We’ve had a question from a reader of this blog about yesterday’s announcement that Bradford & Bingley will be skipping coupon payments on some of its bonds and whether this constitutes an event of default.
Actually it doesn’t, and why not? Well, because HMT says so…
Back in February the government made changes to the terms of its nationalisation of B&B, using power it gave itself under the new Banking Act. HMT amended the Transfer Order through which B&B was nationalised to explicitly allow non-payment of coupons on B&B’s Lower Tier 2 (LT2) dated subordinated debt, and to rank it pari passu with preference shares in liquidation.
This meant that from that day onwards B&B LT2 instruments had NO event of default (neither coupon non-payment nor non-repayment of principal count as events of default), making them effectively Upper Tier 2 (UT2) instruments in every way (it was always the case that banks could defer interest payments on UT2 debt in certain cases), except that they now expressly ranked pari passu with preference shares in liquidation.
B&B had already said it would only make payments until the end of May, and after that would submit a restructuring plan that was unlikely to see any payments being made to subordinated debt holders. So yesterday’s announcement that it won’t be paying coupons on three of its Tier 2 securities (one lower T2 and two UT2 bonds with a nominal value of around £325m), which have coupon dates in July, came as no surprise.
The only continuing confusion is whether this triggers an event of default on subordinated bond Credit Default Swap (CDS) contracts, and if so, whether this credit event would also apply to the senior CDS as well. Trader speculation is rife, with varying interpretations, but no clarity yet from the trade body ISDA. The CDS market remains an immature one, and stressed events like this nationalisation show that participants need to be very cautious about the protections that they think they’ve bought or sold.