Perpetual Bonds Outlook – Non-calls risk expected, but risk reward improved June 2, 2020 819

  • Ascott Residence Trust has opted not to call its 4.68% perpetual bond on the first call date of 30 June 2020, setting an industry first.
  • We are wary of upcoming non-call risk of perpetual bonds as companies seek to (i) allow coupons to reset lower and save on finance costs, and (ii) conserve cash amidst difficult economic conditions.
  • However, some perpetual bonds remain attractive as risk-reward conditions improve after prices fall.

 

A new precedent – The first perpetual non-call

Given the harsh impact on the hospitality sector, Ascott Residence Trust announced on Friday, 29 May 2020 that it has taken the prudent step of not calling their 4.68% perpetual bond with first call date on 30 June 2020. This sets a precedence in the Singapore perpetual bond market since its inception in 2011, apart from defaults and restructuring,.

 

Moving forward for ARTSP 4.68%: Lower distribution rate with ongoing option to redeem

The ARTSP 4.68% Perp will, from the first call date of 30 June 2020, pay a lower distribution rate based on the date’s Swap Offer Rate (SOR) + 2.5%. Based on the current 5-year SOR rate of 0.525%, the new coupon rate will be around the 3.025% area. This translates to a YTC of 6.16% assuming the bond is called 1 year later, and a YTW of 3.16% based on the current indicative ask price of 97.

Given Ascott’s option to call the perpetual every distribution date after 30 June 2020 (every 6 months), the company’s management has indicated their consideration to call the bond when credit markets stabilise possibly within the next 1-2 call dates.

 

Wary of non-call risk for upcoming perpetual call dates

Perpetual bonds with upcoming call dates may face the same fate as the ARTSP 4.68% Perp. To determine the risk of non-call, we look at the potential new refix coupon rate compared to the current coupon rate. A lower refix coupon rate will translate to higher cost savings for the issuer if not called, suggesting a higher non-call risk. We outline the SGD perpetual bonds with upcoming call dates in Figure 1.

 

 

Limited downside: yield to worst levels are attractive historically

Given the large selloff of perpetuals in March this year, we believe that non-call risk has largely been priced in, limiting downside risks to bond prices. Yields have been compressed as we start to see demand for attractive risk-reward despite non-call risks.

Looking at average yield-to-worst (worst yield scenario) of the SGD perpetual bond market, yields are historically attractive and have room for further yield compression. We do not see demand for perpetual bonds weakening.

 

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Timothy Ang
Research Analyst
Phillip Securities Research

Timothy covers credit analysis of local and foreign bonds. Previously an equity dealer, he handled equity trade execution and portfolio management. He has presented seminars for organisations such as SIAS, SPH and IRAS, commentated live market updates for 93.8FM, and authored investment articles for the Business Times newspaper. He graduated with a Bachelor of Commerce in Accounting & Finance from the University of Western Australia.

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