What is it?
- Limited recourse capital note, or LRCN.
- It is a new type of debt instrument (other types include bonds, preferred shares, debentures, etc.).
- This will be treated similar to equity by regulators when calculating RBC's capital requirements (this helps the banks balance sheet).
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It is still early to say, but there is a chance these new notes may take the place of new preferred share offerings down the road.
Who issues it?
- At this time, just RBC. The bank bolstered its balance sheet this week by selling $1.75-billion in one issue.
- It is expected that other Canadian banks will do similar offerings
How does it work?
- LRCNs are a combination of two securities.
- The bank issues 60-year non-callable debt securities to investors.
- At the same time, RBC issues preferred shares that will be held separately in another account.
What if something happens to the bank?
- If something happened to RBC, the investors would be handed the preferred shares (they are collateral for the notes).
Do we have access to these?
- Not at this time, they are only available to institutional investors
How much interest does it pay?
- The recently issued RBC’s LRCNs pay 4.5-per-cent interest for the next 5 years
- The payout resets every 5 years at a rate above the interest rate on Canadian government debt
Are other banks going to do this?
- Most likely yes, for a few reasons:
- Potentially lower interest rates - RBC issued their notes around 0.75% below where similar preferred shares are trading.
- There is demand - the issue was also VERY popular with institutional investors (it would be hard to do a similar sized $1.75 billion preferred share offering).
What does this mean to preferred shares?
- It is too early to say
- Over the last week, investors bid up the price of preferred shares, likely because they expect that banks will use the proceeds from LRCN issuance to redeem outstanding preferred shares.
What are our thoughts?
- Given these are a new product, we're waiting to see where this goes.
All the best,
Vito and Eric