PrefBlog

American preferreds are doing really well:

A kind of buying panic has broken out. The iShares U.S. Preferred Stock exchange-traded fund, which seeks to track the market, has taken in $2.2 billion in new money so far this year. Historically, the price of preferred stocks almost never rises, with virtually all their return coming from the fixed dividend rates they offer; this year, however, nearly half the 7% total return of the S&P preferred index has come from climbing prices.

To see why overheating could be a risk, it helps to understand more about how preferred stocks work.
…
There’s another concern. At the end of last year, the iShares fund held more than 10% of the total outstanding value of 37 of its holdings. As of Aug. 10, according to FactSet, the fund owns more than 10% of the outstanding value of 185 of its holdings. (It has a total of 293 positions.) That’s a lot of any market for a single fund to control in such a hurry.

Take a recent study by Fed economist Jeremy Nalewaik, who found that while inflation expectations and actual inflation were closely connected prior to the mid-1990s, the relationship has deteriorated markedly since then.

The hardest thing to deal with in investment management is regime switching:

“Movements in inflation expectations now appear inconsequential since they no longer have any predictive content for subsequent inflation realizations,” Nalewaik wrote.

He cites as a potential explanation for this a hypothesis offered in a 2000 paper co-authored by Yellen’s husband, Nobel prize-winner George Akerlof, who wrote that “when inflation is low, it may be at most a marginal factor in wage and price decisions, and decision-makers may ignore it entirely.”

Akerlof’s and Nalewaik’s research jibe nicely with ideas that St. Louis Fed President James Bullard has injected into the debate on the rate-setting Federal Open Market Committee this year.

Bullard stopped submitting longer-run economic forecasts when the latest round of policy makers’ projections was compiled in mid-June, stating in a June 30 speech that “the timing of a switch to an alternative regime is viewed as not forecastable, and so we simply forecast that the current regime will persist.”

Nalewaik suggests that a return to a world in which inflation expectations and actual inflation become more tightly linked, as they were before the mid-1990s, may not be in the cards.

There are concerns that Gilts are distorting the global bond market:

The rally in gilts has been extraordinary, with the yield on the U.K.’s longest-dated bond, the 2068 maturity, almost halving from 2% on the day of the referendum to 1.06% on Thursday.

The price of the bond is up 53% this year, the sort of gains usually produced by risky stocks, not rock-solid government paper. (Its performance roughly equals the gains of sixth-best stock in the S&P 500, Range Resources.)

“This is not normal,” said Mike Amey, who manages sterling bond portfolios for fund manager Pimco. He called the speed of the move “eye-popping.”

The 18.8% two-month return on the 30-year gilt has been bettered only during the rescue of hedge fund Long-Term Capital Management in 1998, according to Thomson Reuters data since the late 1980s.

The result has been that falling gilt yields have taken over from Japanese government bonds in exerting downward pressure on Treasurys and other global bond markets.

I was very disappointed with Angus Reid’s poll regarding guaranteed income:

The Angus Reid Institute described the guaranteed income idea to respondents as follows:

Those who made less than the threshold through employment earnings would be paid the difference by the federal government, while those who made more than the threshold would receive no additional funding. This payment would typically replace most or all other forms of government assistance, such as welfare and employment insurance.

ARI then asked respondents whether they would support or oppose such a program if the threshold were set at each of three different levels: $10,000, $20,000, or $30,000 per adult per year. Roughly one-third of the total sample (approximately 500 respondents) each weighed in on one of the three options.

So in other words, all income below the threshold is subject to a 100% effective marginal tax rate. There is absolutely no incentive to pick up another shift or to get a slightly better job, because every single cent you make from this will be taxed away from you. Nobody in their right mind would support Angus Reid’s version of the concept.

More encouraging was news of alternative technical schools:

The Flatiron School’s 12-week course costs $15,000, but earns students no degree and no certificate. What it does get them, at an overwhelming rate, is a well-paying job. Nearly everyone graduates, and more than nine in 10 land a job within six months at places like Alphabet Inc. ’s Google and Kickstarter. Average starting salary: $74,447.

Employers are increasingly hiring graduates of the Flatiron model—short, intensely focused curricula that are constantly retailored to meet company needs. Success, its backers say, could help fuel a revolution in how the U.S. invests in higher education, pushing more institutions toward teaching distinct aptitudes and away from granting broad degrees.
…
Google, which has hired workers from Flatiron and other academies, recently studied the efficacy of coding camps. The company found that while the camps have shown promise, most of their graduates weren’t prepared for software engineering without additional training or prior experience, Maggie Johnson, Google’s director of education and university relations, said in an email.

