December 23, 2016 / 11:41 AM / a year ago

Failed BMPS capital raise leaves bondholders facing losses

LONDON, Dec 23 (IFR) - Banca Monte dei Paschi bonds barely moved on Friday morning after the bank confirmed that its efforts to fill a 5bn capital hole via a private-sector solution had failed.

Within minutes of a late-night Cabinet meeting ending, the country’s third largest lender issued a statement saying it would formally request state aid, opening the way for possibly the biggest Italian bank nationalisation in decades.

Some of the bank’s subordinated debt had plummeted to record lows in recent days as hopes around the recap plan faded. Under European Union state aid rules, banks with a capital shortfall have to bail-in equity and subordinated debt before resorting to public recapitalisations.

Two Tier 2 bonds - 5% Apr 2020s and 5.6% Sept 2020s - had slipped to cash prices in the mid 40s, where they were bid on Friday morning. A 3.625% senior bond due April 2019 was also unmoved at a yield of around 5.5%, having jumped to 6.5% earlier this month. Senior bondholders are not subject to bail in.

Though full details of the rescue plan have yet to emerge, the government said in a statement that the bank’s Tier 1 bonds will be exchanged into shares at 75% of their nominal value and Tier 2 bonds, held mostly be retail, at par.

To further insulate retail investors from losses, Monte dei Paschi will offer to swap the shares they end up with as a result of the forced conversion with regular, or senior, bonds and sell the same shares to the state instead, Reuters reported.

“The terms of the conversion are disappointing,” said BNP Paribas analysts.

“Tier 1s will get a high recovery of 75c, which will dilute higher parts of the capital structure. There is no differentiation between voluntary participants in the liability management and holdouts, which sends the wrong signal for future interventions,” they added.

“There will be little incentive for holders of subordinated debt to participate in future distressed exchanges, which will make the need public support more likely.”

As a result of the recapitalisation, credit default swaps referencing subordinated debt are expected to trigger under a government intervention clause that was included in new 2014 definitions.

Five-year subordinated protection under the new definitions was trading at 50%/55% upfront on Friday, indicating high likelihood of a payout.

“The market seems convinced that this is a government intervention credit event and we highly doubt that there will be any 2014 subordinated contracts outstanding in a month’s time,” said an investor at one European credit hedge fund.

Subordinated CDS contracts trading under old 2003 definitions, which do not include government intervention as a credit event, were seen at just 10%/15% upfront, suggesting that they will not pay out.

With senior debt unlikely to be touched by the recapitalisation plan, CDS was 380bp/420bp.

Market participants expect a question regarding a BMPS credit event to be submitted to ISDA’s Credit Determinations Committee in the coming days. The panel of 10 buyside and five sellside members will then meet to determine whether the recapitalisation constitutes a credit event that would trigger an auction to determine payouts on CDS contracts.

More than US$9bn gross notional of CDS is outstanding on the issuer, according to data from the Depository Trust and Clearing Corporation. When netted down, that equates to just US$238m across senior and subordinated contracts combined.

Reporting by Alice Gledhill and Helen Bartholomew; Editing by Sudip Roy

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