Co-op Bank's plan to raise money from the stock market is bad news for some bondholders.
Co-op Bank’s decision to merge with the Britannia Building Society in 2009 was a big mistake. Britannia had made too many dodgy loans that now can’t be repaid. As a result, the merged Co-op/Britannia bank has been weak for the last four years.
Co-op’s weak balance sheet means the bank would be vulnerable if there was another financial crash, and regulators aren’t prepared to tolerate that kind of vulnerability. So today (Monday) the bank has made a major announcement, which has two core components – one that affects bondholders and one about the sale of some of the bank's assets.
Bonds
Firstly, many investors who own bonds issued by Co-op Bank will have to swap their bonds for other assets in October. These bonds are effectively IOUs issued by Co-op Bank to investors. Co-op Bank currently pays regular coupons (similar to dividends paid to shareholders) to these bondholders.
For some investors, the replacement assets will be riskier bonds. Others will be given shares instead of bonds. In both cases, investors will end up with riskier assets and will probably end up losing any annual income they currently receive.
Although most of the current bonds are held by large investors such as pension funds, around 5% are held by private investors.
Frustratingly, Co-op Bank hasn’t given much detail on what is planned, so it’s a worrying time for anyone who owns any Co-op Bank bonds. The only good news is that Co-op Bank has hinted that it may soften the blow for individual bondholders. It plans to announce ‘appropriate proposals for small retail investors’.
[SPOTLIGHT]It’s important to note that savings products such as fixed rate bonds will not be affected by today’s announcement. Once the extra cash is raised in October, Co-op Bank’s balance sheet will be strong and the chance of savers losing any cash will be very low.
That said, it makes no sense to deposit more than £85,000 with Co-op Bank, whether that’s in a current account or savings product.
If Co-op Bank collapsed, you would be able to get compensation from the Financial Services Compensation Scheme (FSCS) for up to £85,000. Beyond that figure, you’d be on your own. So if you’re lucky enough to have more than £85,000 in cash, it makes sense to spread your money around more than one bank.
Sales
The other component of today’s announcement is that Co-op Bank will raise further cash by selling some of its assets, primarily its general insurance business. Moreover, the wider Co-op Group is also expected to inject some cash into the bank.
Shame
It’s a great shame that Co-op Bank has got into such a mess. If we’re to have a truly vibrant banking market, we need a variety of different institutions offering banking service. As things currently stand, Co-op Bank is a ‘mutual’ which means it’s completely focused on the needs of its customer rather than shareholders.
However, once the shares are issued, Co-op Bank will be listed on the stock market and its character and ethos could change significantly.
It’s also a pity that Co-op Bank wasn’t strong enough to carry on with its plan to buy over 600 bank branches from Lloyds. That transaction would have created a real ‘sixth force’ in the UK banking market. Sadly, that’s now not going to happen any time soon.