RBC’s rough share sale catches bankers by surprise

Share

The latest preferred share offering from Royal Bank of Canada struggled to sell, marking a surprising change following a string of successful deals.

Since the financial crisis, Canadian banks have sold billions of dollars worth of preferred shares to boost their capital level – and they've been easy sells for the most part.

Because preferred shares offer better yields than government bonds, retail investors have been happy to snap them up. Demand is usually so heavy that the deals are often upsized, and sometimes even doubled in value.

Yet RBC's most recent $300-million deal struggled to find buyers, according to people familiar with the offering, prompting the bank to re-price it. Preferred shares are always sold for $25 each, but RBC's deal had to be 'cleaned up,' or re-priced, at $24.35.

Investors apparently balked because of the coupon RBC tried to offer them. A week before the offering was announced, Toronto-Dominion Bank launched its own preferred share sale, and promised to pay a 3.6 per cent annual coupon. RBC told investors it would pay the same rate – the problem is that underlying bond yields moved between the dates when the deals were offered.

Preferred shares are priced off the five-year Government of Canada bond yield, and this yield climbed roughly 15 basis points higher between the RBC and TD deals. Instead of boosting its preferred share coupon by the same amount, RBC apparently hoped investors wouldn't notice the shift.

The struggling deal surprised a number of investment bankers; the wild successes of recent bank preferred share offerings made them think these deals would constantly sell out. Some underwriters were so surprised that they went through their databases to find an example of a similar deal struggling. They couldn't.

Banks have relied on the preferred share market to meet some of their capital needs. Billions of dollars worth of these securities were sold right after the financial crisis, but a recently regulatory change rewrote the rules, preventing the outstanding shares from counting toward capital calculations in the future.

For that reason, banks have had to re-issue these securities and add in new clause that would see the securities converted into debt should a major financial crisis hit.

The first batch of these new preferred shares hit the market in January 2015 and since then more than $5-billion have been sold, feeding Bay Street with fees.