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Author 10Bagger01     View Profile     Add to favourites     Ignore
Date posted 2009-05-19 19:51
Subject Bank of Scotland (Halifax) 9.375% Perpetual Bond 
Opinion Strong BUY
Votes for this Posting Voted UP 5 times.
Message
I think these corporate bonds are worth looking at:-

The positives for the BOS 9.375% (HALP) are:-

- at the current price of 65p, they yield 14.4% p.a. and trade at a 58% discount to their peak value in 2007 (155p).

- they are better value than the Halifax 9.375% Subordinated Bonds Repayable in 2021. This Lower Tier 2 bond is slightly safer than the HALP but trades at 92p and yields 10.2% p.a. Historically both bonds traded at similar levels. The 41% price premium over the HALP appears too great.

- the HALP trades at a significant discount to the Lloyds Pref shares with similar coupons. This is really strange as the Prefs rank behind HALP in terms of security and the HALP appears to be a cumulative instrument whereas the Prefs are not. It is possible that the Prefs are more liquid.

- Barclays 9% Permanent Bond has soared in value and is now at around 80p (a 23% premium to the HALP). Barclays offered to exchange the bonds for Lower Tier 2 Bonds on a lower yield. This allowed Barclays to book a profit of 20p per unit (i.e. difference between the issue price of the bond and the conversion price) and therefore enhance its Tier 1 capital (by £800m in total). Lloyds Group has done some of this already with other bonds. It may now turn its attention to its perpetuals.

- if the economic recover is weak and corporate profits remained muted, Corporate Bonds may offer superior return in terms of both yield and the opportunity for a tax free capital gain.

- the Government's scheme to underwrite up to £250bn of Lloyds Group's toxic assets (of which £180bn relate to HBOS plc), should help to underpin these bonds.

Negatives:-

- trying to get your head around the Terms of these bonds and the risks associated with them having been issued by a subsidary company (see below).

- illiquid and wide buy and sell spreads.

- a further deterioration in the economy and the subsequent complete nationalisation of Lloyds Group plc.

Terms of the Bond:-

I emailed Investor Relations at Lloyds Grp plc who advised me these Bonds are non-cumulative. However, my own reading of the prospectus suggests otherwise and that the Coupon on the bond may be missed but must be paid (inc. arrears) before any dividends can be paid. Also a solvency test must be satisfied before any interest can be paid (i.e Gross assets must be greater than Gross liabilities).

Please see link to the 142 page prospectus.

http://www.lloydsbankinggroup.com/media/pdfs/investors/UT2/1998Oct26_Halifax_UT2_OC_GB0005242879_50M_9.375pc.pdf

The Bond is now a liability of the Bank of Scotland plc ("BOS"). The relevance of this is that the "solvency test" and the "dividend test" (see above) both relate to BOS plc and not the balance sheet or any dividend payments made by the ultimate parent company Lloyds Group plc or the immediate holding company, HBOS plc.

So, I think it would be possible for Lloyds Grp plc to pay a dividend to its shareholders and not have to pay interest and/or accrued interest on the BOS 9.375% Perpetual Bond. Can anyone confirm this view?

HALP is great value and the price is now moving (up 4p today) but thought needs to be given to the downside risks and the complexity of the instrument.

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