Italian banking and financial services company UniCredit has slashed the management fee on its global contingent convertible (CoCo) bond ETF.
UniCredit’s ETF is the only ETF to focus on the global CoCo bond market.
The expense ratio for the €70 million ($80m) UC Axiom Global CoCo Bonds UCITS ETF (CCNV GY) has been reduced down from 0.65% to 0.39%.
The fund was launched in March 2019 on Deutsche Börse’s Xetra in partnership with Axiom Alternative Investments and is the only ETF to focus on the global CoCo bond market.
CoCo bonds are a form of hybrid debt primarily issued by financial institutions.
The bonds convert into equity or have their principal written down to absorb the issuer’s capital losses upon the occurrence of certain triggers, such as the issuer falling below a specified liquidity ratio.
CoCo bonds generally offer higher yields than investing in senior bank debt and may offer some risk mitigation in regards to rising interest rates.
The fund is linked to the Solactive AXI Liquid Contingent Capital Global Market TR Index – Euro Hedged which includes USD-denominated and EUR-denominated CoCo bonds from both the Additional Tier 1 (AT1) and Restricted Tier 1 (RT1) capital markets. Exposure to USD-denominated bonds is hedged back into euros.
Other ETFs providing exposure to CoCo bonds have tended to focus on the AT1 market which consists of bonds issued by banking institutions. The less-developed RT1 market instead comprises bonds issued by insurance firms.
These bonds are similar in structure to their AT1 counterparts: perpetual bonds with minimum five-year non-call periods, non-cumulative fully optional coupons, and the presence of contractual triggers. However, due to differences between banking and insurance firms, AT1 and RT1 bonds tend to differ in what constitutes a trigger precipitating a principal write-down or equity conversion.
By lowering the expense ratio, UniCredit has aligned the fund’s cost with that of the $620m Invesco AT1 Capital Bond UCITS ETF (AT1 LN). The Invesco ETF focuses on the US dollar-denominated AT1 bond market, the deepest and most liquid market in which European banks issue AT1 bonds.
The other CoCo bond ETF in Europe is the $90m WisdomTree AT1 CoCo Bond UCITS ETF (CCBO LN) which covers CoCo bonds issued by financial institutions from developed European countries. Its expense ratio is 0.50%.
UniCredit believes that, despite the economic and financial disruption caused by Covid-19, the outlook for CoCo bonds remains favourable. The firm notes that European banks have never entered a crisis so well-capitalized with an average Core Equity Tier 1 ratio of 14.8%, compared to 8% in 2008, according to data from the European Banking Authority (EBA).
Meanwhile, support from states and central banks is acting as a tailwind for the sector which is further being assisted by temporary regulatory easing measures such as IFRS 9 credit loss rules and minimum capital requirements lowering the MDA trigger point.
UniCredit believes the correction over the last few months has pushed valuations to attractive levels with the fund’s underlying index currently displaying a yield to call of 6.44%.
Laurent Dupeyron, Managing Director, UniCredit, commented, “Our product offers a well-diversified exposure to the CoCo market in a cost-effective manner. The issuer investment-grade rating risk constraints in place make us confident that the ETF will remain resilient in this challenging market environment.”
David Benamou, Founder and Chief Investment Officer, Axiom AI, added, “The current crisis is not a banking crisis but a public health and economic crisis. European banks are not the problem this time and are expected to play a key role in the solution. Current spread levels are 600 bps on AT1/RT1 bonds. For these reasons, we believe that banks’ subordinated debt is one of the most attractive areas of the credit market, creating a unique window for investments.”