Write-off becomes choice format for Asian capital bonds

* Banks avoid equity conversion clauses in new sub bonds

* Investors ignore risks of bail-in features

* Structure saves legal hassle for banks

By Christopher Langner

SINGAPORE, Sept 6 (IFR) - Asian banks will continue to opt for the simple but risky structure of a full write-off over equity conversion on capital eligible subordinated instruments, leaving investors in the region exposed to higher risks.

On Monday, Industrial and Commercial Bank of China (Asia) (A2/A), announced it is hitting the road on a non-deal roadshow.

Bankers said the Hong Kong subsidiary of the Chinese lender is sounding out the possibility of issuing a dollar-denominated Tier 2 bank capital bond. If it does, this will be the first out of Asia compliant with Basel III standards to be publicly sold in US dollars.

ICBC (Asia) has few options in terms of structure. Like many banks in the region, it does not have listed stock, so equity conversion is off the table.

This leaves a permanent write-off - an instrument that will be written down to zero if the bank's capital drops below a pre-determined point - as the only option.

All of the Basel III compliant bonds printed in Asia so far had this feature instead of a conversion to equity.

"From the issuer's perspective it is more complex to do a conversion to equity because of legal aspects," said Jean Francois Tremblay, assistant managing director, financial institutions group at Moody's.

"Among other things, they have to get pre-authorization from shareholders for the possibility of converting an unknown amount of debt into shares."

On Tuesday, CIMB Bank priced Malaysia's first Basel III compliant tier 2 subordinated bond. The M$750m (US$228m) deal was sold at a yield of 4.8%, only some 10bp-15bp over the yield on the old-style tier 2 bonds, which did not include write-off clauses.

The first Basel III compliant bond in the Singapore market priced by United Overseas Bank in July.

Despite the possibility of losing their entire investment if the bank's capital falls below a certain level, Asian investors do not seem concerned.

" is one of the world's biggest banks and it is state-owned, people will look at it and think that at the point of non-viability the Chinese government would bail it out," said a hedge fund manager in Singapore. "There are two things that PBs in Asia love: real estate and banks," he said.

Indeed, a private banker in Singapore expressed a similar view, saying that the write-off clause meant little as no one expects ICBC to go bust. "At that point it would not matter if I had equity anyway as the shares would be lost too," he added.

MISCONCEPTION

It might not work out that way. The whole point of these bonds is to bail-in private investors, not the government, to keep a lender afloat.

There is another drawback to write-off versus the equity conversion structure. With the former, bondholders are left with nothing, while an equity conversion allows for some recovery of principal.

Asian investors, however, seem unfazed at potentially being placed lower in the capital structure. Besides that, some actually have legal hurdles against buying bonds that may be converted into equity.

In Malaysia, for instance, institutional investors would be breaching regulations if bonds converted into equity. (Reporting By Christopher Langner)