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Contingent Capital: The Case of COERCs

Christian C. P. Wolff

University of Luxembourg - Luxembourg School of Finance; Centre for Economic Policy Research (CEPR)

George Pennacchi

University of Illinois

Theo Vermaelen

INSEAD - Finance

March 15, 2012

AFA 2013 San Diego Meetings Paper

This paper introduces, analyzes, and values a new form of contingent convertible (CoCo), a Call Option Enhanced Reverse Convertible (COERC). Issued as a bond, it converts to new shareholders’ equity if a bank’s market value of capital falls below a pre-specified trigger. The COERC avoids the problems with market based triggers such as 'death spirals' as a result of manipulation or panic. A bank that issues COERCs also has a smaller incentive to choose investments that are subject to large losses. Furthermore, COERCs reduce the problem of 'debt overhang,' the disincentive to replenish shareholders’ equity following a decline. The low risk of COERCS should increase their appeal to risk-averse bondholders.

Number of Pages in PDF File: 54

Keywords: crisis, banks, recapitalization, reverse convertible

JEL Classification: G20, G32, G33

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Date posted: March 16, 2012  

Suggested Citation

Wolff, Christian C. P. and Pennacchi, George and Vermaelen, Theo, Contingent Capital: The Case of COERCs (March 15, 2012). AFA 2013 San Diego Meetings Paper. Available at SSRN: https://ssrn.com/abstract=2023009 or http://dx.doi.org/10.2139/ssrn.2023009

Contact Information

Christian C. P. Wolff (Contact Author)
University of Luxembourg - Luxembourg School of Finance ( email )
4, rue Albert Borschette
Luxembourg, 1246
HOME PAGE: http://www.lsf.lu
Centre for Economic Policy Research (CEPR)
77 Bastwick Street
London, EC1V 3PZ
United Kingdom
George G. Pennacchi
University of Illinois ( email )
4041 BIF, Box 25
515 East Gregory Drive
Champaign, IL 61820
United States
217-244-0952 (Phone)
HOME PAGE: http://www.business.illinois.edu/gpennacc/
Theo Vermaelen
INSEAD - Finance ( email )
Boulevard de Constance
F-77305 Fontainebleau Cedex
33 1 60 72 42 63 (Phone)
33 1 60 72 40 45 (Fax)


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