Ad Hoc Rules For In-Hock Banks In The U.K.

If stabilising bank finance is important, how near are we to restoration of stable regulatory conditions ? Last week revealed some of the reality of the current vogue for micro-management by European regulators, in ways that are affecting holders of bank bonds, preference shares and other ‘hybrids’ or forms of subordinated debt.

First the really basic stuff - payment of coupons. Northern Crock had already ‘deferred’ some coupon payments (in order to conserve capital), but that wasn’t technically default, it was because the Crock actually doesn’t have sufficient funds (the wonders of Brown’s bail-out) and the bonds in question were subordinate.

But there was a sudden flurry when KBC, a bailed-out Belgian institution, stated that the EU was ‘pressuring it’ not to honour some of its coupons - even though they were able to, and in the event actually did, notwithstanding the ‘pressure’. What’s to be the next development on this front, I wonder ?

Then, the FSA instructed Royal Bank of Scotland (RBS.L) and Lloyds (LLOY.L) not to redeem some of their bonds on the usual date. Again, this isn’t default, but it’s not what bond holders have come to expect after many years of custom and practice. It may give rise to some (modest) cash flow issues and adds to the overall levels of confusion and financial friction (though it’s fair to note that some recent buyers of hybrids may be the adventurous type anyway).

There are of course many who advocate equity-for-debt swaps but the crisis has been rolling for two years now and that strategy hasn’t been formally instituted. Not all bond-holders are going to enjoy an ad hoc regime of will-they, won’t they? In consequence, credit ratings on hybrids issued by banks like RBS have been downgraded and yields - which had been slowly creeping down in the right direction - have once more shot up to around 16%. We’ve looked at RBS prefs before (when yields exceeded 30%) and here’s the latest chart.

With base rate at almost zero, 16% is what the market thinks of nationalised UK banks’ subordinated debt in these supposedly improving conditions. Does any of this help the UK government unload its unwanted bank shares? There’s a long way to go before it’s business-as-usual in the banking sector.

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