Q&A

Question 1: What are bank hybrid securities?

(a)    A way for banks to borrow money from investors in return for interest payments.

(b)   Securities which combine some of the features of debt and equity (shares).

(c)    Complex instruments which you should ensure you understand before investing in them.

(d)   All of the above.

Answer

The answer is (d). Bank hybrid securities are used by banks to borrow money from investors but they have complex features of both debt and equity which you should ensure you understand before investing in them.

Question 2: Which are riskier?

(a)    Bank hybrid securities.

(b)   Ordinary shares.

Answer

The answer is (b). Ordinary shares are riskier for investors to invest in because there is no maturity date and dividends are discretionary. Tier 1 hybrid capital securities are less risky for investors to invest in because interest is paid at a pre-determined rate and, if interest is not paid, the bank cannot pay dividends on its ordinary shares. In addition, investors should receive ordinary shares in the bank worth a fixed value on a fixed date, subject to certain conditions being satisfied. Tier 2 hybrid capital securities are less risky again for investors to invest in because interest will not be paid, only in limited circumstances and investors should receive their money back on a fixed date.

Question 3: Can you compare term deposits, Tier 1 hybrid capital securities and Tier 2 hybrid capital securities just by looking at their interest rates?

(a)    Yes - they are all issued by the same bank so you just need to compare the interest rates.

(b)   No - they are different types of investments so just comparing the interest rates is not enough.

Answer

The answer is (b). They are different types of investments so they have different risks and benefits. The prospectus for bank hybrid securities usually contains a table comparing that security to other investments offered by the same bank, including term deposits, to assist you to compare them.

Question 4: If a bank hybrid security offers "discretionary, non-cumulative interest, paid quarterly in arrears", this means:

(a)    Interest is guaranteed to be paid every 3 months.

(b)   Interest should be paid every 3 months but may not be paid at the discretion of the bank. If interest is not paid, the bank has an obligation to pay it sometime in the future.

(c)    Interest should be paid every 3 months but may not be paid at the discretion of the bank. If interest is not paid, the bank does not have an obligation to pay it at all.

Answer

The answer is (c). Bank hybrid securities can have discretionary, non-cumulative interest. They are riskier than other securities which pay interest that is not discretionary or is cumulative. Before investing, you should ensure you are comfortable that the bank is paying you an appropriate return for investing in such securities.

Question 5: If a Tier 1 hybrid capital security is described as having "a first call date of 5 years and a mandatory conversion date of 7 years", when is the bank required to repay your investment?

(a)    5 years.

(b)   7 years.

(c)    At call.

Answer

The answer is (b). The bank has an option to repay your bank hybrid securities after 5 years but they are not required to repay them until the mandatory conversion date in 7 years' time (subject to certain conditions being satisfied). At that time, they will deliver ordinary shares (not a cash payment) with a value equal to the face value. If you would like to sell your securities before maturity, you may sell them on a stock exchange if the security is listed, but there is no guarantee they will be trading at exactly the same amount as you invested.

Question 6: Bank hybrid securities are "subordinated". If the bank becomes insolvent, this means:

(a)    You will be repaid your entire investment because the hybrid securities are "secured".

(b)   You could lose some or all of your investment.

(c)    You will get nothing back.

Answer

The answer is (b). Bank hybrid securities are not secured. If the bank becomes insolvent and is liquidated, the securities rank for payment behind other creditors. This means that creditors such as depositors will be paid first and some or all of your investment may not be repaid.

Question 7: Bank hybrid securities have "loss absorbing features". This means:

(a)    They are loss absorbing for you so that, if there is a market downturn, your investment is protected.

(b)   They are loss absorbing for the bank. If the bank experiences financial difficulty, the bank may not pay the interest or repay the face value. You could lose some or all of your investment.

(c)    They are deposits protected by the government guarantee on deposits.

Answer

The answer is (b). Bank hybrid securities have loss absorbing features such as non-viability triggers and capital triggers. If the bank experiences financial difficulty, the bank may not pay the interest or repay the face value. The securities may be converted into ordinary shares which are a different type of investment. Bank hybrid securities are not deposits and are not protected by the government guarantee. 

Question 8:  Which of the following are risks of bank hybrid securities?

(a)    Bank hybrid securities are complex to understand.

(b)   Distributions are at a pre-determined rate. Investors do not benefit from any increase in the profits of the bank.

(c)    If the bank becomes non-viable, investors may lose some or all of their investment.

(d)   All of the above.

Answer

The answer is (d). Bank hybrid securities have complex features of both debt and equity which you should ensure you understand before investing in them.

Question 9: Are bank hybrid securities issued by one bank the same as securities issued by another?

(a)    Yes - they are the same type of investment and therefore have the same risks.

(b)   No - they are issued by different banks and therefore have different risks.

Answer

The answer is (b). Every bank hybrid security is different, even if issued by the same bank (for example, they may have different maturity dates). If they are issued by different banks, the risks of each bank's business is different from another bank's. The prospectus for bank hybrid securities contains information about a bank's business risks to assist you to compare banks, and you should also understand their key ratios.

Things you should know

The information in this module is not investment advice and has been prepared without taking into account your investment objectives, financial situation or particular needs (including financial and taxation issues). If you have any questions, you should seek advice from your financial adviser or other professional adviser.