"Boosting Buffer Strength" Securities Industry Sees Surge in New Securities and Subordinated Bond Issuance

Meritz Securities New Securities, Hana Securities Subordinated Bonds Issuance
Enhancing NCR to Prepare for Overseas Alternative Investment and PF Defaults
Lower Funding Costs Due to Popularity of High-Interest Bonds
Insurance Companies and Public Enterprises Also Join to Prevent Financial Soundness Deterioration

Securities firms are consecutively issuing hybrid bonds (new type capital securities) and subordinated bonds. This is to supplement the Net Capital Ratio (NCR) for business operations, which can decline due to overseas alternative investment and project financing (PF) defaults and losses.

Yeouido Securities District, Seoul. Photo by Yongjun Cho jun21@

According to the investment banking (IB) industry on the 10th, Meritz Securities is issuing hybrid bonds worth 150 billion KRW. Hybrid bonds generally have a maturity of 30 years with the option to extend further, so there is no mandatory principal and interest repayment. However, if the call option (early redemption right) is not exercised after 5 years to repay the principal and interest, the interest rate rises sharply, resulting in a high interest burden.

Due to these characteristics, hybrid bonds can be classified as capital rather than debt in accounting terms. For this reason, not only financial companies but also corporations have recently issued many hybrid bonds to reduce their debt ratios. Recently, Kolon Industries issued hybrid bonds worth 250 billion KRW, and HDC Shilla Duty Free issued 10 billion KRW worth of hybrid bonds.

Meritz Securities has issued hybrid bonds to enhance the NCR, a financial stability indicator for securities firms. The NCR is a loss absorption capacity indicator that shows how much net capital for business operations a securities firm holds relative to its total Risk Weighted Assets (RWA). Regardless of the remaining maturity, the entire issuance amount of hybrid bonds can be included in net capital for business operations.

Hana Securities issued subordinated bonds worth 250 billion KRW on the 5th. Like hybrid bonds, subordinated bonds are included in net capital for business operations when calculating the NCR. However, if the remaining maturity falls below 5 years, the capital recognition ratio decreases by 20% per year. For remaining maturities of 4?5 years, 80% of the issuance amount is recognized as net capital; 3?4 years, 60%; 2?3 years, 40%; and 1?2 years, 20%.

The reason Hana Securities and Meritz Securities issue subordinated bonds and hybrid bonds is closely related to losses from overseas alternative investments and PF. Both securities firms are known for having a high proportion of overseas alternative investments and PF contingent liabilities. Hana Securities’ consolidated NCR rose from 1272% to 1458% at the end of the first half due to the subordinated bond issuance.

Not only securities firms but also insurance companies and public enterprises are issuing hybrid bonds and subordinated bonds to improve their financial structures. In August, insurance companies such as Meritz Fire & Marine Insurance (650 billion KRW), KDB Life Insurance (200 billion KRW), Hanwha General Insurance (350 billion KRW), and Lotte Insurance (10 billion KRW) issued subordinated bonds to improve their solvency ratio, the Risk-Based Capital (RBC) ratio.

The Housing & Urban Guarantee Corporation (HUG) is also planning to issue hybrid bonds worth 500 billion KRW due to real estate-related losses. In its recent financial management plan submitted to the National Assembly, HUG forecasted an operating loss of 3.9991 trillion KRW and a net loss of 3.8324 trillion KRW for this year. HUG expects a significant increase in its debt ratio as rental deposit return guarantee accidents rise and losses occur in project financing (PF) guarantees.

Improved interest rate conditions have also lowered the threshold for issuing hybrid bonds and subordinated bonds. An IB industry official said, "As market interest rates have generally declined, the funding costs for hybrid bonds and subordinated bonds, which previously required bearing relatively high interest burdens, have significantly decreased," adding, "With institutional and individual investors competitively purchasing high-interest products, companies have been able to issue capital securities at lower interest rates."