Abstract
Contingent Convertible bonds (CoCos) convert into equity or are written down in times of distress. Existing pricing models assume conversion triggers based on market prices assuming that markets observe all relevant information. We incorporate that markets receive information through noisy accounting reports only, distinguish between market and accounting values and incorporate that coupon payments are subject to a Maximum Distributable Amount limit. We examine the impact of CoCo design and accounting noise on prices. Most importantly, we discuss the capital structure decision, explain why nondilutive CoCos tend to be chosen and how these increase the bank’s risk-taking incentives.
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