Credit Suisse Crisis May Be a Golden Opportunity for Hedge Funds

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One of the biggest and most-respected banks, Credit Suisse, suffered a continuous and steady decline in previous years. The bank endured bad investments and trading losses paired with weak internal controls—the Swiss government mandate for UBS to step in triggered some positive and negative impacts.

The Swiss government has overseen the merger, overruling the country’s merger control rules. The Swiss National Bank (SNB) mandated that UBS take over Credit Suisse as it saw its imminent collapse. SNB’s decision was made to avoid a systemic failure.

Swiss Regulator’s Decision on AT1 Bonds

The Credit Suisse-UBS merger will wipe out $17 billion worth of additional tier-one (AT1) bonds. AT1 bonds, also called contingent convertibles (CoCos), are “bank bonds that are considered a relatively risky form of junior debt, therefore coming with a higher yield and are often bought by institutional investors.”. Swiss regulator, FINMA, said, “AT1 bonds would be written to zero as part of the deal between Credit Suisse and UBS.”

With this wipeout, investments of AT1 debt holders were written off, while common shareholders would receive a payout. Debtholders were enraged as they thought they had a more protected stance than shareholders. Many reports claimed that these investors strongly considered legal action as they were unaware of the merger.

Chief economist’s perspective on CoCos and AT1s

Robert Southey, a broker at Southey Capital, mentioned that many buyers are strongly considering joining groups that would take the legal route. Southey said some law firms are already receiving inquiries from debt holders and potential buyers.

However, Carl Weinberg, chief economist and managing director of High-Frequency Economics, noted that “this is a perfect example of regulation. While I feel bad about all these CoCos and AT1s losing their money, this is what the system was designed to do.”

However, the crisis may be suitable for large hedge funds. As AT1 are considered riskier, their returns may also be higher. Hedge funds have begun buying AT1 en masse, which trades at 0.03 cents to the dollar.

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