Once Booming AT1 Market Is Down to Just One Bond in Brazil

Brazil’s share in the global market for the riskiest type of bank debt is dwindling as lenders turn to local financing for their borrowing needs even as foreign demand for the securities picks up.

The once $10 billion market, which was second only to China in the developing world, hasn’t had a sale of international contingent convertible bonds, or CoCos, in over four years. After Itau Unibanco Holding SA redeems its two perpetual Additional Tier 1 bonds in the coming weeks, Brazil’s supply of hard-currency AT1s will be down to one remaining note from state-controlled Banco do Brasil SA.

In comparison, activity has remained strong in the region, with Colombia and Mexico selling a combined $1.5 billion in CoCos this year as global demands for the instruments surges.

The pullback from international markets comes as part of a dash to local currency instruments seen across emerging markets. Brazil’s domestic credit market has grown exponentially in the past few years — the stock of local currency corporate bonds, known as debentures, is now roughly twice the size of the one for hard-currency debt.

Companies have leaped at the chance of accessing this new pool of mostly institutional investors, which has helped provide cheaper financing without the currency risks that come with borrowing in dollars. That includes banks from Itau to Banco BTG Pactual SA, which are issuing CoCo bonds in reais while moving to buy back similar notes issued in hard currency.

Tight spreads

“The supply has shrunk significantly because the local market remains very strong,” Eduardo Alhadeff, a credit portfolio manager at asset-management firm Ibiuna Investimentos in Sao Paulo, said of Brazil’s global AT1 market. “Banks are able to issue perpetual or Tier 2 notes in Brazil at very tight spreads.”

For Tier 2 notes, which only force losses if a bank is no longer viable, there are only outstanding global bonds from Itau and Banco do Estado do Rio Grande do Sul SA, the lender owned by the state of Rio Grande do Sul.

Banrisul, as the bank is known, is set to sell Tier 2 notes locally at a spread of 165 basis points over the benchmark DI rate, according to a filing. A similar sale offshore would likely come with a spread of between 400 to 450 basis points, based on indications from bankers and swapping it into CDI-linked debt, said Nathan Meneguzzi, head of investor relations at the bank.

The bank is planning to redeem its global Tier 2 notes in January, Meneguzzi said in an interview.

‘Opportunity’

Itau, the largest Brazilian bank by market value, sold almost 10 billion reais in AT1s in domestic markets in the first half, taking advantage of a “deep market in very good conditions,” according to Chief Executive Officer Milton Maluhy.

“What we did is a liability management,” Maluhy said in an earnings call with analysts earlier this month, referring to the choice of repaying the dollar notes and issuing in the domestic market. “If there is opportunity in Brazil at a good level of price, we may issue more.”

The repayment of Itau’s 7.859% notes was expected, but the call of the 7.562% bonds was a surprise, according to JPMorgan Chase & Co. analyst Natalia Corfield, especially as it has “one of the lowest reset spreads in Latin America and likely across the globe.”

Itau will also likely redeem its dollar Tier 2 notes in early 2026, since keeping them would cost more than issuing a new local bond, Corfield said in the same report, published earlier this month.

A single bond

The stock of global CoCos from Brazilian issuers — combining AT1 and Tier 2 bonds — peaked at about $10.5 billion in 2021, according to data compiled by Bloomberg. It’s currently down to $4 billion, and set to shrink to $2.5 billion once Itau redeems its notes in coming weeks, the data show.

For AT1s alone, the only option left for offshore investors will be Banco do Brasil’s $1.72 billion bond — compared to a peak of $9.6 billion in available debt in 2021.

In 2023, Brazilian CoCos were roiled by the wipeout of Credit Suisse Group AG’s AT1 notes, especially as the country’s risky bank notes have writedown rules that resemble those in Switzerland. But after an initial selloff, the bonds eventually bounced back.

Mexican banks are currently the largest players in emerging markets for hard-currency CoCos, with a stock of $10 billion that accounts for about 30% of the pile of dollar-denominated CoCos from developing-nation lenders.

Local boom

As they pullback from global markets, Brazilian lenders have sold at least 24 billion reais in local perpetual notes this year, according to data compiled by Bloomberg.

Major Brazilian banks like Itau are issuing CoCo bonds at lower spreads than what the Mexican unit of Banco Bilbao Vizcaya Argentaria pays for its T2 instruments, according to Ibiuna’s Alhadeff.

“The notion of diversification under these conditions is a sham,” Alhadeff said, adding that Mexican lender Grupo Financiero Banorte SAB is his top pick among Latin American CoCos.

A $750 million AT1 note from Banorte has handed investors a 10% total return year-to-date, outperforming a 6% advance for a Bloomberg index tracking EM corporate debt.

Nikolau Muller, a portfolio manager at JGP Asset Management who also owns Banorte’s notes, said the pullback doesn’t imply a problem for Brazilian banks, who can still issue funds abroad if they choose to.

“For the lender, it’s an economic decision: ‘Where do I have volume at a good price?,” Muller said. “Global markets remain open for these banks to raise funds, but currently, it makes more sense to do it locally.”

With assistance from Tasos Vossos.

This article was generated from an automated news agency feed without modifications to text.

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