Premium today, par tomorrow

2026 has started with a wave of hybrid issuance, with names like Enel and Telefonica leading the charge in a busy primary market. On 12 January, with the primary market well and truly open to start the year on a strong footing despite geopolitical headlines, Telefonica proactively managed its outstanding hybrid maturities by announcing a tender offer for its three shortest outstanding hybrids - the 2026, 2027, and 2028 callable notes, prioritising the higher-coupon and reset 2026 and 2028 bonds over the 2027 bonds. This was paired with the issuance of two new euro-denominated green hybrid bonds. This is standard practice for companies seeking to optimise their capital structures, particularly when markets are open and refinancing levels are attractive.

The tender levels were all at a premium to secondary market prices, with the 2026 callable bond priced just above market level given its proximity to call, and the 2027 and 2028 callable bonds offered at 0.6 points (c.0.6%) and 0.8 points (c.0.7%) above market, respectively.

A key factor when considering tenders is the clean up call that is built into the bond documentation for most hybrid bonds as well as other fixed income securities. A clean-up call (or "substantial purchase" event) in hybrid bonds is an optional redemption feature allowing the issuer to redeem the remaining outstanding bonds in whole (but not in part) once the amount repurchased and cancelled reaches a specified threshold. This threshold is usually between 75%-90% of the original outstanding amount/principal. In this instance, if at least 75% of the tendered bonds were accepted, it constituted a substantial purchase event, giving Telefonica the option to redeem the remainder at par (100) plus accrued interest up to the clean-up call date.

For the 2026 callable bond, this was less of a concern given its proximity to par, and it was largely irrelevant for the 2027 callable bond trading below par. However, for the 2028 callable bond trading at 108.5 (reflecting its large 7.125% coupon) and an even higher tender level of 109.307, the risk was that investors who declined the tender could face the clean-up call being exercised at par, resulting in a ~9 point loss versus trading and tender levels.

We have seen examples of this in the past with Telefonica, albeit typically after a second tender attempt when less is outstanding, giving investors a couple of opportunities to tender their position. However, in March 2025, Unibail-Rodamco-Westfield (Unibail) utilised this feature after its first tender, offering a tender price of 110.037 (about a 2% premium to market). Roughly 94% of holders accepted, leaving 6% (c.€55.8m) subject to redemption at par, suffering a 10-point hit. In most cases, clean-up calls have been exercised when bonds were trading close to par, making their impact less punitive. The potential for Telefonica to use this feature was explicitly flagged by the lead managers during the tender and new issue announcement.

Given the cash price of the 2028 bond, we ultimately chose to tender our position. The tender level looked attractive, and the risk–reward dynamic of holding out was unfavourable given the potential of the clean-up call being enacted.

Returning to 12 January, the new issue demand was extremely strong, in line with what we have seen across the hybrid market to start the year. Telefonica successfully printed €1.75bn with more than €12bn in orders at final pricing. The first tranche, a €900m perpetual NC 5.25-year green hybrid, priced at 4.375% (spread +196.4bps). The second, a €850m perpetual NC 8.25-year green hybrid, priced at 4.875% (spread +217.4bps). Orderbooks were roughly 6x and 5.5x covered, respectively.

As a result, Telefonica accepted all tenders for XS1795406658 (€1bn 3.875% June 26 Call, €885m tendered) and XS2462605671 (€750m Aug 28 Call, €652.5m tendered). They did not accept any of the 2027 callable bonds, having met their targets from the 2026 and 2028 bonds. This left €115m of the 2026s and €97.5m of the 2028s outstanding, both now subject to the clean-up call option.

On Friday, Telefonica announced it would exercise the clean-up call on both tendered hybrids at par, which caused the 2026 callable to drop from 100.55 to 100, and, more dramatically, the 2028 callable to fall from the 109.307 tender price (as of the 15 January tender deadline) to 100 on 23 January. Resulting in a 9-point loss ( 9%) in the space of a week, leaving €100m of unhappy bondholders. As described, there were a number of indications that accepting the tender was the correct decision but despite having done so across our holdings, we feel sympathy for those bondholders who are likely to have been dominated by more passive or mandate-constrained accounts with less flexibility to respond to tenders.  

The secondary market impact across Telefonica's curve was negligible. 87% of 2028 holders will be thankful they tendered, while the remaining 13% (c.€97.5m) have learned the hard way that issuers may now be more willing to use these clauses in less bondholder-friendly ways. With clear precedents now set by Telefonica and Unibail, both large issuers with substantial hybrid stacks, others may follow suit, especially as these liability management exercises have shown minimal spread impact.

While the risk is most acute in high-coupon hybrids trading well above par, the return of lower yield environments and tighter spreads may increase the potential for issuers to exploit these features as they look to term out their maturities. Understanding these evolving market conventions is crucial for fixed income investors to avoid pitfalls during liability management events.

This serves as a reminder that, with more complex instruments, the devil is in the detail. Investors bound by more passive mandates may find themselves unable to respond, underscoring the importance of robust internal processes and active fixed income management oversight.

With several large issuances already, we are expecting a strong year of issuance within the corporate hybrid space, given the capex plans for companies in the sector and US issuers continuing to enter the asset class. We will be monitoring it closely and keeping an eye on more proactive liability management in 2026.