Rodney Sebire
Australian bank hybrids have long been a favourite in income-focused client portfolios for their combination of regular income, tax benefits through franking credits, and the reassurance of major bank backing making them easy to recommend and easy for clients to understand. But all of this is now changing.
The Australian Prudential Regulation Authority (APRA) has confirmed that hybrid securities will be phased out of the Australian market, beginning in 2027 and for advisers, this raises a straightforward question: what do we use instead?
Beyond simply swapping hybrids for bank bonds, fund managers have developed a range of new strategies that aim to deliver comparable income. For example, franking credits won’t be replicated, which is worth noting as the most significant change for tax-sensitive clients, but the income itself can be maintained. Beyond that, there are three alternative types of strategy worth understanding.
Listed notes
These are ASX-listed securities that work similarly to hybrids in terms of how clients experience them, i.e. regular income distributions, listed on the exchange, and a fixed end-date. The key difference is that the structure is simpler and the risk is more transparent. Some include a buffer where the manager absorbs any losses up to a certain level before investors are affected. These are a natural first conversation for clients who currently hold hybrids and want something familiar.
Credit-focused ETFs
These are exchange-traded funds that invest across a range of Australian fixed income securities, and are actively managed to generate income above the cash rate. They offer daily liquidity, are straightforward for clients to understand, and are well suited for clients who valued hybrids for their income but don’t need the listed familiarity.
Leveraged investment grade credit
This option is a more sophisticated approach, where managers use borrowing to amplify the income from high-quality bond portfolios. The credit risk remains investment grade and, in many cases, stronger than the underlying credit risk of hybrids, but the income generated can be comparable. These strategies are best suited to clients who understand that leverage is involved and are comfortable with how that can affect returns.
By Rodney Sebire, head of global fixed income