The country's biggest lenders stand to gain from one of the
Federal Reserve's recent rules regarding trust preferred securities
(TruPS) in a big way - with
JPMorgan
(
JPM
) and Citigroup (
C
) using it to plan recalls of as much as $16 billion worth of these
high interest rate securities. The banks jumped on the opportunity
to save millions in interest payments while at the same time
getting rid of the securities which are currently classified as
Tier 1 capital, but would no longer be recognized so once stricter
regulatory norms come into force.
We have a
price estimate of $48 for JPMorgan's stock
, which we are in the process of reviewing to factor in the effect
of the series of events triggered by the trading loss.
See our full analysis of JPMorgan
TruPS Have Outlived Their Utility For Banks
Banks started issuing TruPS on a large scale just prior to the
economic crisis of 2008 when interest rates were much higher. And
to attract more investors in booming times, banks also set generous
coupon rates for these securities. Estimates of the current
outstanding value of TruPS originated by U.S. banks stands at $120
billion, of which nearly a quarter pay coupons in excess of
6.25%.
With current interest rates at record lows, these securities are
an unnecessary burden on banks. And the best option for the banks
is to retire them. This is where the Fed's new rule governing them
comes in.
Killing Two Birds With One Stone
TruPS contracts normally contain a condition which allows the
issuing bank to retire them early if their status under new capital
rules changes. With the Fed pushing for the phasing out of TruPS
from banks' balance sheets as a Tier 1 capital source, banks
finally have the reason they need to get rid of them.
And we are not talking about small changes here.
JPMorgan currently has almost $15 billion worth of TruPS with
coupon rates of more than 6%. The bank would save almost $650
million in annual interest payments if it retires its TruPS.
This would reflect through an improvement in the bank's trading
yields shown above.
No doubt, once the TruPS are bought back the banks will need to
raise new capital. But this would in turn provide them an
opportunity to issue securities which not only cost them less in
terms of interests paid, but which also would be considered a part
of Tier 1 capital - allowing them to meet regulatory
requirements.
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