New CBA hybrid launched paying 2.84% pa, about 0.15% pa more than market

Christopher Joye

Coolabah Capital

CBA has launched a new investment-grade hybrid (ASX: CBAPK) to replace the maturing $1.64 billion CBAPF security, the latter of which will be repaid on 31 March 2021. CBAPK proposes to pay a fully franked distribution of 2.75% pa (or 275 basis points) above the quarterly bank bill swap rate (BBSW), which equates to a total running yield of about ~2.84% pa. This is about 5bps more than ANZ paid on an almost identical hybrid a couple of weeks ago, which is a nice concession for CBA to market in recognition of the elevated financial market volatility.

As the RBA cash rate climbs over time, the bank bill swap rate or BBSW rises in lock-step, which would translate into a a superior running yield. For example, if the RBA increases its cash rate from 0.1% to 1.0% over the next year or two---and assuming BBSW trades at about 0.1% above the cash rate---CBAPK holders would expect a total quarterly distribution annualising at about 3.85% pa (ie, 275bps above the new 110bps BBSW rate).

CBA will likely issue about ~$1.5-$1.7bn to replace the $1.64 billion CBAPF security, with at least $800 million of this coming from existing holders of CBAPF, who are allowed to roll, or switch, into the new deal. 

Given the impressive success of ANZ's recent hybrid (ASX: ANZPJ), which attracted more than $2.3 billion in investor demand, including large switches/rolls from the existing ANZPE hybrid that it replaced, it is reasonable to assume that the more attractive 2.75% pa margin CBA is offering on CBAK will secure similarly strong---if not even greater---demand.

CBAPK has an expected call, or repayment, date of 7.2 years from the date of its listing on the ASX on 1 April. As noted above, although this is only 0.25 years longer than ANZ's new hybrid, ANZPJ, CBA has generously offered-up an extra 5bps (or 0.05% pa) in income distribution. 

I've said this before, and it bears repeating: CBA is probably the smartest bond issuer we come across globally, and its treasury team is exceptionally well-led by the likes of Terry Winder, and offsiders such as Fergus Blackstock and Todd Henniker.

But the real question for investors is whether this new CBA hybrid is still cheap given recent market moves...

Our models had fair-value for a 7.2 year major bank hybrid at around a 2.60% (or 260bps) margin above BBSW, so the proposed 2.75% pa margin represents a 15bps uplift over this benchmark (see chart below). In our view, CBA has the lowest credit risk of the four majors, which are among the best capitalised banks globally. S&P technically rates major bank hybrids at the "investment-grade", BBB- threshold, and we have been forecasting for a while that they will be upgraded one notch higher to BBB flat.

Proximate hybrids on the curve likewise imply that CBAPK appears comparatively cheap. Specifically:

  • The ANZPI hybrid is 1.2yrs shorter than CBAPK and is currently trading on a 240bps margin above the swap rate. Since the start of the year it has traded between 235-250bps.
  • WBCPK is the longest hybrid (3 months longer than CBAPK) and the most recent issue prior to ANZPJ. It is currently trading at a mid of 250bps and has has been trading between 242-256bps this year.
  • Significantly, both ANZPI and WBCPK trade tight on the ASX hybrid curve. NABPH (1.5 years shorter than CBAPK) is the widest major bank line at 250bps. This has historically traded wide of the curve, exchanging hands at between 240-262bps this year.

Having said all of that, current 5-year major bank hybrid spreads are somewhat tight of historical post-GFC trading ranges, although they are within the normal range when evaluated as a multiple of 5-year senior bond spreads.

Note that ANZ only printed $1.28 billion via its new ANZPJ hybrid, which is actually less than the $1.61 billion size of the ANZPE security it refinanced. And given the ANZ captured about $800 million in switches from ANZPE to ANZPJ, we will see ANZ repay investors roughly $800 million in net cash on 24 March 2021 when ANZPE matures. And that cash will want to find a home, a fair bit of which should bleed back into the ASX hybrid market.

There are a few other interesting developments with the CBAPK deal. As a result of the implementation of ASIC's new Design & Distribution Obligation laws, this 2.84% pa hybrid is only available to:

  • wholesale/sophisticated investors, or
  • retail investors who have received personal advice from their financial planner.

There will also be no general offer to CBA securityholders.

We are also forecasting that the major banks will shift some of their future supply to the institutional unlisted over-the-counter market, as NAB has repeatedly done.

If non-advised retail investors want to buy CBAPK, they will either have to wait until it lists on the ASX, or allocate indirectly via an exchange-traded fund that can buy the deal in primary.

In the bank capital structure, hybrids rank ahead of ordinary shares but below Tier 2 bonds. In March 2020, the Solactive major bank hybrid index fell about 4.7%. While this was more than government bonds, it was substantially less than so-called high-yield bonds, which fell 13.5%, and bank equities, which declined 25%-35%.

Hybrids have many risks, including the risk of being automatically converted into CBA's ordinary shares or written-off, and you should read the PDS and consult an adviser to better understand these issues.

Investment Disclaimer Past performance does not assure future returns. All investments carry risks, including that the value of investments may vary, future returns may differ from past returns, and that your capital is not guaranteed. This information has been prepared by Coolabah Capital Investments Pty Ltd (ACN 153 327 872). It is general information only and is not intended to provide you with financial advice. You should not rely on any information herein in making any investment decisions. To the extent permitted by law, no liability is accepted for any loss or damage as a result of any reliance on this information. The Product Disclosure Statement (PDS) for the funds should be considered before deciding whether to acquire or hold units in it. A PDS for these products can be obtained by visiting Neither Coolabah Capital Investments Pty Ltd, EQT Responsible Entity Services Ltd (ACN 101 103 011), Equity Trustees Ltd (ACN 004 031 298) nor their respective shareholders, directors and associated businesses assume any liability to investors in connection with any investment in the funds, or guarantees the performance of any obligations to investors, the performance of the funds or any particular rate of return. The repayment of capital is not guaranteed. Investments in the funds are not deposits or liabilities of any of the above-mentioned parties, nor of any Authorised Deposit-taking Institution. The funds are subject to investment risks, which could include delays in repayment and/or loss of income and capital invested. Past performance is not an indicator of nor assures any future returns or risks. Coolabah Capital Institutional Investments Pty Ltd holds Australian Financial Services Licence No. 482238 and is an authorised representative #001277030 of EQT Responsible Entity Services Ltd that holds Australian Financial Services Licence No. 223271. Equity Trustees Ltd that holds Australian Financial Services Licence No. 240975. Forward-Looking Disclaimer This presentation contains some forward-looking information. These statements are not guarantees of future performance and undue reliance should not be placed on them. Such forward-looking statements necessarily involve known and unknown risks and uncertainties, which may cause actual performance and financial results in future periods to differ materially from any projections of future performance or result expressed or implied by such forward-looking statements. Although forward-looking statements contained in this presentation are based upon what Coolabah Capital Investments Pty Ltd believes are reasonable assumptions, there can be no assurance that forward-looking statements will prove to be accurate, as actual results and future events could differ materially from those anticipated in such statements. Coolabah Capital Investments Pty Ltd undertakes no obligation to update forward-looking statements if circumstances or management’s estimates or opinions should change except as required by applicable securities laws. The reader is cautioned not to place undue reliance on forward-looking statements.

Christopher Joye
Portfolio Manager & Chief Investment Officer
Coolabah Capital

Chris co-founded Coolabah in 2011, which today runs over $8 billion with a team of 26 executives focussed on generating credit alpha from mispricings across fixed-income markets. In 2019, Chris was selected as one of FE fundinfo’s Top 10 “Alpha...

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