Can CoCo-bonds mitigate systemic risk? |
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| Affiliation: | 1. Université de Montréal, Canada;2. HEC Montréal, Canada;1. College of Finance, Nanjing Agricultural University, Nanjing 210095, China;2. School of Advanced Agricultural Sciences, Peking University, Beijing 100871, China;3. Business School, Hohai University, Nanjing 211100, China;1. School of Mathematics, Southwest Jiaotong University, Chengdu, China;2. School of Finance, Renmin University of China, Beijing, China;3. School of Finance, Nanjing University of Finance and Economics, Nanjing, China;1. School of Economics and Management, Shanghai Maritime University, China;2. UWA Business School, The University of Western Australia, M250, 35 Stirling Highway, Crawley, WA 6009, Australia;3. Business School, Renmin University of China, China;1. College of Business, Hankuk University of Foreign Studies, South Korea;2. Nottingham University Business School China, University of Nottingham Ningbo, China |
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| Abstract: | After the 2008 financial crisis, the idea of contingent convertible (CoCo) capital was revived as a means to stabilize individual banks, and hence the entire banking system. The purpose of this paper is to empirically test, whether CoCo-bonds indeed improve the stability of the banking system and reduce systemic risk. Using the broadly applied SRISK metric, we obtain contradicting results, which are based on the accounting of the CoCo-bond as debt or equity. This observation is problematic, as CoCo-bonds generally increase the loss-absorbing capacity of a bank. We remedy this shortcoming by proposing an adjustment to the original SRISK formula. Using empirical tests, we show that the undue disparity has been solved by our adjustment, and that CoCo-bonds reduce systemic risk, irrespective of their accounting. Our results are robust to different parametrizations and accounting standards, as well as issuance effects. |
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| Keywords: | CoCo-bonds Financial stability Systemic risk |
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