Contingent Convertible Bond: Pricing Approach and ABBANK Case

Abstract

The recent financial crisis has brought about the need to revise capital structure of several large banks, which raises the question about a new kind of financial instrument that can enhance the loss absorption of the banks in bad time and still overcome their reluctance to issue equity in good times. Along the controversial discussion, contingent convertible bond (CoCo) has emerged in the hope for future banking stability of many regulators and credit institutions. With its typical features, CoCo is designed to convert into equity upon a pre-determined trigger event which may be based on accounting approach, market-based approach or regulatory approach. Catching with high speed of its development, this paper aims at providing readers fundamental knowledge on this new hybrid security, ranging from its history, basic triggering features to its merits in the first part. Importantly, CoCo pricing issue is going to be discussed in the second part with one bank case from Vietnam (the ABBANK case) in the third part to analyze its behavior, its benefits and drawbacks compared with the traditional convertible bond that the bank is currently holding. Hopefully, to some extent, what is presented in this paper can be the base for any further application in the banking industry where banks seek foremost the ways to increase capital in order to comply with exigency of capital adequacy ratio.