Research
Working Papers
ELACs not TLACs: CoCo Design and Troubled Bank Shareholder Loss Mitigation, with Linda Allen and Joonsung Won.
Featured in: FEN Banking & Insurance eJournal (Vol. 14 No. 293, 08/21/2023).
Abstract: Using hand-collected data (across 27 countries) on all contingent convertible capital bonds (CoCos) issued during 2009-2021, we identify a shift in design toward nondilutive instruments with low CoCo trigger levels that specify positive wealth transfers from bondholders to stockholders upon bank failure, thereby transforming CoCos from TLACs (Total Loss Absorbing Capacity) to ELACs (Equity-protecting Loss Absorbing Capacity). If Credit Suisse’s CoCos had not had ELACs, shareholder payoffs from the March 2023 failure would have declined 36.5%.
Abnormal announcement returns for CoCos with ELACs are positive, reflecting ELACs’ extreme loss mitigation for stockholders. Systemic risk-reducing, dilutive CoCos without ELACs are more prevalent in common and French-civil law countries and have significantly negative announcement returns, reflecting managerial commitment to recapitalize troubled banks. Banks issuing CoCos without ELACs overperform during periods of high aggregate uncertainty.
Presented at:
- Midwest Finance Association (MFA) 2024 Annual Meeting. Chicago, USA (March 2024).
- Eastern Finance Association (EFA) 60th Annual Meeting. St. Petersburg, USA (April 2024).
- Financial Management Association (FMA) 2024 European Conference. Turin, Italy (June 2024).
Publications
Do CoCos Serve the Goals of Macroprudential Supervisors or Bank Managers?, with Linda Allen. Journal of International Financial Markets, Institutions & Money, Volume 84, April 2023, 101761.
Abstract: Using a hand-collected, comprehensive sample of contingent capital bonds (CoCos) issued by banks over the 2009-2019 period, we identify shifts in CoCo design features that nullify their putative salutary macroprudential benefits. Increasingly, CoCos are issued without punitive wealth transfers from shareholders to bondholders, thereby removing incentives for bank managers to take preemptive, risk-reducing action in order to prevent the CoCo from triggering. That is, CoCos are overwhelmingly issued with conversion ratios of zero (principal writedowns) that do not mitigate bank risk taking.
Further, CoCo issuance can be used to circumvent supervisory discretion over bonus and dividend payouts. That is, CoCos issued as Additional Tier 1 capital relax regulatory constraints, particularly for banks close to the Maximum Distributable Amount (MDA) threshold. Bank managers are aware of these loopholes and exploit them to the detriment of financial market stability and macroprudential objectives.
Presented at:
- 5th Edition of International Risk Management Conference (IRMC) on ”Risk Management and Sustainability in an Era of Pandemic and Climate Change”. Bari, Italy (July 2022).
- 28th Dubrovnik Economic Conference. Dubrovnik, Croatia (July 2022).
- Bank of Israel. Jerusalem, Israel (July 2022).
- Special Theme Conference of the Journal of International Financial Markets, Institutions & Money (JIFMIM) and Finance Research Letters (FRL) on ”The Effectiveness of Financial Regulation”. Rishon LeTsyon, Israel (June 2022).
Work in Progress
- International Regulatory Frameworks and the Role of CoCo Capital Instruments.
- Industry Concentration and Momentum Crashes.
Awards
- Mills & Tannenbaum Award for Outstanding Scholarship, Baruch College