Bail‐in rules and the pricing of Italian bank bonds

Abstract

We analyze whether the introduction of the bail‐in tool in January 2016 affected the pricing of Italian bank bonds. Using a unique dataset of 1,798 fixed‐rate bonds issued during the period 2013–2016, we find an increase of the spread at issuance of bail‐inable bonds compared to non‐bail‐inable bonds. This increase also depends on the intrinsic characteristics of each bank. Large institutions, banks with lower ratings, profitability, capitalization, and higher liquidity faced a higher cost of issuing bail‐inable bonds. Overall, our results seem to support the hypothesis of an improved market discipline for the bank bond primary market.

Market discipline on bank bond issues through the lens of a new forward‐looking measure of loan quality

“…This research overall documents the presence of TBTF discount on yield spreads, concluding that market discipline is less tough for the largest financial institutions. More recently, Crespi et al (2019) have examined the market impact of the introduction of the bail‐in framework, which became effective in January 2016 and substantially increased risk exposure for unsecured bondholders. Using data on Italian bank bond issues, they show higher funding costs for bond issues subject to the new rules in the post‐2016 period as compared to those issues excluded by the regulation.…”

“…This finding addresses the current debate, which has grown over the past years, on how to support market discipline. Additional bank regulations have been introduced in this regard, such as, among others, the Dodd–Frank Act (Balasubramnian & Cyree, 2014; Gao, Liao, & Wang, 2018) in the United States, and, more recently, the European Union (EU) bail‐in legislation (Crespi, Giacomini, & Mascia, 2019). However, market discipline still seems to be far from its optimal level of effectiveness and additional channels need to be relied on.…”

European Significant Bank Stock Market Volatility: Is there a Bail-In Effect?

“…As Crespi et al (2018), many papers exploit a regulatory change as a sort of "natural" experiment. We follow this literature strand, using the bail-in introduction.…”

Has the New Bail-In Framework Increased the Yield Spread Between Subordinated and Senior Bonds?

“…The relevance of the bank funding structure is also highlighted by Götz and Tröger (2016), who show a negative correlation between bank equity and subordinated debt financing, indicating that more fragile banks finance themselves to a larger degree with subordinated debt. Hence, this negative correlation suggests that the subordinated debt of these banks is also more likely The dependent variable is the spread between subordinated and senior unsecured bonds 6 Debt issued by a holding company that is structurally subordinated to the operating company. Götz and Tröger (2016) and Crespi et al (2018) highlight that a relatively high proportion of European banks' unsecured debt was issued by affiliates, which could add a layer of opacity regarding the risk of bail-in of a certain bond, as investors may not be aware of the organizational structure and hence misjudge the possibility of a bail-in.…”

“…Hence, this negative correlation suggests that the subordinated debt of these banks is also more likely The dependent variable is the spread between subordinated and senior unsecured bonds 6 Debt issued by a holding company that is structurally subordinated to the operating company. Götz and Tröger (2016) and Crespi et al (2018) highlight that a relatively high proportion of European banks' unsecured debt was issued by affiliates, which could add a layer of opacity regarding the risk of bail-in of a certain bond, as investors may not be aware of the organizational structure and hence misjudge the possibility of a bail-in. This issue is out of the scope of this paper, but could be relevant for future investigation.…”