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The case could prove excruciating for Switzerland

Angry investors are parking metaphorical tanks on Paradeplatz in Zurich’s financial district. Holders of $17bn in Credit Suisse AT1 bonds are squaring up for a legal fight with Switzerland. This promises to be as fierce as the scrap between Argentina and US hedge funds over a 2001 debt default.

Swiss authorities wiped out $17bn of the securities when they engineered a takeover of the struggling lender by UBS. This came as a bigger shock than the rescue deal itself.

Why? Equity is supposed to evaporate before AT1s, but Credit Suisse shareholders have been promised UBS stock worth some $3bn. Moreover, AT1 securities — designed to absorb capital losses — were entirely wiped out even though Credit Suisse was well-capitalised.

Law firms such Quinn Emanuel and Pallas are mustering disgruntled bondholders. Claims including compensation should easily exceed the value of the bonds.

The legal argument may run like this. In an insolvency, Swiss law decrees that equity absorbs losses before debt. Anyone working to stave off an insolvency is precluded from disregarding that.

Swiss AT1 bonds are bound by fine print envisaging the inversion of the hierarchy in some cases. But it is questionable whether Credit Suisse’s shotgun marriage qualified.

Switzerland hurriedly passed an emergency law empowering regulators to void the AT1s. Bondholders may still sue the authorities for an alleged failure to respect property rights.

The whole AT1 asset class has taken a knock. If AT1s are junior to equity, buyers should get coupons higher than equity returns. Credit Suisse AT1s trade at mere cents. This intrigues hedge funds with a legal bent.

The case of Switzerland vs Bondholders will be argued as hotly and lengthily as Jarndyce vs Jarndyce, a fictional probate case only benefiting lawyers. It could prove excruciating for Switzerland. It may expose exactly why officials handed UBS a $17bn sweetener at bondholders’ expense, while giving shareholders a small sop.

EU and UK regulators have reaffirmed commitment to the traditional capital hierarchy. If AT1 bonds cost issuers more than equity, no more of them will be issued and capital rules would need rejigging.

The implicit message is that Switzerland is on its own. Brussels and London are shielding their own prudential regimes. If that creates a Swiss discount for regulatory capital issued by its banks, too bad.

Distressed asset investor David Tepper says trust in European debt issuance at stake

US distressed debt investors and corporate litigators are preparing to fight the Swiss government over its decision to write down $17bn of Credit Suisse bonds as part of the bank’s shotgun marriage with UBS.

Switzerland provoked the ire of bond investors when the government used an emergency ordnance to write down the bonds to zero, even as it orchestrated a deal where UBS will pay $3.25bn to shareholders.

AT1s are a class of debt designed to take losses when institutions run into trouble but are generally believed to rank ahead of equity on the balance sheet.

“If this is left to stand, how can you trust any debt security issued in Switzerland, or for that matter wider Europe, if governments can just change laws after the fact,” David Tepper, the billionaire founder of Appaloosa Management, told the Financial Times. “Contracts are made to be honoured.”

Tepper is among the most successful investors in troubled financial companies, famously making billions of dollars on a 2009 wager that US banks would not be nationalised during the last financial crisis. Appaloosa had bought a range of Credit Suisse’s senior and junior debt as the bank descended into chaos.

Mark Dowding, chief investment officer at RBC BlueBay, which held Credit Suisse AT1 bonds, said Switzerland was “looking more like a banana republic”. His Financial Capital Bond fund is down 10.7 per cent this month.

Some funds have been buying exposure to the debt in preparation for the legal battle. Goldman Sachs is one of the banks facilitating claims trading and has offered prices at single-digit cents on the dollar.

Quinn Emanuel Urquhart & Sullivan and Pallas Partners are among the law firms representing bondholders, with Quinn hosting a call on Wednesday joined by over 750 participants.

Quinn partner Richard East told the Financial Times the deal was “a resolution dressed up as a merger” and pointed to statements by the European Central Bank and the Bank of England, which distanced themselves from the Swiss approach.

“You know something has gone wrong when other regulators come and politely point out that in a resolution [they] would have respected ordinary priorities,” he added.

