Financials Credit Analyst

Hank Calenti, CFA

CreditContinuum

Credit

We screen for value in <a href="https://www.smartkarma.com/entities/bnp-paribas" target="_blank" data-smartkarma-citation="entities:525:1" rel="noopener">BNP Paribas' (BNP FP)</a> AT1 curve within a post-COVID-19 economic operating environment. This is the final installment of a series of linked insights on BNP. Please see: <a href="https://www.smartkarma.com/insights/bnp-paribas-personal-finance-and-global-markets-sensitivity" target="_blank" data-smartkarma-citation="insights:46672" rel="noopener">Personal Finance and Global Markets Sensitivity</a> and<a href="https://www.smartkarma.com/insights/bnp-paribas-capital-forbearance-and-cds" target="_blank" data-smartkarma-citation="insights:46684" rel="noopener"> Capital, Forbearance and CDS</a> for background on BNP.First we assess whether BNP has the capacity to absorb losses from its COVID-19 relief lending. Then we screen for potential extension risk and determine where the market may be mispricing BNP’s credit risk while considering the liquidity of these instruments.BNP’s AT1 curve is relatively steep and offers value for duration driven investors. However, the question is whether investors should be reaching for duration at this point in the Covid-19 economic cycle. Consistent with the current fad of rear-view mirror method of investing, BNP’s longer duration AT1 bonds appear overbought relative to their credit risk and alternative credit instruments. Medium duration AT1 bonds offer a bigger pick-up in credit spread terms, while providing better protection against an unexpected increase in inflation and interest rates, which would be negative for long duration assets. We think it best to pass on BNP’s Legacy Tier 1 bond.

We screen for value in BNP Paribas' (BNP FP) AT1 curve within a post-COVID-19 economic operating environment. This is the final installment of a series of linked insights on BNP. Please see: Personal Finance and Global Markets Sensitivity and Capital, Forbearance and CDS for background on BNP.First we assess whether BNP has the capacity to absorb losses from its COVID-19 relief lending. Then we screen for potential extension risk and determine where the market may be mispricing BNP’s credit risk while considering the liquidity of these instruments.BNP’s AT1 curve is relatively steep and offers value for duration driven investors. However, the question is whether investors should be reaching for duration at this point in the Covid-19 economic cycle. Consistent with the current fad of rear-view mirror method of investing, BNP’s longer duration AT1 bonds appear overbought relative to their credit risk and alternative credit instruments. Medium duration AT1 bonds offer a bigger pick-up in credit spread terms, while providing better protection against an unexpected increase in inflation and interest rates, which would be negative for long duration assets. We think it best to pass on BNP’s Legacy Tier 1 bond.

BNP Paribas: Screening for AT1 Value, Post-Covid-19

<a href="https://www.smartkarma.com/entities/bnp-paribas" target="_blank" data-smartkarma-citation="entities:525:1" rel="noopener">BNP Paribas' (BNP FP)</a> credit costs were artificially engineered lower during 2020, like most banks globally, via regulatory forbearance combined with legislated and bank provided Covid-19 relief. This helped BNP report positive results despite the ongoing health crisis. Lack of Covid-19 loan loss reserve coverage also inflated BNP’s capital ratios. This impact may unwind over time.While BNP’s Covid-19 restructured loan amounts were less significant than at other financial institutions, they were material relative to the loss absorption ability of the bank. As such, by applying loan loss reserve rates for Stage 2 and Stage 3 loans to unprovided Covid-19 relief amounts, we derive a potential range of BNP’s real economic Common Equity Tier 1 ratio without EBA asset quality forbearance. The impact is significant. Covid-19 relief provided was largest in lending to small and medium sized enterprises (SME), relative to the amount of loans outstanding. Over 25% of SME lending was subject to some form of Covid-19 relief assistance. SME lending is the area to keep an eye on for potential deterioration in BNP’s capital ratios.Against this artificially engineered credit cost background, BNP’s Sub / Senior Credit Default Swap (CDS) curve appears to be pricing in a weaker fundamental credit profile over the next three years. From a hedging perspective, since we anticipate a deterioration in the credit profiles of major financial institutions over the next year, buying CDS protection may be worthwhile. However, we would rather own <a href="https://www.smartkarma.com/entities/hsbc-holdings-plc-a723bd63-0890-486f-aaa0-3bb9ad2b95ce" target="_blank" data-smartkarma-citation="entities:21976:1" rel="noopener">HSBC Holdings' (HSBA LN)</a> 1-year CDS protection as cheap insurance.

