European banks explore Panda bonds for capital needs

[HONG KONG] European banks are actively exploring opportunities to issue subordinated debt in China's domestic market, according to treasurers, lawyers and bankers.

After a global sell-off in bank capital securities in January, a growing number of European banks have begun looking for alternative sources of funding.

Last month, Dutch lender ABN AMRO priced two Tier 2 deals in Taiwan and Singapore, achieving competitive results in size and pricing versus its euro curve. The US$300m Taiwan deal was the country's first T2 bond, and drew strong demand from the island's insurance sector.

"The ABN deals showed that there is strong investor demand for subordinated debt in Asia," said Samuel Chan, executive director of bond syndicate capital markets at Standard Chartered. "European banks are exploring a range of markets and currencies and were even looking seriously at the Panda market. Nothing is imminent, but the interest was clear."

To date, there have been a number of subordinated bonds done in the offshore renminbi Dim Sum format, including T2 bonds from Societe Generale, BNP Paribas and BPCE last year, but no bank has yet opted for a Panda issue.

In most cases, issuers were taking advantage of a swap rate that gave them cheaper funding than issuing directly in their own currency, but, as the pricing arbitrage opportunities vanished, the number of Dim Sum deals has dried up.

The last subordinated Dim Sum bond came from Societe Generale in May 2015.

Although onshore yields are much lower than offshore rates, the additional costs involved mean the growing interest in Panda issues is driven more by strategic considerations than pricing.

"From a purely financial standpoint, there is no logical reason why (eurozone banks) would do a Panda. A treasurer would look at the swap rates and see that," said a senior FIG banker.

"But it's not necessarily a bad idea. It would be more of a strategic move. If you wanted to have more relationships with China and establish a business presence there, then it could be reasonable."

Panda bonds could offer a way for banks to diversify their investor base and to gain access to an additional market for regulatory capital. Subordinated Panda bonds can improve Basel III capital ratios, as long as the paper's governing law is from a European jurisdiction.

The instruments could also provide a vehicle for a bank wanting to do more business in China, or to fund an onshore subsidiary, while first-movers into the market could gain publicity and marketing advantages.

Price gap Chinese banks enjoy far lower funding costs on their subordinated debt than European banks, but bankers warn against hopes that will translate into cheaper funding for European lenders.

Pricing a Panda bond, they said, would be complicated and would need to account for a range of factors, such as the degree of implied government support and investor interest.

Chinese investors appear unconcerned by write-down and equity-conversion risks on capital securities from the country's state-owned banks, but are not accustomed to buying loss-absorbing bonds from foreign issuers. Bankers say this will demand a sizable spread, while swap costs are likely to eliminate any pricing advantages.

A lack of pricing benefits and cumbersome issues around the repatriation of proceeds would normally put off most treasurers, but European banks nevertheless appear to be keeping a close eye on the Panda market, and China has shown it is open-minded when it comes to developing its bond markets. "There are currently no published rules regarding issuance of a Panda by a foreign bank, and in a way that leaves open the flexibility of issuance with the requisite regulatory approval,"said Connie Heng, a partner at Clifford Chance, who has worked on a number of renminbi capital markets deals.

"The regulators are focused on creating an onshore bond market and appear to be open to different types of issuers and innovative products. That signals their forward-thinking attitude to create not just a market for senior debt, which is a positive sign."

REUTERS