Investor demand returns for hybrids

Westpac was rewarded for having increased the credit margin on its impending Capital Notes 3 issue, with a bookbuild last Wednesday that saw A$1.25 billion of orders accepted against an issue size, at launch, of $750 million. The credit margin was set at 400 basis points - the low end of the 400 bps to 420 bps indicative range.



Nevertheless, a credit margin of 400 bps does not seem like much compensation for investors in the notes, which have a March 2021 call date. And given the lingering weakness in hybrid security prices, one wonders where the demand has come from and what impact this larger than expected volume of new supply will have on hybrid prices over the next few months.



The day before the bookbuild, ANZ's Capital Notes, which have a September 2021 call date, had a trading margin of 420 bps. This is the closest comparable issue in the market.



Moreover, weakness was being seen in the prices of other bank hybrid issues. The prospect of more supply coming to the market was exerting downward pressure.   



However, optimism (perhaps driven by a rebound in listed debt security prices from the end of June) appears to be the catalyst for strong demand for Westpac's notes.



Listed bonds produced annualised returns of around 12 per cent in July. This is a significant rebound from the annualised loss of eight per cent in June.

But while the senior and subordinated sub-indices are showing positive returns since commencement at the end of February, the hybrid sub-index continues to show a loss. Prices for listed hybrid notes peaked at the end of March and steadily declined to the end of June.

Clearly, there has been a re-evaluation of the risk-return profile of hybrid securities that only saw investor demand return to the market in July, as prices reached levels that offered fair value.  Whether hybrid note prices will continue to increase from here remains to be seen.



ANZ's announcement of a $3 billion equity raising on Thursday could provide some support for hybrid prices, as risk is reduced for ANZ hybrid investors.