BNP Paribas' (BNP FP) credit costs were artificially engineered lower during 2020, like most banks globally, via regulatory forbearance combined with legislated and bank provided Covid-19 relief. This helped BNP report positive results despite the ongoing health crisis. Lack of Covid-19 loan loss reserve coverage also inflated BNP’s capital ratios. This impact may unwind over time.While BNP’s Covid-19 restructured loan amounts were less significant than at other financial institutions, they were material relative to the loss absorption ability of the bank. As such, by applying loan loss reserve rates for Stage 2 and Stage 3 loans to unprovided Covid-19 relief amounts, we derive a potential range of BNP’s real economic Common Equity Tier 1 ratio without EBA asset quality forbearance. The impact is significant. Covid-19 relief provided was largest in lending to small and medium sized enterprises (SME), relative to the amount of loans outstanding. Over 25% of SME lending was subject to some form of Covid-19 relief assistance. SME lending is the area to keep an eye on for potential deterioration in BNP’s capital ratios.Against this artificially engineered credit cost background, BNP’s Sub / Senior Credit Default Swap (CDS) curve appears to be pricing in a weaker fundamental credit profile over the next three years. From a hedging perspective, since we anticipate a deterioration in the credit profiles of major financial institutions over the next year, buying CDS protection may be worthwhile. However, we would rather own HSBC Holdings' (HSBA LN) 1-year CDS protection as cheap insurance.

BNP Paribas: Capital, Forbearance and CDS

<a href="https://www.smartkarma.com/entities/bnp-paribas" target="_blank" data-smartkarma-citation="entities:525:1" rel="noopener">BNP Paribas (BNP FP)</a> is frequently confused with simply being a French retail or commercial bank with an investment banking business. However, the institution’s non-bank financial services are significant. In fact, BNP’s non-banking Personal Finance division generated higher pre-provision profits and higher credit costs than the other operating divisions of the firm. High margins offer protection, however, in a prolonged or series of economic downturns, the Personal Finance operations could generate meaningful non-performing loans.Nonetheless, BNP’s revenues grew by 0.6% year-on-year in the first nine-months due, in part, to 32% growth in Global Markets, which incorporate the investment banking activities of the firm. Global Markets generated more revenues per unit of risk in 2020 than BNP’s French retail or Corporate Banking activities. It outperformed due to high client activity and fortuitous market volatility. Concurrently, legislated and bank provided Covid-19 relief, juxtaposed with regulatory forbearance, kept credit costs low. This helped BNP have a good health crisis.Despite the potential for outsized losses in the capital markets operations, we believe that the real risk to BNP’s revenues is that central banks are eventually successful at stamping out market volatility while economic activity remains subdued. This could lead to lower capital market, retail and non-bank financial service revenues while delayed credit costs are recognized. BNP would not be alone in suffering from such an outcome, but it may not achieve results like those seen so far in 2020. BNP’s future results are sensitive to Personal Finance and Global Market activities.  In this, the first of several linked insights on European banks that offer interesting credit investing opportunities across the credit continuum, we assess the main drivers of BNPs performance year-to-date. Regulatory forbearance has played a major role in keeping credit costs low. With a new strain of the virus impacting Europe and the original virus reasserting itself across jurisdictions were BNP operates, we anticipate an increase in the rate of delinquency amongst COVID-19 relief borrowers. We assess and identify investing opportunities within follow-up notes on BNP.

