Bail-in premium measured on hybrids
The market value for a "bail in risk premium" is "in the order of 200 to 300 basis points, relative to bank senior debt," a couple of analysts have concluded in a paper presented at a conference on financial stability last week. Kevin Davis from the Australian Centre for Financial Studies and Michael Saba from Evans and Partners produced an estimate on the average BIRP as at early 2016.Davis and Saba analysed 30 issues of "bail-in securities", worth A$30.4 billion, listed on the ASX by ten different issuers, with largest issues by the four major banks. Almost all issues distribute tax credits with cash distributions, making them relatively unattractive for foreign investors."Since 'bail-in' is a new type of risk associated with such securities," and in turn a function of post GFC regulatory form, the analysts argue "it could be expected that there would be a bail-in risk premium, reflecting conversion risk, associated with the pricing of these securities."Australian banks are required to meet capital adequacy requirements that from January 2016 include a minimum ratio (to risk weighted assets) of 4.5 per cent (which has applied from January 1, 2013), and a capital conservation buffer of 2.5 per cent. The four major banks designated as D-SIBs must add an additional one per cent, giving them a total CET1 minimum ratio of eight per cent.The extent of any BIRP "would depend upon the structure of the securities, including the likelihood of bail-in and the extent to which bail-in imposes losses upon holders of the securities which would not be incurred by holders of otherwise equivalent (non-bail-in) securities," the analysts said. "If a BIRP exists it should be reflected in the required rates of return of investors and thus in yields specified at issuance and subsequently observed in secondary market trading."Davis and Saba compared pricing of bail-in securities at issuance relative to other bank liabilities and attempted to examine whether there are differences in the BIRP between retail and wholesale markets for bail-in securities.