速读测试：银行投资者的第三方法
A possible third way for bank investors

It is a long time since investors in European banks had much to cheer about. First-quarter results announcements over the past couple of weeks have done nothing to change that – profits remain elusive or at best depleted, dividends are minuscule or non-existent and share prices are still in a slump.

That bleak investment case has been one reason why some annual shareholder meetings across Europe, as well as in the US, have been angry affairs, with big and small investors alike taking aim at generous pay deals for chief executives at a time of poor performance.

Investors are right to demand that banks change their ways. But as I urged a fortnight ago, they should be taking issue not just with the perpetuation of stubbornly high chief executive remuneration but also with the pay bill for all staff. With the outlook for revenue and profit so cheerless at so many banks, one of the few other potential sources of funds for dividends is their bonus pools.

There should be enough flexibility here to make the difference between a meagre payout and one that might even bear comparison to the halcyon days of 2005 or 2006.

So far, especially in the US, investor pressure to find a dividend pot has focused instead on what many see as superfluous capital reserves, with persistent lobbying of both banks and regulators to return more of that “excess capital” to shareholders. As another previous column argued, the Federal Reserve acted prematurely in sanctioning most banks’ plans to do just that despite the risk posed by the eurozone crisis – one that is surely all the greater following the weekend election results in Greece and France.

But what if there is a third way? One money manager, John Hadwen of US fund company Signature Global Advisors, is convinced there is. His idea is that banks and their regulators should consider a new structure for paying dividends to shareholders. The “contingent dividend unit” would be distributed as soon as a bank felt it could afford to make a payout, but the distribution could, in effect, be reversed if a bank’s capital position deteriorated.

The device is a new take on contingent capital, the long debated and as yet little used tool that some regulators believe should be an integral part of banks’ capital structure in future.

In Switzerland, banks are implementing rules that will oblige them to hold contingent convertible bonds, widely known as Cocos, equivalent to at least 6 per cent of their risk-weighted assets.

The UK’s Vickers Commission, appointed by the government to consider how to make Britain’s banks safer, recommended last year that banks should issue as much as 10 per cent of risk-weighted assets in the form of Cocos or bail-in bonds on top of a 10 per cent equity ratio. The European Union is considering a similar plan.

But there are problems with both Cocos and bail-in bonds. Bail-in bonds are only really useful once a bank has got into significant difficulty and regulators are breaking it up. Cocos, meanwhile, risk being horribly “pro-cyclical” because they convert from debt into equity when a bank’s core capital ratio falls to a preset level. That capital depletion would probably only have occurred as a result of steep losses, which would already have triggered a sharp fall in the share price. Sudden equity dilution in the form of Coco conversion would just make matters far worse.

Contingent dividend units, or CDUs, could be less problematic. The mechanism would be straightforward. Rather than getting a payout in cash, a shareholder would receive CDUs, which would be automatically put into a bank-managed fund that invested in low-risk assets. The CDUs could be traded in the short term, presumably at a small discount to their net asset value, but there would be an automatic conversion into cash after four or five years.

Signature has spoken to several banks, including Barclays and HSBC in the UK and Canada’s CIBC, so far with no take-up of the idea. “People think it’s too radical not to pay a dividend in cash,” says Mr Hadwen.

The main drawback of Cocos would, of course, also apply to CDUs because they would similarly convert into new equity precisely when capital reserves were depleted, diluting investors and compounding a share price fall.

But in the case of CDUs, the potential hit to shareholders would come with a key sweetener – rather than the contingent capital sitting on a bank’s balance sheet, it would belong to shareholders, allowing investors to finally get an income boost after years of bleak returns. The promise of those payouts could also be an important spur to equity valuations at a time when so many banks’ shares are still trading stubbornly at barely half their book value. Any idea that can help shake off that torpor – and not undermine the banks’ capital strength – has got to be worth considering by banks and regulators alike.