to 4.375% could have led to significant drops and underperformance in the secondary market, noted Hoarau — the deal was trading slightly above par as Bank+Insurance Hybrid Capital went to press.

The Italian’s success came after Commerzbank had on 15 June sold the last euro AT1 benchmark, a €500m no-grow perpetual non-call seven trade. On the back of a peak €2.8bn-plus book, the German bank was able to tighten pricing from IPTs of the 4.875% area for its latest AT1 through guidance of 4.375%, plus or minus 12.5bp, to 4.25% on the back of more than €1.75bn of demand.

“The compression in the capital space combined with the scarcity element around the size led to very competitive pricing for Commerzbank, too,” said Hoarau (pictured below). “We are talking Germany and a solid economy with a bank showing a very positive restructuring trajectory.

“No surprise to see that pricing power was in the hands of the issuer, even if borrowing costs in the sector have reached an all-time low.”

Earlier in June, Piraeus Financial Holdings showed the extent of what was possible in the accommodating market by completing the first Greek AT1, a €600m perpetual non-call five deal rated Ca/CCC- by Moody’s and S&P. Following IPTs of 9.00%-9.25%, the landmark trade was on 9 June priced at 8.75% on the back of more than €2.15bn of orders from close to 200 accounts.

“The transaction is a testament of investor confidence in Piraeus’ credit story and in the successful execution of its strategic Sunrise plan, currently in progress,” said the bank.

Books smaller, but firmer

Although respectable, order books for the AT1s were down from their multi-billion peaks, and a similar trend was in evidence across the capital stack, through Tier 2 to senior non-preferred. No-grow €500m trades were able to attract higher coverage ratios thanks to their greater scarcity as well as simple maths, but they, too, evinced greater price sensitivity.

However, this has played into final order books being of higher quality, according to William Rabicano, director, credit trading, at CACIB, who focuses on senior non-preferred as well as insurance paper.

“The bonds have ended up in stronger hands,” he said. “We’ve seen far fewer new issue flippers involved in the more recent deals, because they are coming pretty much on the curve and there is an awareness that they aren’t immediately performing on the break.

“The supply we’ve seen has been easily absorbed,” added Rabicano. “Credit as a whole does feel broadly supported and I don’t expect to see many sellers over the next four to six weeks while there is a lack of supply over the summer months.”

He therefore expects credit spreads to remain relatively stable, particularly with them having proven near immune to recent moves in equities.

“The beta to the equity market is very low at the moment,” said Rabicano. “You can have a weak day in equities, and credit won’t be any wider, be it cash or credit indices. But on the flipside of that, when you have a strong day in equities, low beta cash isn’t really tighter, either.

“So we are sort of dislocated from equities at the moment, and I don’t see any reason why it would deviate from this pattern — certainly not in the next few weeks, anyway.”

But in the absence of credit markets being tested, the depth of demand at current valuations is hard to ascertain, said Rabicano.

The tight levels at the upper end of capital stack have helped spur interest further down the capital stack and in insurance instruments. André Bonnal, FIG syndicate at CACIB, noted that subordinated insurance Tier 2, for example, has been grinding tighter as investors have sought out the pick-up on offer.

“It’s still a sector that investors like,” he said. “If they compare it with what they can get in the rest of the FIG space or on the corporate side, you retain a good investment grade rating but you are able to get a bit more premium and a bit more spread than what you are getting out of the bank Tier 2, for example.

“And that pick-up means investors are generally comfortable taking a little bit more risk on the structural side versus, say, bank Tier 2.”

Like other sectors, insurance spreads have been supported by lower supply —subordinated insurance issuance in euros fell from around €11bn in the first half of 2020 to €7.7bn in the first half 2021.

Bank Tier 2 has also caught the eye of investors seeking a pick-up amid the tight valuations, according to Neel Shah, financials credit analyst at CACIB.

“Investors who have IG mandates but are not getting what they want in terms of yield and spread in the SNP space still can look into the Tier 2 space,” he said.

At the riskier end of the bank capital spectrum, CACIB AT1 credit trader Nigel Brady sees valuations well supported by the rates and macro backdrop.

“The sustained rally in rates caught quite a few people by surprise and that has been the biggest driver of the AT1 market,” he said. “I don’t think anybody expected us to get back down to these sorts of levels — the consensus trade was definitely higher yields — and that kept people out of the market for a long time.”

Recent AT1 supply has therefore seen good demand from real money buyers, according to Brady, but also Asian retail accounts that would normally be expected to be seen in US dollar instruments.

In spite of the demand for AT1 and its apparent performance, the sector has underperformed.

“You see quite a strong flattening across the AT1 market, but that’s actually been yield driven,” said Brady. “It’s basically all baked in from the Treasury flattening, and although credit curves are not steep, they are certainly steeper than they were early in the year.

“If anything, AT1 has underperformed, if you look at it relative to high yield, for example. So given what macro has done and what the rest of credit has done, you could well argue that it’s still cheap.”

But while investors are happy to buy on any dip, added Brady, they are unwilling to chase the market given overall valuations.

Indeed, whether macro data points will continue to remain supportive remains an open question that could find some answers after the summer slowdown. Come autumn, furlough programmes will fall away in some countries, allowing for a clearer assessment of the strength of the recovery, notably in the US, where the situation remains finely balanced.

“We had a very supportive NFP report early July,” said CACIB’s Hoarau, “a kind of Goldilocks report: not too hot, so it can further support an accommodating Fed, but strong enough to give comfort that the US economy is still recovering — even if some other data show signs of deceleration in the pace of that recovery. So for now, both the economic recovery and the liquidity situation are fuelling markets.

“But the elephant in the room is inflation.”

The Federal Reserve has thus far deemed higher inflation data transitory, but the potential for an end to the prolonged period of low inflation regimes is making investors cautious on duration, according to Hoarau. However, he expects the Fed to handle any change in stance with care.

“While it may be hard to believe that the Fed can tighten monetary policy significantly without having a strong impact on markets,” said Hoarau, “it is difficult to see this happening. The read of the last FOMC minutes suggests the Fed is not ready to taper, and so far the language around the direction of travel has been well received by the market.

“A slow and gradual unwind of purchases later in the year seems to be the consensus scenario and it does not look like this will surprise anyone.”