BNP Paribas (BNP FP) is frequently confused with simply being a French retail or commercial bank with an investment banking business. However, the institution’s non-bank financial services are significant. In fact, BNP’s non-banking Personal Finance division generated higher pre-provision profits and higher credit costs than the other operating divisions of the firm. High margins offer protection, however, in a prolonged or series of economic downturns, the Personal Finance operations could generate meaningful non-performing loans.Nonetheless, BNP’s revenues grew by 0.6% year-on-year in the first nine-months due, in part, to 32% growth in Global Markets, which incorporate the investment banking activities of the firm. Global Markets generated more revenues per unit of risk in 2020 than BNP’s French retail or Corporate Banking activities. It outperformed due to high client activity and fortuitous market volatility. Concurrently, legislated and bank provided Covid-19 relief, juxtaposed with regulatory forbearance, kept credit costs low. This helped BNP have a good health crisis.Despite the potential for outsized losses in the capital markets operations, we believe that the real risk to BNP’s revenues is that central banks are eventually successful at stamping out market volatility while economic activity remains subdued. This could lead to lower capital market, retail and non-bank financial service revenues while delayed credit costs are recognized. BNP would not be alone in suffering from such an outcome, but it may not achieve results like those seen so far in 2020. BNP’s future results are sensitive to Personal Finance and Global Market activities.  In this, the first of several linked insights on European banks that offer interesting credit investing opportunities across the credit continuum, we assess the main drivers of BNPs performance year-to-date. Regulatory forbearance has played a major role in keeping credit costs low. With a new strain of the virus impacting Europe and the original virus reasserting itself across jurisdictions were BNP operates, we anticipate an increase in the rate of delinquency amongst COVID-19 relief borrowers. We assess and identify investing opportunities within follow-up notes on BNP.

BNP Paribas: Personal Finance and Global Markets Sensitivity

Silver Point

Thomas J. Monaco

Silver Point is a boutique research firm that focuses on the broader financial services sector, with a particular focus on troubled institutions globally. 

Asia Ex Japan

Equity Bottom-Up

*Ssangyong Declares Bankruptcy: Purchased by Mahindra &amp; Mahindra (MM.IN) [M&amp;M] in 2011, the 74.7%-owned SsangYong Motor Company (003620.KS) [Ssangyong] in South Korea filed an application for commencement of the rehabilitation procedure with the Seoul Bankruptcy Court; and*M&amp;M Guarantee: Unfortunately for M&amp;M, it has provided a corporate guarantee on behalf of Ssangyong on loans up to IN 6.8bn. If no new investor steps in, M&amp;M will be required to pay the guarantee.

*Ssangyong Declares Bankruptcy: Purchased by Mahindra &amp; Mahindra (MM.IN) [M&amp;M] in 2011, the 74.7%-owned SsangYong Motor Company (003620.KS) [Ssangyong] in South Korea filed an application for commencement of the rehabilitation procedure with the Seoul Bankruptcy Court; and*M&amp;M Guarantee: Unfortunately for M&amp;M, it has provided a corporate guarantee on behalf of Ssangyong on loans up to IN 6.8bn. If no new investor steps in, M&amp;M will be required to pay the guarantee.

Mahindra & Mahindra – Ssanyong Goes Plotz

<a href="https://www.smartkarma.com/entities/hsbc-holdings-plc-a723bd63-0890-486f-aaa0-3bb9ad2b95ce" target="_blank" data-smartkarma-citation="entities:21976:1" rel="noopener">HSBC Holdings' (HSBA LN)</a> newly issued Additional Tier 1 (AT1) bond is not worth chasing. HSBC remains adrift and a strategic reset in February could have an outsized impact on longer dated notes. We see better risk adjusted returns in lower duration securities of the issuer.HCBC’s 4.6% coupon 2030 first call AT1 bond priced in-line with similarly long-duration AT1 notes. The market’s preference for duration aided in generating attractive pricing for the issuer. Priced at 10-year Treasuries plus 365 basis points, we see little upside and plenty of market-driven downside at this level. Only <a href="https://www.smartkarma.com/entities/bnp-paribas" target="_blank" data-smartkarma-citation="entities:525:1" rel="noopener">BNP Paribas' (BNP FP)</a> 4.5% coupon 2030 first call AT1 priced at a tighter spread in 10-year AT1 paper this year and BNP’s market timing was perfect.This issuance also suggests to us a sooner than expected restart of stock buybacks. To limit capital leverage, HSBC Holding’s UK regulator generally does not allow banks to issue AT1 while the firm is buying stock in the open market. Stock buybacks can deplete capital buffers faster than regular dividends and, therefore, are not AT1 investor friendly.  Taken together, a flat yield curve combined with<ul><li><ul>
<li>overpriced risk relative to ratings,</li>
<li>spreads that are tight to similar maturity senior bonds</li>
<li>capital buffers that are in-line with peers but driven by high conversion trigger levels that are not priced-in, and</li>
<li>underpriced credit default risk at the long end</li>
</ul></li></ul>leads us to conclude that the newly issued AT1 note has limited upside relative to its shorter duration cohorts.Finally, investor preference for long-duration assets in the low yield environment appears to be having a large impact on valuations. Chasing spread at this point in the cycle can be dangerous. Given better risk / return opportunities on other parts of the credit continuum, we do not recommend chasing HSBC’s new AT1 bond.

