NAB adds to hybrids hype

The 2013 hybrid notes season is already in full swing, with $2 billion of issuance underway.

Summary: National Australia Bank waded into the hybrids market this week with a virtually identical issue to that announced by Westpac earlier this month. Westpac also launched a $750 million plus residential mortgage-backed security issue, but it’s not open to retail investors.
Key take-out: NAB is counting on retail investor demand for hybrid notes remaining strong, and it has the advantage of rarity value among investors.
Key beneficiaries: General investors. Category: Income.

National Australia Bank announced its anticipated hybrid note issue on Wednesday, with the bank seeking to raise a minimum of $750 million and offering a coupon that will pay 3.2% to 3.4% over the 90-day bank bill rate, adjusted for franking credits.

The hybrid note issue had been anticipated since late January when the market began to buzz with rumours of two hybrid note issues being on the way.

Hybrid note issuance aimed at retail investors has made a strong start in 2013 with $2 billion plus of issuance already underway. At the same time last year, issuance was yet to start.

On February 14 last year, ANZ launched its $1.5 billion subordinated note issue and was followed two days later by Westpac, with its $1.2 billion converting preference share issue. At the time, brokers were unhappy, concerned that the market was being crowded-out and demand from retail investors may be limited.

As it turned out, they needn’t have worried.

NAB is possibly taking a similar risk now. It was only last week that Westpac upsized its capital note issue to $1.25 billion from $750 million, and set the credit spread at 3.2% over the 90-day bank bill rate, from an indicated range of 3.2% to 3.4%.

It should now be apparent that the structure of the NAB hybrid note issue is identical to the Westpac issue, and both will qualify as Additional Tier 1 Capital. Thus, there are the same provisions for deferring the non-cumulative coupon payments on the perpetual notes in need, and converting the notes into ordinary equity upon the occurrence of a “Loss Absorption Event”, as NAB is calling it.

The Loss Absorption Event is a term that covers the now mandatory Common Equity Event trigger and Non-viability Event trigger. Pulling either trigger will result in the notes being converted to ordinary equity or written-off, if the bank gets into difficulty. For more on this see (Westpac hybrid falls short of shares).

The only apparent difference between the NAB and Westpac hybrid notes issues is the names used. Westpac calls its notes “Capital Notes”, which is ASIC’s preferred terminology, while NAB has stuck with the old terminology of “Converting Preference Shares”. Nevertheless, this is only semantics.

NAB is counting on retail investor demand for hybrid notes remaining strong, but the bank has the advantage of rarity value among investors.

Apart from the National Income Securities issued in 1999, retail investors have only had the opportunity to buy the NAB subordinated notes issued last year. This stands in contrast to the multiple hybrid note issues made by the other major banks over the last decade or so.

The perpetual income securities have not had to be periodically replaced as promised redemption dates have rolled around, as is the case with hybrid note issues. However, this happy situation for NAB is fast coming to an end.

The income securities now only qualify as transitional Additional Tier 1 Capital, and from January 1 this year only 90% of the face value can be counted. The usefulness of the income securities will continue to decline by 10% per annum on a straight line basis.

However, this does not mean investors should anticipate the redemption of the income securities anytime soon. NAB’s only obligation on the income securities is to pay a deferrable coupon of 1.25% over the 90-day bank bill rate.

Thus, even if viewed as senior debt, the funds are relatively cheap for NAB, considering the debt never has to be repaid.

Separately, Westpac launched a $750 million plus residential mortgage-backed security (RMBS) issue on Monday. The senior class A notes are being marketed at just 90bps (0.9%) over the 30-day bank bill rate.

The credit spread at 90bps is being touted as the lowest achieved on such notes since the GFC and, as such, heralds a revival in the RMBS market. While it would be nice to think both claims are true, one at least is not.

NAB issued equivalent notes in May, 2011 at a spread of 85bps. As for a revival in the RMBS market, that remains to be seen.

But one way of achieving a revival would be to offer RMBS to retail investors. RMBS are currently off-limits to retail investors but would make an ideal annuity product in a retirement portfolio.

Philip Bayley is a former director of Standard & Poor’s and now works as an independent consultant to debt capital market participants. He also writes on matters concerning debt capital markets and banking for various publications and is associated with Australia Ratings.

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