Abstract
A contingent convertible (CoCo) is a specific type of a convertible bond where conversion (or write-down of a face value) is not an option at the discretion of a bondholder but is forced when regulatory capital fails to meet a predetermined level. That unique feature creates the loss absorbing ability of a CoCo, - a regulatory goal that seems not to be effectively implemented under a pre-crisis legal framework on tier-based capital structure. Use of CoCos for bank recovery and resolution purposes is a vital element of a Bank Recovery and Resolution Directive (BRRD) legal framework. In new CRD IV/CRR regime each AT1 debt instrument must be either a CoCo or a bail-in bond.The open question is how to quantify the impact of the replacement of classical bonds by CoCos on the risk exposure of the issuer. We propose certain scheme how to calculate the decrease of risk measures like Value-at-Risk or Expected Shortfall implied by such change of the issuer’s debt policy.
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