HSBC Holdings' (HSBA LN) newly issued Additional Tier 1 (AT1) bond is not worth chasing. HSBC remains adrift and a strategic reset in February could have an outsized impact on longer dated notes. We see better risk adjusted returns in lower duration securities of the issuer.HCBC’s 4.6% coupon 2030 first call AT1 bond priced in-line with similarly long-duration AT1 notes. The market’s preference for duration aided in generating attractive pricing for the issuer. Priced at 10-year Treasuries plus 365 basis points, we see little upside and plenty of market-driven downside at this level. Only BNP Paribas' (BNP FP) 4.5% coupon 2030 first call AT1 priced at a tighter spread in 10-year AT1 paper this year and BNP’s market timing was perfect.This issuance also suggests to us a sooner than expected restart of stock buybacks. To limit capital leverage, HSBC Holding’s UK regulator generally does not allow banks to issue AT1 while the firm is buying stock in the open market. Stock buybacks can deplete capital buffers faster than regular dividends and, therefore, are not AT1 investor friendly.  Taken together, a flat yield curve combined with
overpriced risk relative to ratings,
spreads that are tight to similar maturity senior bonds
capital buffers that are in-line with peers but driven by high conversion trigger levels that are not priced-in, and
underpriced credit default risk at the long end
leads us to conclude that the newly issued AT1 note has limited upside relative to its shorter duration cohorts.Finally, investor preference for long-duration assets in the low yield environment appears to be having a large impact on valuations. Chasing spread at this point in the cycle can be dangerous. Given better risk / return opportunities on other parts of the credit continuum, we do not recommend chasing HSBC’s new AT1 bond.

France

BNP Paribas S.A. attracts deposits and offers commercial, retail, investment, private and corporate banking services.  The Bank also provides asset management and investment advisory services to institutions and individuals in Europe, the United States, Asia and the Emerging Markets.

Price Gauge
52-week Range	0.00 - 0.00
Market Cap (USDm)	0.00
P/E	0.00
Dividend (Yield)	0.00

BNP Paribas (BNP FP)

BNP Paribas: Screening for AT1 Value, Post-Covid-19

We screen for value in BNP’s AT1 curve, including A$ bonds, within a post-COVID-19 economic environment, and we assess whether BNP has the capacity...

Hank Calenti, CFA

BNP Paribas: Capital, Forbearance and CDS

BNPs real economic capital, sans forbearance, may be materially lower than reported. Credit costs were artificially engineered lower, like at most...

Hank Calenti, CFA

BNP Paribas: Personal Finance and Global Markets Sensitivity

BNP’s future results are sensitive to Personal Finance and Global Market activities. Regulatory forbearance played a major role in keeping credit...

Hank Calenti, CFA

Mahindra & Mahindra – Ssanyong Goes Plotz

MAHINDRA & MAHINDRA: 75% Owned Ssangyong Motors Declares Bankruptcy, and M&M Is Likely On The Hook For The Credit Guarantees.

Thomas J. Monaco

HSBC’s New AT1: Not Worth Chasing

HSBC remains adrift and a strategic reset could have an outsized impact on longer dated notes. The newly issued AT1 is not worth chasing. We see...

Hank Calenti, CFA

Price Gauge

52-week Range

Market Cap (USDm)

P/E

Dividend (Yield)