Suncorp Capital Notes 2 (SUNPG) – Analysis

Suncorp Group has just announced the launch of a new income offer: Suncorp Group Capital Notes 2. The first round of access is through a broker firm allocation, prior to shareholder offer and listing in November. Note: There is no Customer or General Offer

The Notes will pay a quarterly coupon of 3.65%-3.85% (rate determined by the bookbuild) over the 90 day bank bill swap rate (BBSW), which was 1.70% as of 23rd October, with an initial indicative rate of 5.35%-5.55%pa. (The first pricing is due to be set on date of issue) The Notes are expected to redeem on the 17th June 2024** and will be tradable on the ASX.

** It is expected that the issue will be repaid at the first opportunity in June 2024 with a scheduled Conversion in 2026 (subject to mandatory conditions not being breached).

Our analysis

As we highlighted in our review of the BENPG last week, 2nd tier financials and insurance groups should demand a premium over the Big 4 bank hybrids.

This year’s lack of issuance has led to spreads tightening, resulting in little differentiation between Big 4 and Second Tier financial trading margins.

We view ANZ Capital Notes 4 (ANZPG), ANZ Capital Notes 5 (ANZPH) and IAG CPS2 (IAGPD) as the closest comparables, maturing in March 2024 & 2025 and IAGPD in June 2023.

Naturally, Suncorp Group CPS2 and CPS3 should be considered, but investors should note the considerably shorter anticipated call dates in 2020/2021.

SUNPG’s margin of 3.65% over BBSW looks to be in line with its peers, but ANZPG trades at a margin of 3.6%pa with a higher running yield.

Non-viability Clause, Capital Trigger Event and Inability Event

Investors who are familiar with the new style hybrids we have seen over the last few years will be very aware of these clauses.

It is useful to understand that these clauses are as a result of APRA requiring further reassurance that in another GFC event, if required, hybrids would convert to ordinary equity, thereby reducing the bank’s debt costs and protecting deposit holders.

Now that banks have to hold a higher level of capital and a better quality loan book, it seems unlikely that any of these conditions would be breached, however, investors would do well to consider the increased disclosure and warnings within each prospectus over the last few years.

For those unfamiliar with the conditions, new hybrids now contain non-viability and capital trigger clauses that should the bank’s Tier 1 Capital Ratio fall below 5.125%, or APRA views the bank as non-viable without an injection of capital, the hybrids would automatically convert to ordinary shares.

We have also seen a gradual introduction of an Inability Event Clause added which states that in the event that the issuer is unable to issue further ordinary shares, ie the company has ceased trading, a Capital Trigger Event or Non-Viability Event, hybrid note holders lose their investment.

This is extremely unlikely, but investors would do well to remember the increase in yield offered carries additional risk.

Suncorp Group CPS (SUNPC) Reinvestment Offer

This issue is primarily to refinance SUNPC due to be repaid in November this year.

Existing SUNPC investors have three options:

  1. Sell SUNPC on market
  2. Do nothing. Surprisingly, it is still unclear whether Suncorp will redeem SUNPC. If they do not redeem or convert SUNPC, the Shares could remain on issue until Mandatory Conversion in Dec 19 (subject to Mandatory Conversion conditions)
  3. Participate in the Reinvestment Offer before the 17th November and receive 1 SUNPG Note for each SUNPC held plus $0.8185 fully franked dividend

Our view on hybrid margins

Our overall view on hybrid spreads is that they remain relatively attractive. The lack of new issuance this year has led to a net redemption of hybrids, and money returning to the secondary market, further contracting spreads.

With less pressure on the banks to raise their capital ratios, we anticipate the hybrid spreads to continue to contract.

 

Our view on Suncorp Group Capital Notes 2

Since the primary purpose of the $250 Million issue of SUNPG is to replace $564 Million of SUNPC in November, we see the likelihood of receiving an allocation for new money as slim to nil. We are certain Suncorp Capital Notes 2 will be heavily oversubscribed and close early and at the bottom of the indicative range at 3.65% over BBSW.

Our view is that investors would be better placed investing in the secondary market in alternatives such as ANZPG which currently offers a similar margin to maturity, a higher running yield and greater security.

That aside, we are in no doubt, that the lack of Big 4 alternatives will lead to this initially trading at par/small premium before eventually settling at a wider margin than its relative peers.

Contact us if you have an existing investment in SUNPC and would like to roll into the new issue.

Key features

  • Indicative floating yield of 5.35%-5.55%pa – based on current 90 BBSW of 1.70% and bookbuild margin range of 3.65%-3.85%.
  • Option to redeem at year 6.5 with scheduled conversion at year 8.5 – Suncorp Group has the option to convert in June 2024 or on any subsequent dividend payment date.
  • Ordinary dividend restrictions – applies on the non-payment of SUNPG dividends
  • Automatic conversion under the Capital Trigger Event and Non-Viability
  • Redemption highly likely in 6.5 years – although SUNPG has a 8.5 year maturity, we view it likely that Suncorp Group will redeem/convert at the first call date in June 2024. Major incentives for redemption/conversion include the potential for reputational damage and risk of credit rating downgrade, leading to an increased cost of funding on future debt issues.

Note: Suncorp Capital Notes 2 will be listed on the ASX and as such the price of the Note’s will be subject to market movements. Investors selling on market may receive a price lower (or higher) than the issue price.

Investors looking for an allocation can contact us on 1300 559 869

We encourage you to view our online presentation An Introduction to Fixed Income

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