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ABI's Remarks on CEBS Consultation Paper on Hybrid Capital Instruments (CP 27)

Introduction

The Italian Banking Association (ABI) participated in the CEBS consultation regarding the implementation guidelines for hybrid capital instruments, which aim to complement the new Capital Requirements Directive (CRD). ABI has previously contributed to similar consultations, including the 2007 CEBS CP17 and the 2008 European Commission consultation on CRD changes. ABI generally agrees with the consultation paper and supports most of the EBF paper's comments. The following summary outlines the core content, main points, and key recommendations made by ABI.

A. Permanence

ABI emphasizes that the Consultation Paper should align with the CEBS position from CP17 and the European Commission feedback, which consider instruments with maturity linked to the issuer's life as undated for prudential purposes. ABI believes this assumption remains valid and should not be modified.

Key Points:

• Instruments with maturity equal to the issuer's life should be treated as undated.
• The "permanence" of hybrid instruments is not currently under threat and should not be subject to further restrictions.
• The proposed guidelines should maintain the flexibility for issuers to structure instruments that match their operational lifecycle.

B. Flexibility of Payments

ABI highlights the need for clarity and consistency in the treatment of coupon and dividend payments for hybrid instruments, particularly in relation to the ability of financial institutions to suspend such payments in stressed situations.

Key Points:

• Flexibility in payment suspension is crucial to enhance loss absorbency and support recapitalization.
• The phrase "paid out of distributable items" in the Consultation Paper is ambiguous and may lead to unintended consequences in accounting and tax treatment.
• ABI proposes modifying the statement to clarify that if the dividend is booked as an interest expense, it may be considered a distributable item.
• There should be a narrow interpretation of Article 63a(3) of the CRD to prevent arbitrary suspension of payments, which could harm market access and investor confidence.
• The use of dividend pushers and stoppers should be carefully evaluated to ensure they do not hinder recapitalization efforts.

C. Loss Absorbency

ABI supports the need for hybrid instruments to have mechanisms that allow them to absorb losses both in going concern and liquidation scenarios. However, it also raises concerns about the potential for divergent national approaches to loss absorbency mechanisms, which could affect the level playing field across the EU.

Key Points:

• Hybrid instruments should be able to absorb losses through various mechanisms such as principal write-downs, coupon cancellations, and conversion into equity.
• The current CRD allows up to 50% of capital to be composed of hybrid instruments, which implies that hybrid investors are treated similarly to shareholders.
• Different subordination levels among hybrid instruments may be necessary in specific scenarios, such as recapitalization during a crisis.
• ABI suggests that CEBS should identify and coordinate new loss absorbency mechanisms to ensure consistent treatment across the EU.

D. Limits

ABI raises concerns about the potential for overly rigid rules on buy-backs and redemption, which could restrict the flexibility of financial institutions and affect market access.

Key Points:

• Buy-backs of hybrid Tier 1 instruments should not be restricted to a 5-year period, as this may not align with the issuer's capital needs.
• A 10% threshold for buy-backs without prior approval could be introduced to support market-making activities.
• The current framework may not be appropriate for major banks that act as both issuers and underwriters, as it could limit their ability to manage capital effectively.
• ABI recommends that CEBS should provide clearer and more prescriptive guidelines to ensure convergence across the EU and avoid national discretion.

Summary of Main Recommendations

• Permanence: Maintain the current assumption that instruments with maturity equal to the issuer's life are undated.
• Flexibility of Payments: Clarify the definition of "distributable items" and ensure that payment suspension mechanisms are narrowly defined and based on transparency and pre-defined criteria.
• Loss Absorbency: Support a range of mechanisms to ensure loss absorbency, including principal write-downs and conversion into equity, while ensuring that these do not hinder recapitalization.
• Buy-Backs: Allow buy-backs before five years with prior supervisory approval and consider a 10% threshold for market-making purposes.
• Convergence: Ensure that guidelines are prescriptive and consistent across the EU to avoid level playing field issues and promote uniform supervisory practices.

Conclusion

ABI advocates for a balanced approach that maintains the flexibility and effectiveness of hybrid capital instruments while ensuring they meet the prudential objectives of the CRD. The association believes that clear, consistent, and prescriptive guidelines are essential to support the efficient management of capital and to ensure convergence across the EU.