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As interest rates climb in the GCC region and liquidity tightens, regional banks are likely not to call their hybrid capital instruments at their first optional call date as replacing an existing instrument could add to the banks' cost of capital, new analysis from S&P Global Ratings showed.
Any such move would support the banks' creditworthiness and not constitute a default, S&P's analyst Mohamed Damak said in the report.
Conventional and Islamic hybrid capital instruments have been the preferred method of raising regulatory capital at some Gulf banks for the past decade. "After showing a marked preference for conventional and Islamic hybrid capital instruments over the past decade, we believe volatile conditions could prompt a change of approach from GCC banks," the report said.
As of September 30, 2022, hybrids contributed an average of 13.5% to total adjusted capital (TAC) at the region's rated banks, up from an average of 2.3% at year-end 2011.
Over the past decade, GCC banks issued both conventional y additional Tier 1 (AT1) instruments and Islamic instruments (typically using a mudaraba structure).
While some banks have issued no hybrid instruments at all; others have almost a quarter of their TAC in hybrids.
S&P said both Islamic and conventional hybrid AT1 instruments allow issuers to suspend payments--periodic distributions for the Islamic instruments and coupons for the conventional instruments without triggering a default, while the bank is still a going concern.
"A noncall decision doesn't constitute an event of default and can be credit supportive, in our view."
(Writing by Brinda Darasha; editing by Daniel Luiz)
