Bank Financing
Subordinated security bonds, once pushed aside by hybrid bonds, have once again become the preferred financing method for banks. In fact, these bonds are expected to increase in number as the Bank for International Settlements (BIS) affiliate Basel Committee on Banking Supervision (BCBS) will enforce its settlement regulations starting in December.
According to KIS bond evaluations on September 3, the size of banks’ capital expansion through bonds has grown to 4.85 trillion won (US$4.4 billion) this year. Of that, 1.55 trillion won (US$1.41 billion) is new equity capital, and 3.3 trillion won (US$3.0 billion) is subordinate security bonds.
The securities industry expected the number of subordinate security bonds to increase with the increased request to improve the equity capital ratios of domestic financial stock holdings.
The BIS ratio of domestic banks, which was 14.3% by the end of 2012, decreased to 14.0% at the end of Q1 and 13.88% at the end of Q2.
The reason that the BIS ratio of banks dropped is that the speed of equity capital growth is slower than the increasing speed of risk-weighted assets. Domestic banks have shown a reduction in their net profits from 1.6 trillion won (US$1.45 billion) by the end of Q1 to 1 trillion won (US$909 million) in Q2. The net interest margin (NIM) has continuously dropped since 2011 to 1.88% by the end of Q2, which is the lowest since 2009. In addition, the corporate rehabilitation proceedings (legal management) of construction companies and STX Pan Ocean Company are steadily increasing bad account costs.
In fact, the Industry Bank of Korea and Korea Exchange Bank each issued 300 billion won (US$272 million) with 10 year maturity terms. Hana Bank will issue 200 billion won (US$182 million) with 10 year terms, Daegu Bank 100 billion won (US$91 million) at 10 years, and Gwangju Bank 60 billion won (US$54.5 million) at 7 years in subordinate security bonds. Also, Woori Finance Holdings Company will issue 500 billion won (US$455 million) in subordinate security bonds, while Kookmin Bank and Korea Development bank are also preparing to issue around 400 billion won (US$363 million) and 500 billion won (US$455 million) each.
What is causing banks to turn to subordinate security bonds rather than hybrid bonds?
This mainly has to do with the fact that the number of insurance companies, which are the sources of demand, has reduced drastically with the accounting management of investments in hybrid bonds changing to equity securities from debit securities. In the past, when hybrid bonds were managed as debit securities, the danger coefficient remained around 2%. However, when managed as equity securities, the coefficient jumped to 12%, becoming a burden on the RBC ratio, which is the solvency ratio for insurance companies.
KDB Daewoo Securities researcher Kim Min-jung said, “Considering that banks have recently seen a decrease in profit and felt a burden in capital expansion, along with capital reduction due to the amortization of subordinated security bonds maturing under 5 years, it is most likely for the number of subordinate security bonds being issued will continue steadily despite the burdensome financial charges.”