The impact on the capital structures of major Singapore banks resulting from the Monetary Authority of Singapore's (MAS) retail ban on additional tier 1 (AT1) and tier 2 (T2) capital instruments is expected to be limited. The regulator's new rules regarding capital debt issuance enhance retail investor protections, promote systemic stability, and support banks' capital planning. A capital cliff is unlikely if existing instruments comply with the conditions outlined in Notice 637. Local banks are projected to need approximately US$13 billion (S$16.88 billion) in 2026 to fully optimize their capital as interest rates decline.

The updates to Notice 637, which will take effect on January 1, 2026, limit the issuance of AT1s and T2 capital debt to non-retail investors in Singapore, applicable only at the point of issuance. Banks are required to include clauses in contracts with intermediaries that prohibit retail sales, and MAS has instructed these intermediaries not to facilitate retail access to these instruments.

Instruments issued prior to 2026 will be permanently grandfathered as long as other conditions of Notice 637 are met, alleviating the pressure to redeem outstanding issues solely for regulatory compliance.

These reforms aim to protect retail investors, enhance systemic stability by reducing exposure to volatile retail flows, and assist banks in their capital planning.

Since major Singapore banks primarily issue these instruments to institutional and accredited investors, the overall impact on their capital structures should be minimal.

With expectations of interest rate cuts, capital-strong Singapore banks can optimize their capital structures through debt issuance rather than relying heavily on expensive Common Equity Tier 1 (CET1) buffers to satisfy regulatory requirements. This strategy may enable them to replace CET1 capital with cheaper subordinated debt, thereby returning equity to shareholders through share buybacks or increased dividends, although it could have mixed implications for credit ratings.

Although their CET1 ratio is at least 6% above the 9% regulatory minimum as of the second quarter of FY2025, based on pre-fully loaded final Basel III rules, their total capital buffers are lower, indicating a lack of debt utilization. Singapore's regulatory framework closely aligns with global guidelines, allowing banks to issue AT1 debt up to 1.5% of risk-weighted assets, and T2 debt up to 2%.

The capital positions of Singapore banks are likely to remain robust in 2025, despite planned capital return commitments. As of the second quarter of FY2025, these banks had at least S$3 billion in excess common equity tier 1 capital above their target CET1 range of 12.5%-14%. Overall earnings resilience is anticipated despite margin pressures expected from forthcoming interest rate cuts, sustaining CET1 levels that support capital returns and accommodate likely flat growth in risk-weighted assets in 2025.

Global risks are expected to limit the likelihood of significant mergers and acquisitions in the near term. The currently suboptimal levels of Additional Tier 1 and Tier 2 capital ratios provide an opportunity for improved capital structure optimization as interest rates decrease. OCBC reported a leading 15.3% fully phased-in CET1 ratio in the second quarter of FY2025, while banks' average risk-weight density fell to 41%, down four percentage points year-over-year.

Collectively, Singapore banks may need to issue US$6 billion in AT1 and US$7 billion in T2 bonds in 2026, should they fully optimize their capital structures by filling their AT1 and T2 requirements and refinancing existing capital debt that is callable in 2026.

Following the global Basel guidelines, Singapore's regulator permits the issuance of AT1 and T2 instruments up to 1.5% and 2% of banks' risk-weighted assets. Our calculations of issuance needs are based on the figures disclosed by banks in the second quarter of FY2025, prior to the full implementation of Basel III, along with total outstanding debt as of September 22, compiled by Bloomberg.

The MAS's new regulations for capital debt issuance limited to non-retail investors are unlikely to have a significant impact on pricing, as institutional demand dominates the issuances by Singapore banks. These banks typically benefit from favorable pricing for their debt due to their strong credit track record, call history, and ratings.