European regulators ‘unlikely’ to follow Australia’s lead over AT1 bonds: Fitch

The move by Australia to phase out the bonds may reflect the unusually high level of retail investor holdings of AT1 instruments in the country, Fitch Ratings said.

September 23, 2024

Fitch Ratings (Fitch) has said that it thinks it is “unlikely” that the European market will follow Australia in the near term over phasing out Additional Tier 1 (AT1) capital instruments, according to a note dated September 20.

The European Banking Authority seems "more focused on ensuring suitable consistency across instruments with similar loss-absorbency features", to “improve transparency about their role and reduce the risk of market confusion about the trigger mechanisms”, the note said.  

The note comes after the Australian Prudential Regulation Authority (APRA) oulined proposals to phase the bonds out by January 1, 2027, according to a discussion paper released on September 10. The Australian move represents one of the “most radical actions so far, and may in part reflect the unusually high level of retail investor holdings of AT1 instruments in the country”, Fitch said.  

Fitch added that the European Central Bank has given its opinion that only profitable banks should be able to pay AT1 coupons, and that the automatic 5.125% common equity tier 1 (CET1) trigger should be removed, or at least raised above the point of non-viability. AT1s made up about 10% of large European banks’ capital stacks at the end of June 2023, similar to the level in Australia and among Group 1 banks -- more generally under the Basel III framework

Amid muliplie ongoing lawsuits connected to the collapse of Credit Suisse and its failure to payout AT1 bondholders last year, many global bank regulators have called for reforms to AT1 capital instruments, but there does not yet appear to be a consensus on the approach to adopt, Fitch said. In the near term, Fitch believes few regulators "are likely to follow" the Australian authorities’ unilateral proposal to scrap the instruments, unless the Basel Committee issues a recommendation.

Other governments and regulator have also suggested phasing AT1s out in recent years - including the Dutch Finance Ministry and the UK Prudential Regulatory Authority (PRA) - although concrete discontinuation proposals have yet to emerge.

Fitch said that it believes PRA CEO Sam Woods was likely to be testing the market when he spoke in 2022 about radically simplifying the regime, rather than indicating a firm intent.

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