Quinn is eyeing lawsuits in multiple countries, according to lawyers at the firm. Potential avenues include challenges to the actions of the regulator Finma on the basis of a violation of investors’ property rights or an arbitrary exercise of discretion.

The firm is also probing whether Credit Suisse could be liable for mis-selling over statements made to investors, including in an investor presentation in March.

Pallas Partners also held a call with potential clients on Wednesday afternoon. Natasha Harrison, the firm’s founding partner, said there was “a very good argument that misrepresentations and misstatements have been made about the financial safety of Credit Suisse as recently as 14 March”.

Credit Suisse’s AT1 bonds started to plunge last week after its largest investor ruled out providing more capital and wealthy clients withdrew SFr35bn in deposits.

Global distressed funds saw an opportunity and bought some of the riskiest debt, gambling that the government would not let its second-largest lender collapse and would instead arrange a merger with its rival, UBS.

While the terms of Credit Suisse’s AT1 bonds warned that Swiss regulators “may not be required to follow any order of priority” — several investors and analysts have argued that the contractual conditions for writing down the bonds were not met.

Usually, AT1s can only be triggered if a “viability event” occurs, described in the prospectus as when “customary measures” to improve the bank’s capital adequacy are “inadequate or unfeasible” or the institution receives “an irrevocable commitment of extraordinary support from the public sector” to prop up its capital level.

The Swiss government said last week that a law change had given it a “clearer legal basis” to wipe out the bonds.

Pimco, Invesco, BlueBay and Legg Mason are among the longer-term holders of Credit Suisse’s AT1 bonds.

Värde Partners, a prominent alternative credit investor founded in Minnesota, had a small position in AT1 bonds going into the fateful weekend, according to a person familiar with matter.

Funds run by Algebris Investments, Lazard and GAM are among fund managers that have been hit hard by a wider sell-off in AT1 debt.

AT1s fell as much as 19.5 per cent in the month to the end of Monday, according to an iBoxx index of such debt, although they have since recovered some ground.

Lazard Capital Fi fund, which invests in AT1s including Credit Suisse, lost 9 per cent on Monday, taking losses this month to 17.3 per cent.

• The sun is sporting a giant coronal hole that could fit 20-30 Earths across, back-to-back.
• Coronal holes blast rapid solar winds into space that travel 500-800 kilometers per second.
• The winds are relatively harmless and should reach Earth by Friday for a more stunning aurora.

Despite the name, however, this isn't a physical hole in the solar surface; coronal holes are cooler in temperature, so they don't glow as bright as other areas of the sun and therefore look black.

"The current coronal hole, the big one right now, is about 300,000 to 400,000 kilometers across," Alex Young, the associate director for science at NASA Goddard's Heliophysics Science Division, told Insider over email. "That is about 20-30 Earths lined up back-to-back."

Coronal holes are common; there is "nothing unusual here," Scott McIntosh, a solar physicist and the deputy director of the National Center for Atmospheric Research, told Insider in an email.

Holes like this are part of the sun's normal activity, but McIntosh said that they are "not well understood" and called these events "the 'dark side' of solar activity."

Coronal holes are the source of rapid solar winds, which reach speeds of about 500-800 km per second, Young wrote. The solar winds from this coronal hole are scheduled to reach Earth by the end of this week.

"We will probably start seeing the effects of the high-speed wind on March 24," Young added. "When the high-speed wind reaches Earth, the particles and the magnetic field it carries will interact with Earth's magnetic field, effectively rattling it or like ringing a bell."

More powerful magnetic fields, like from a coronal mass ejection, could cause electrical blackouts or disrupt communication technology. But coronal holes — even large ones like this — are far less violent. So the main effect to look forward to this Friday is a more vibrant aurora borealis.

However, we are entering a new phase of increasing solar activity where coronal holes will be less frequent, and coronal mass ejections and powerful solar flares will become more common, Young said.

That can be a concern since the powerful magnetic fields from coronal mass ejections and solar flares have been known to surge power grids and fry satellites — however, these events are infrequent.

Young said that for him and other solar scientists, "it's gonna get more and more exciting and interesting" as solar activity increases.