Global banking system is under pressure amid row over who should lose out first when a bank struggles
The global banking system is under renewed pressure after the Swiss government-brokered takeover of Credit Suisse by its larger rival UBS, after the deal wiped out the investment of bondholders who owned about $17bn (£14bn) of risky Credit Suisse debt.
The latest fears centre on a type of bank debt introduced after the 2008 financial crisis, which had been designed to increase banks’ safety buffers, while tackling the “too big to fail” risk that they might need government support in a crisis.
Known as additional tier 1 (AT1) bank debt, the bonds are designed to convert into equity when a lender runs into trouble.
In the takeover of Credit Suisse, the Swiss Financial Market Supervisory Authority (Finma) said the deal would trigger a “complete writedown” of the value of all of the bank’s AT1 bonds – meaning the bondholders would lose all of their investment.
This has spooked markets and sparked a sell-off in other bank debt, as investors scramble to assess whether the same could happen for their holdings of AT1 debt in other banks, in a market worth more than $275bn.
Given their pivotal role as the providers of finance to millions of households and businesses, banks are heavily regulated – including rules on how much money they should set aside to absorb potential losses.
To do this, banks hold a certain amount of capital – essentially money raised from shareholders and other investors, as well as any retained profit – to serve as a shock absorber in times of stress.
Under the rules, ramped up since the 2008 financial crisis, banks hold several different levels of capital split into tiers – a bit like a wedding cake.
