RBC’s Strategic AT1 Issuance in a High-Yield Environment

In a financial landscape defined by persistently low interest rates and a global hunt for yield, Royal Bank of Canada (RBC) has positioned itself as a key player in the Additional Tier 1 (AT1) market. The bank’s recent foray into Canadian dollar AT1 issuance—aimed at refinancing maturing debt and bolstering its capital position—offers a compelling case study for investors weighing risk and reward in an evolving macroeconomic environment.

Strategic Rationale: Refinancing and Regulatory Alignment

RBC’s decision to issue Canadian dollar AT1 notes stems from both operational and regulatory imperatives. The bank’s existing C$1.75 billion AT1 bond, which carries a 4.5% coupon and matures in 2080, becomes redeemable in October 2025. Refunding this debt without issuing new AT1 securities could push RBC’s AT1 capital ratio below the 1.5% regulatory target, a threshold critical for maintaining its risk-weighted asset (RWA) buffer [1]. To mitigate this, RBC is exploring new AT1 issuance with yields potentially 300 basis points above Canadian government benchmarks, a premium reflective of both credit risk and market demand for high-yield instruments [1].

This strategy mirrors RBC’s U.S. dollar AT1 issuance in June 2025, where it raised $1.25 billion at a 6.75% coupon, maturing in 2085. The U.S. dollar deal, structured as Non-Viability Contingent Capital (NVCC) Limited Recourse Capital Notes (LRCNs), featured a hybrid coupon mechanism: a fixed rate until 2030, followed by periodic resets tied to the 5-year U.S. Treasury rate [2]. The Canadian dollar issuance, while still in the pricing phase, is expected to adopt a similar NVCC framework, aligning with global regulatory standards for loss-absorbing capital instruments [3].

Market Context: Yield Appetite and Currency Dynamics

The broader market environment has amplified demand for AT1 securities. Central banks’ dovish posturing and stabilizing inflation have driven investors toward higher-yielding assets, with AT1 bonds—known for their perpetual nature and coupon flexibility—becoming a favored alternative to traditional fixed income. In Canada, this trend is compounded by U.S. dollar weakness, driven by factors such as large government deficits, tariff-related economic uncertainties, and concerns over central-bank independence [4]. A stronger Canadian dollar enhances the appeal of CAD-denominated AT1 for both domestic and international investors seeking currency-hedged returns.

However, macroeconomic headwinds persist. Tariff measures and geopolitical tensions have introduced volatility into fixed-income markets, with investors recalibrating risk appetites. For RBC, this means navigating a delicate balance: issuing AT1 at attractive yields while ensuring pricing remains competitive amid shifting spreads [5].

Risk Analysis: NVCC Triggers and Capital Uncertainty

The NVCC structure, while regulatory-compliant, introduces unique risks for investors. If RBC’s capital adequacy falls below thresholds set by the Office of the Superintendent of Financial Institutions (OSFI), regulators could mandate the write-down or conversion of AT1 notes into equity—a scenario triggered by extreme economic distress rather than arbitrary bank decisions [6]. While RBC’s robust capital position makes such an event unlikely, the mere existence of this clause necessitates careful due diligence.

Credit ratings reinforce this nuanced risk profile. RBC’s NVCC AT1 notes are rated A3 (hybrid) by Moody’s and A– by S&P, reflecting confidence in the bank’s ability to maintain capital buffers [7]. Nevertheless, the limited recourse feature of LRCNs—where holders’ claims are restricted to assets within a special-purpose trust—adds another layer of complexity. In default scenarios, investors may recover only a fraction of their principal, contingent on the value of the trust’s collateral [2].

Opportunity Assessment: Yield Premiums and Liquidity

Despite these risks, RBC’s AT1 issuance presents significant opportunities. The projected 300-basis-point spread over government bonds offers a compelling yield advantage, particularly in a low-rate environment where alternatives are scarce. For institutional investors, the NVCC structure also provides liquidity benefits, as these instruments are increasingly traded in secondary markets [8].

The Canadian dollar AT1 market, though less liquid than its U.S. counterpart, has gained traction as banks like RBC and CIBC adopt innovative capital structures. This trend is supported by regulatory reforms under Basel III, which prioritize loss-absorbing instruments to enhance financial stability [3]. For RBC, the issuance not only strengthens its capital base but also diversifies its funding sources, reducing reliance on short-term debt.

Conclusion: Balancing Caution and Yield

RBC’s strategic AT1 issuance encapsulates the dual forces shaping today’s capital markets: the relentless pursuit of yield and the need for regulatory resilience. While the NVCC framework and macroeconomic uncertainties warrant caution, the bank’s strong credit profile and the structural advantages of AT1 notes make this issuance a noteworthy opportunity. Investors must weigh the potential for high returns against the remote but material risk of capital loss, ensuring their portfolios align with both their risk tolerance and long-term objectives.

Source:
[1] RBC Sounds Out Investors on Potential Canadian Dollar AT1 Sale [https://www.bloomberg.com/news/articles/2025-09-03/rbc-sounds-out-investors-on-potential-canadian-dollar-at1-sale]
[2] Royal Bank of Canada announces NVCC AT1 Limited Recourse Capital Notes issue [https://ca.finance.yahoo.com/news/royal-bank-canada-announces-nvcc-220000095.html]
[3] A syndicate of agents led by RBC Capital Markets [https://www.mccarthy.ca/en/experience/a-syndicate-of-agents-led-by-rbc-capital-markets-complete-nvcc-at1-limited-recourse-capital-notes-issue]
[4] Currency markets - Summer 2025 [https://www.rbcgam.com/en/ca/article/currency-markets-gio-summer-2025/detail]
[5] 2025 Midyear Outlook: Canada [https://www.rbcwealthmanagement.com/en-ca/insights/2025-midyear-outlook-canada]
[6] Royal Bank of Canada's NVCC Debentures: A Risk [https://www.ainvest.com/news/royal-bank-canada-nvcc-debentures-risk-adjusted-opportunity-regulatory-rigor-2506/]
[7] Credit Ratings - About RBC [https://www.rbc.com/investor-relations/credit-ratings.html]
[8] September sets AT1 record ahead of 2025 peak, bringing par call strategies to the fore [https://bihcapital.com/2024/10/september-sets-at1-record-ahead-of-2025-peak-bringing-par-call-strategies-to-the-fore]