Institute for Financial Transparency

Shining a light on the opaque corners of finance


As predicted, bank contingent convertible debt toxic

Since contingent convertible debt, aka CoCo bonds, was first discussed, I have said stay away from it.

What is contingent convertible debt?  It is debt issued by banks that “converts” to equity to absorb losses.

THE problem with this debt is there is no way for an investor to assess opaque bank balance sheets to determine the true level of dud assets and therefore potential losses the bank has.  So buying this debt is blindly gambling.

Apparently so-called sophisticated investors are waking up to this fact.  A Bloomberg article observed,

It’s a high-yield investment with a hand grenade attached. A security carried gingerly with the hope that it won’t explode, leaving investors in a hole. Welcome to a class of securities that’s all the rage in Europe: contingent convertibles, also known as CoCo bonds. A cross between a bond and a stock, a new type of CoCo is helping banks bolster capital to meet tougher regulation designed to prevent a repeat of the taxpayer bailouts of the financial crisis. Many investors are skeptical that the extra yield they offer really reflects the dangers…..

The banks themselves are opaque, definitions of capital vary from bond to bond, and the distance between a bank’s current position and the moment disaster will strike is almost impossible to calculate.