Do hybrid bonds actually offer bank depositors any protection?

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₹4 trillion on 31 March 2024 (a fifth of the system’s net worth of over ₹21 trillion), with Tier 1 bonds accounting for around 30% of total outstanding debt capital instruments. Over the last decade, the covenants for coupon payments on Tier 1 bonds have undergone a change to ease the ability of banks to service them. This has also improved investor appetite for these bonds, which can be serviced only through the profits or accumulated profits of banks.

As some banks suffered huge losses during India’s last phase of asset quality stress (from 2015-16 to 2019-20), many banks, including public sector lenders, came close to skipping coupon payments on these bonds. Nevertheless, with large capital infusions from the government, several public sector banks were able to service these bonds. Hence, while these bonds always had a write-down feature, the onus of bailing out these banks fell on the government.

Subsequently, prior government approval was made a prerequisite for public sector banks to issue such Tier 1 bonds from January 2018 onwards. These debt capital instruments usually promise higher yields on account of the greater risk of holding them. However, the attractiveness of their yield premium over safer bonds is debatable, given recent instances of such instruments being written down, or in the backdrop of the extraordinary financial support extended by the government even to the weakest public sector lenders.

The Supreme Court’s judgement on Yes Bank’s Tier 1 bonds will be under watch, as it will set a precedent for the fate of these debt instruments in future bank resolution cases. It could also offer clarity on the bank regulator’s jurisdiction over such matters. Clarity on these issues will be crucial not only