REFILE - BHH lands first bank SLB, but MREL questions remain
Berlin Hyp broke new ground with the first sustainability-linked bond from a financial institution, a €500m senior preferred that suggested investor acceptance of the structure, but bankers said key regulatory questions must still be answered if the product is to be widely adopted by banks.
The German lender on Tuesday neatly imported the SLB product pioneered by corporates into the FIG space, hitting the market after holding investor calls on Monday.
Unlike the use-of-proceeds sustainable bonds commonly issued by banks and insurers, SLBs – also known as KPI-linked bonds – are not used to finance a specific pool of assets. Instead, corporate SLBs have typically featured penalty clauses such as coupon step-ups that are triggered if the issuer fails to meet ESG-related KPI targets.
Berlin Hyp's deal follows that example, with a 25bp coupon step-up enacted at the last coupon if the bank does not reduce the carbon intensity of its loan portfolio by 40% between 2020 and 2030.
Leads Credit Agricole, Commerzbank, DZ Bank, HSBC and LBBW marketed the €500m (no-grow) 10-year transaction with initial price thoughts of mid-swaps plus 50bp area.
Guidance was set at 35bp-40bp (WPIR) on the back of more than €985m of orders (including €133m JLM interest). The deal was later priced at the tight end of the range, with the final book standing above €790m (including the €133m JLM orders).
"Probably the most important aspect of this is the investor feedback and engagement.... and the acceptance of the structure, the KPIs and the targets," said a DCM banker at one of the leads. "From that perspective, there was positive feedback and acceptance of what Berlin Hyp has initiated here."
The lead banker said it reflected positively on investors' perception of the structure that all the accounts which took one-on-one calls with the issuer were present in the order book. The book was underpinned by a strong domestic bid but also contained sizeable orders from outside Germany, he said.
"[Investors] have welcomed the fact that financials are now also looking at this structure, in addition to use-of-proceeds bonds, for which many banks and insurance companies have frameworks in place," he added. "This is an important further step and a new tool in [financials'] toolkit."
Fair value for the the new issue was seen in the low to mid 30s. Bankers said the deal's tight outright spread meant it was difficult to discern whether Berlin Hyp derived any pricing benefit from the deal's SLB structure.
"We're printing at 35bp which is clearly way inside where all the [10-year] Double A rated opco senior or senior preferreds are trading," said a syndicate banker at one of the leads. "I don’t think we would have reached 35bp if it wasn't for the SLB element here.
"We have orders here that we would normally not see on the same transaction [if it was] conventional."
Berlin Hyp is a leading issuer and innovator in the ESG space with 13 green bonds under its belt - including the first ever green covered bond, sold in 2015 - and was particularly well positioned to pioneer the first bank SLB.
The bank has over recent years collected granular data on the energy performance of its lending portfolio, allowing it to set decarbonisation targets and have confidence it can reach them.
Furthermore, in 2016, Berlin Hyp introduced a 10bp discount for loans financing energy-efficient green buildings and has most recently introduced new sustainability products such as transformation/refurbishment loans.
Outstanding question
Market participants deemed the deal an important blueprint for further bank SLBs, but noted many banks do not yet have the data and KPIs needed to use it.
Bankers do not expect significant volumes of bank SLB supply until there is also clarity on how such deals can be structured to be MREL-eligible.
"It works neatly for funding, but what issuers really want to know is whether this can work and how it might work for MREL - that is the key thing," said a DCM banker away from the deal. "At the moment that is still an outstanding question."
By selecting the senior preferred format and stating the deal will not be MREL-eligible, Berlin Hyp side-stepped that question.
The German lender has ample MREL resources, but across Europe, most banks' issuance plans now centre on raising loss-absorbing senior debt to meet MREL targets. Issuance of pure funding instruments has fallen sharply as banks have met their funding needs through central bank loans and a rise in deposits.
Bankers identified the main hurdles as being rules prohibiting incentives to redeem or changes of interest based on the issuer's credit standing, or any structural features that might accelerate payment or compromise bonds' loss absorbing capacity.
"What [Berlin Hyp's] deal will do is provide a good trigger for the SRB to opine on how this instrument should be treated, and there's certainly a good case that [SLBs] could be MREL-eligible," said the lead banker.