FCA Says CoCos Are A No-No For UK Retail Investors

Mark Shapland

6 August 2014

The has banned the selling of high yield bonds named contingent convertible securities - or CoCos - by banks to ordinary retail investors from October.

The regulator has decided to flex its muscles, stating that the bonds are too complex for ordinary investors to understand. CoCos instead will only be distributed to professional, institutional and sophisticated or high net worth retail investors.

“In a low interest rate environment many investors might be tempted by CoCos offering high headline returns,” said Christopher Woolard, FCA director of policy, risk and research.

"However, they are complex and can be highly risky, and the FCA has used its new powers to ensure that CoCos are not inappropriately made available to the mass retail market while still allowing access for experienced investors."

CoCos are popular as they convert to equity as a result of some triggering event. For most of the banks issuing the bonds, the trigger is capital falling below a certain threshold. Regulators like them because they offer an instant increase to capital cushions in times of crisis, in theory preventing taxpayers from having to bail out banks. Investors snap them up as they have a high return.

“CoCos can be written off (in part or entirely) or converted into equity when the issuer’s capital position falls, while issuers can have unusually broad discretion in relation to coupon payments, making it extremely difficult for investors to assess, understand and price CoCos. At present there is little experience of how CoCos operate in practice,” the FCA added.

The CoCo market is still small, with banks having issued only £40 billion ($67.4 billion).