Bank of Cyprus may turn to covered bonds for a new issue it is contemplating for launch in September, but an unsecured deal is also an option, said an official at the bank. Either would be the first public bank bond from Cyprus since its bail-out, and a covered bond the lowest-rated to hit the market.

Despina Kyriakidou, group treasurer at Bank of Cyprus, said that the bank is contemplating a benchmark bond issue in September and has received a number of reverse enquires regarding a covered bond issue, although it may opt for a senior unsecured transaction instead.

“No decision has been made if it will be a covered bond or senior unsecured and the decision to go ahead will depend on market conditions,” she said. “Nothing is set in stone.”

The target is a benchmark issue, but this, too depends on market conditions, she added.

“No banks have been mandated, but this will be the next step,” she said.

Kyriakidou was commenting after the Cypriot bank yesterday (Tuesday) announced a Eu1bn capital increase, which she said would help the bank access debt funding on more favourable terms.

“The successful capital raising should strengthen debt investors’ confidence in the bank and the feedback received to date suggests that there is healthy appetite in the market for the bank’s debt,” she said.

A benchmark covered bond from Bank of Cyprus would be the bank’s first. It has Eu1bn of covered bonds outstanding, but these were retained. They have a June 2017 maturity date and are backed by Cypriot mortgages. The bank previously had covered bonds outstanding by a cover pool of Greek mortgages, but these were cancelled in March 2013 as part of restructurings in the Cypriot banking sector.

The benchmark covered bond under consideration would be backed by Cypriot mortgages, according to the bank. Based on a June quarterly regulatory disclosure report, the cover pool amounts to Eu1.12bn.

A senior unsecured or covered bond benchmark from Bank of Cyprus would be the first public bond from a Cypriot bank since the country was bailed-out in March 2013, with losses imposed on senior unsecured creditors of the country’s banks and uninsured depositors also shouldering a cost of the banks’ rescue. The sovereign has already regained access to the debt capital markets, pricing a Eu750m five year benchmark issue in June.

Syndicate officials said that whether a deal emerges from Bank of Cyprus and what form it takes will depend on several factors, with a case to be made each for a covered bond and a senior unsecured issue.

One syndicate official said that the issuer would be exploring both options, with each being viable, but that a senior unsecured deal would make more economic sense.

“Investors would prefer having collateral behind it, but I think the issuer will find that they wouldn’t get much value for it,” he said.

He suggested that the spread on a Bank of Cyprus covered bond would be around 80%-90% that for a senior unsecured deal, compared with a bigger covered bond-senior unsecured spread differential, of around 50%, for Italian and Spanish issuers.

Collateral availability would also have to be considered, he said.

Another syndicate banker noted that the Greek banks opted for senior unsecured deals to make their return to the public bond market since the sovereign had to be rescued, but that Irish banks did so via covered bonds.

Alpha Bank, Eurobank Ergasias, National Bank of Greece and Piraeus each sold senior unsecured deals this year, with Piraeus the first to do so, pricing a Eu500m three year at 5.125% in March. Their deals came after the sovereign regained debt capital market access.

Another syndicate official acknowledged that a senior unsecured deal might be more economically efficient than a covered bond for Bank of Cyprus, but that the issuer “will look beyond and above economic efficiency” when deciding on the format of a deal, should one emerge.

This is because a transaction would not, given the availability of cheaper funding via the European Central Bank, be a pure funding exercise, according to the syndicate banker.

“It would be a statement of intent, with a strategic element to it,” he said. “If markets are volatile even if the spread differential is narrow the execution might be better in covered. If markets are rallying then a senior unsecured would make more sense.

“There are a couple of things to monitor and the issuer is sensible to keep its options open.”

Bank of Cyprus is carrying out an open offer to existing shareholders in a follow-up to the Eu1bn capital increase,  and the syndicate banker said the outcome of this will be a determinant and gauge of sentiment toward the bank. The open offer involves a clawback of up to 20% of the Eu1bn of new shares, with a retail offer of an additional Eu100m of new share, open to all existing shareholders, to follow. (Article amended to correct reference to rights issue.)

“Let’s see how that goes first,” he said.

Bank of Cyprus’s covered bonds are rated Caa1 by Moody’s and CCC by Fitch. It is thought that a benchmark covered bond from the bank would be the lowest rated such issue to hit the market, and the first with a sub-investment grade rating. Italy’s Banca Popolare dell’Emilia Romagna sold a new issue in October 2013 when its obbligazioni bancarie garantite were rated Baa2 by Moody’s; they have since been upgraded to A3.

Moody’s upgraded Bank of Cyprus’s covered bonds from Caa2 to Caa1 in March following an upgrade of the country’s long term bond ceilings. It rates the issuer at Ca. Fitch affirmed the bonds’ CCC rating on 7 July after upgrading the issuer from Restricted Default to CC because of the lifting of capital controls in Cyprus. The rating agency has not assigned an outlook to the covered bonds.