Given these characteristics, hybrid debt yields are significantly higher than senior bonds of the same high-quality investment grade issuers. Euro denominated corporate hybrid debt currently offers an average yield of over 4%, which is almost 3% higher than the average yield for euro investment grade credit.
Complex nature
“We believe these bonds are currently trading on average over 100bps wide of fair value. Also, we believe the large amount of new issuance is likely to continue coming at a discount, providing an additional source of return,” Marks added.
“However, due to the relatively complex nature of these instruments, investing in corporate hybrids requires specific expertise, including a thorough credit assessment and an in-depth analysis of the issue features, in order to reach a conclusion as to a fair valuation.”
Neuberger Berman currently manages about $500m in dedicated corporate hybrid mandates, primarily for Japanese institutional clients.
Marks continued: “The appeal of issuing hybrid debt is clear for corporates, as these instruments provide significantly cheaper funding compared to equity capital. Coupons on hybrid debt are fully tax-deductible, while dividends on equity are not.
“Companies can issue hybrid capital without diluting voting rights of existing shareholders, while equity credit from rating agencies supports credit ratings. Most hybrids receive 50% equity credit at issuance. In addition, the optionality afforded on coupons and calls of hybrids is another attraction relative to senior debt,” he added.
