Do you know what CoCo Bonds are? Jason Lau, the Managing Director of KCM Trade Australia, accurately predicted the current situation of Swiss Credit CoCo Bonds in his Master's thesis on Banking and Finance Law in 2016. So, what impact did CoCo Bonds have in the market? What are the $17 billion Swiss Credit CoCo Bonds that plummeted? Let us find out together with Jason!
CoCo bonds is a niche topic that the less experienced traders might not be aware of. However, CoCo bonds keep coming to the financial news headlines with Credit Suisse, and everytime it appears increases markets’ anxiety. As I understand, one of your law master’s thesis was about CoCo Bonds. Could you tell us more about it, especially how they differ from traditional bonds.
What is a bond? It happens when you lend money to someone and they pay you back with interest. Well, CoCo Bonds are a bit different. They’re called Contingent Convertible Bonds, and they’re like a mix between a bond and a stock which are mainly issued by banks.
Here’s the deal. When a bank issues CoCo Bonds, they promise to pay you back with interest, just like a regular bond. But if the bank starts losing money, and their capital falls below a certain level, the CoCo bonds can be converted into stocks. This means you could end up owning part of the bank instead of just getting your money back.
So far, it sounds like an ideal way to trade, right? This is why people are talking about CoCo Bonds so much lately. The Credit Suisse issued some CoCo Bonds that ended up causing some trouble. The cool thing about CoCo Bonds however, is that they can help stabilise banks in times of financial distress. In a way, they are a safety net for the banks.
Overall, CoCo Bonds are a pretty interesting financial instrument, and they are definitely something to keep an eye on if you are into trading for the long run.
It is amazing that your law degree thesis at Melbourne Uni was so predictive of the current situation with Credit Suisse’s CoCo Bonds. What inspired you to choose this topic back in 2016, and what were your conclusions at the time?
Well, back in 2016, I was studying Debt Capital Markets, and we were asked to choose a topic for a research paper. As I was learning about the causes of the Global Financial Crisis (GFC), I became interested in whether the Basel III framework, which was introduced as a response to the crisis, would create the same problems as the Basel II framework did.
That’s how I stumbled upon CoCo Bonds, which were introduced to help banks meet the Basel III requirements. My thesis explored the possibility of CoCo Bonds creating another crisis if they were not properly understood and managed.
As it turns out, the recent turmoil surrounding Credit Suisse’s CoCo Bonds has shown that there is indeed a risk associated with these instruments. In my thesis, I concluded that the conversion or write-off of CoCo Bonds could have a black swan effect that might trigger another crisis.
Who are CoCo Bonds for, and why should we be paying attention to what’s happening with Credit Suisse’s CoCo Bonds? What will happen if these bonds get converted or written off? Besides that, how would you advise traders to make smart trading choices in the upcoming months?
CoCo Bonds might seem like they are more for the big shot institutional investors, but the truth is, even day-to-day traders should keep an eye on what’s going on with Credit Suisse’s CoCo bond situation. As I wrote in my thesis, if these bonds get converted or written off, it could cause a major ruckus in two ways.
The first is, “if the bonds have a principal write-down feature, CoCo bondholders will take a hit and it could create chaos in the entire debt capital market.”
The second would be ïf the bonds convert to equity, there could be an instant increase in shares that leads to a drop in stock prices.”
For now, the debt capital market seems to be holding steady, with only Credit Suisse’s stock price taking a hit. So, the risk of another Global Financial Crisis (GFC) is relatively low at the moment. However, let’s not forget that back in 2008, it took six months for Bear Stearns to collapse Lehman Brothers going down the hill before the GFC hit us.
In short, be cautious when making trading decisions in the coming months. Don’t let yourself get caught off guard.
We are dying to know - are CoCo Bonds still a hot ticket for traders? What is your take on how CoCo Bond returns are going to perform in today’s market? Please spill the beans on the key factors traders should consider when weighing up these bad boys.
Well, CoCo Bonds used to be the apple of the fixed income investor’s eyes, thanks to their high returns. But, since the Credit Suisse debacle, the possibility of these bonds being converted or written off has shot up faster than a rocket. This has made investors take a step back and reassess the risks involved with CoCo bonds.
As a result, it is not just bond prices, but the entire banking industry’s stock prices that could be impacted. Plus, the major central banks raising interest rates since 2022, the outlook for CoCo Bond prices isn’t exactly rosy. Unless there is a dramatic shift in monetary policies compared to the past year, traders might want to think twice before bettering the farm on these bonds or the shares in the banking sector.
Before we say our goodbyes and end this chat about CoCo Bonds, are there any juicy tidbits you’d like to dish out to traders out there? And how can they keep their finger on the pulse of this exciting market?
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