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ybridsâ is a term that has traditionally been used to refer to securities that have features of both debt and equity. Beginning in 1993 U.S. companies began issuing a type of hybrid called âtrust preferreds.â Like debt, these securities called for periodic interest payments that were deductible when calculating corporate income taxes. But unlike conventional debt, the issuers of trust preferreds retained the option to defer interest payments when facing ï¬nancial difï¬culty. This ability to defer interest, when combined with maturities of 30 years or more and a subordinated position in the capital structure, allowed the securities to gain partial âequity creditâ from the rating agency Standard & Poorâs (S&P). More importantly for bank holding companies, the Federal Reserve (Fed) in 1996 began to allow such securities to qualify as Tier 1 capital when determining a bankâs capital ratios.1 Despite S&Pâs and the Fedâs acknowledgement of the equity-like function of trust preferreds, Moodyâs for many years viewed trust preferreds as an expensive form of debt. And until fairly recently, this view helped limit their issuance mainly to ï¬nancial institutions and regulated corporates such as utilities. Then in February 2005, Moodyâs changed its guidelines for assessing the equity credit
Journal of Applied Corporate Finance – Wiley
Published: Jun 1, 2007
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