How Yes Bank's relationship managers sold its AT1 bonds to retail investors
Harish, a 65-year-old retired human resource manager, and his wife Saroj, woke up on 6 March to a rude shock. About a third of the Delhi-based couple’s retirement kitty had vanished as Yes Bank was placed under administration by the Reserve Bank of India (RBI) and its perpetual debt (AT1 bonds) became worthless. The couple had been sold AT1 bonds by their relationship manager at Yes Bank in Dwarka, Delhi.
The government has assured Yes Bank depositors that they will not be penalized. However, a draft RBI resolution for Yes Bank envisaged a complete write-down of the value of AT1 bonds.
The couple’s son, Saurabh, who vetted the transactions also felt a heavy blow. “The interest rate on the Yes Bank bonds at 9.5% was slightly higher than the rates on fixed deposits at the time," he said. “The relationship manager asked my father to break his fixed deposit and put the money in these bonds as they were yielding a higher return," he said.
AT1 bonds are annual coupon bearing perpetual bonds. This means that they have no fixed maturity date. However, they do have call dates, typically at the end of five years. “Banks are under no legal obligation to exercise call options and repay bondholders on the call dates. However, in the market, it is understood that they will exercise call options and pay back the money," said a Mumbai-based wealth manager on condition of anonymity. Yes Bank declined to exercise call options in January and March on perpetual bonds issued by it. “The bank will pay AT1 coupons only if it has profits or reserves. The second risk is that if the banks go bust, these bondholders will have to take a hit like equity investors," said Joydeep Sen, founder, wiseinvestor.in.
Vas Dev Seth, an 86-year-old, was also sold AT1s last year as a high-yield product on par with fixed deposits in terms of safety of capital by his Yes Bank relationship manager in New Delhi’s South Extension branch. “I was assured the bond was secured and I would get payment every year and my principal back after four years," he said.
The bank is estimated to have issued AT1 bonds worth ₹10,000 crore. Much of these bonds are held by institutional investors, but a small portion is also held by individuals. “In Europe, Basel-III AT1 bonds are not allowed to be sold to individuals, unless such investors pass size and suitability tests," said Deepak Shenoy, founder and chief executive officer, Capital Mind.
“If the RBI plan becomes final, we will mount a legal challenge," said Raghav, 37, a Mumbai-based professional who is part of a WhatsApp group of affected investors. However, according to Shenoy, options are limited. “Seniority matters in case of liquidation, not in the case of a resolution. What’s worse is that while RBI allows it, none of the contracts allows you to convert the debt into equity," he said. There are many perpetual bonds open to individual investors. “The extra yield on these bonds is not commensurate with the risk they carry," said Prakash Praharaj, founder, Max Secure Financial Planners.
AT1s have historically formed the bulk of perpetual bond issuances. Given poor drafting of AT1 contracts, their pricing and the current market dispensation, AT1 bonds are not suited for retail appetite. “It’s about time we move from a buyers beware market to a market where responsibility lies on the sellers too," said Shenoy.