Credit in Korean papers at risk after a midsized insurer forfeits call option

Confidence in Korean Inc. could be in question after a midsized insurer forfeited the option to repay U.S. dollar-denominated perpetual bonds, the first move by a Korean financial issuer in 13 years.

Heungkuk Life Insurance on Tuesday informed global investors that it would not be exercising Nov. 9-set call option over perpetual papers worth $500 million issued in 2017 upon lukewarm response to its plan of offering $300 million in new bonds for refinancing last month when the Korean credit market shook from a default declare on a municipal debt related to Legoland Korea financing.

The last time a Korean financial issuer put off the option to redeem the perps, a type of bond obligation without maturity, was in 2009 when Woori Bank opted not to pay off 10-year $400 million debt ahead of expiry in the wake of the Wall Street meltdown.

Perpetual bonds in theory refers to debt without maturity and obligation to repay. An issuer, mostly a public or financial institution of high credibility, pays bondholders coupons, or interest rates annually like dividends to stocks. They are preferred debt vehicle by financial institutions as it is counted as equity capital instead of debt.

Although the bonds can be perpetual, the issuer usually exercises a call option within five years of issuance. The practice is common when interest rates rise. Forfeiture to the right to buyback comes with a penalty of higher interest payment.

Heungkuk Life Insurance’s annual interest rate for the perpetual bonds will jump to 6.742 percent from 4.475 percent.

A bigger issue is the possible blow to confidence in Korean debt.

“Investors of perpetual bonds buy the bonds with expectations of being repaid normally in five years,” said an unnamed bond trader of a Korean institution. “The risk of deferment of payment can hurt the creditability of Heungkuk and other Korean issuers to push up the interest on Korean papers.”

Korean issuers could find unfavorable conditions at home and abroad.

“The case is being closely watched as hybrid security is issued by major financial holding companies, banks, and securities firms,” said an executive from a Korean brokerage who asked to be unnamed.

“(Heungkuk Life Insurance) choosing to pay higher coupon instead of redeeming could raise liquidity question for Korean papers in the international market,” he added

Heungkuk Life Insurance said it would wait until market conditions improve for debt issue for refinancing.

“There was a similar case in European financial sector last month due to the same reason,” the insurer pointed out denying any problems with liquidity conditions.

Heungkuk Life Insurance’s risk-based capital ratio (RBC) stood at 158 percent as of end of June, above the government guideline.

Financial authorities have been informed of the move to ready against contingency.

Global bonds by Korean issuers due next year reach $24.9 billion, about 22 percent greater than this year’s amount, according to NH Investment & Securities.

By Han Woo-ram, Cho Yoon-hee, Shin Chan-ok, and Lee Eun-joo