“In a broader sense, most of our hires have [computer science] degrees because we prefer to hire generalists who can work on any type of product or service. Bootcamp alumni tend to be more specialized,” Ms. Johnson added.
…
Flatiron said it accepts only 6% of applicants, making it almost as selective as Harvard. The typical coding-boot camp student was 31 years old and had nearly eight years of work experience and a bachelor’s degree, according to Course Report, an industry group.

The Google evaluation of the programme sounds reasonable to me. I suspect that the graduates of this programme are basically what I call teeny-bopper programmers … you can give them small jobs and they’ll execute competently, but they won’t really understand why they are being told to do something in a particular way and you certainly can’t give them design responsibilities because you’ll just get spaghetti-code. But hey, we were all teeny-boppers once!

I’m amazed that a for-profit technical school has an acceptance rate of only 6%. I wonder how long it will be before some MBA in the president’s office points out that profit could be doubled with a 12% acceptance rate!

But it’s nice to know you can still educate people nowadays without having an Athletic Centre, beautiful accommodation and two-star dining halls, all paid for with ridiculous amounts of student debt!

Timing the bond market is a mug’s game:

Analysts who spent the past year chasing the rally in Treasuries now risk getting caught flat-footed by a retreat.

For the first time in 2016, the yield on 10-year U.S. notes climbed above the weighted average of year-end estimates compiled by Bloomberg, after better-than-forecast labor data spurred traders to boost bets that the Federal Reserve will raise interest rates in 2016. The benchmark rate has jumped about 25 basis points since reaching a record-low 1.318 per cent on July 6, while the Bloomberg weighted average forecast, which places a greater emphasis on most recent projections, has fallen 20 basis points over the same period to 1.57 per cent.

The push and pull of global and domestic forces have caused both analysts and the Fed to recalibrate expectations in 2016. About $8.8-trillion (U.S.) of sovereign debt worldwide yields less than zero, which helps stem Treasuries selloffs by luring global investors. Yet within the U.S., a Bloomberg gauge of economic data surprises is at the highest level since December 2014, setting the stage for a possible Fed rate hike later this year.
…
A JPMorgan Chase & Co. survey showed the highest level of neutral Treasuries positions since July 11 among all clients. That’s likely in part because many analysts remain convinced the rise in U.S. yields will be short lived despite an improving economy and hawkish comments from some Fed policy makers.

For interest-rate forecasters who chased the rally, all they can do is wait and see how the market reacts to the latest data, and what that might mean for the Fed’s moves in 2016. The problem they’ve found is it’s growing harder to find the link between the U.S. economy and the central bank’s actions.

“There’s no doubt: the Fed has been shifting the goalposts for at least two years, maybe more,” said Harm Bandholz, chief U.S. economist in New York at UniCredit. “That’s something that was not factored in for interest rates.”

We can always count on the Wall Street banks to scapegoat the closest warm body:

[Alberto] Statti, a trader with a taste for red wine and three-piece suits, had come from obscurity offering to buy hundreds of millions of dollars of bonds from Nomura. Yet his brokerage, Invexstar Capital Management Ltd., failed to come up with the cash for trades in May 2015, and the bank was now staring at its biggest-ever individual trading loss. Lombardo couldn’t get him on the phone.

“Resolve this thing today,” Lombardo said when he eventually contacted Statti by chat, according to a transcript included in the judgment of a lawsuit over the former’s firing. “Otherwise, we’ll both end up in the meat grinder.”

Statti never produced the cash, triggering a fallout that has been costly for Nomura. The Tokyo-based lender, whose London trading operations were already under pressure, lost more than $40 million on its dealings with Invexstar. The firm then blundered when it fired Lombardo after what a judge described Aug. 3 as a disciplinary process littered with “defects.”
…
Nomura fired Lombardo for failing to tell his bosses about Invexstar’s souring trades soon enough. Judge DA Pearl agreed that the salesman had been “negligent” and slashed the amount of compensation he can receive from the suit.

Yet Lombardo’s supervisor, a managing director named Francesco Di Giura who was aware of the Invexstar trades, according to the judgment, received only a warning. This, along with a series of missteps in a process run by Mike Ward, the head of equity sales for Europe, the Middle East and Africa, and Morven Jones, head of debt capital markets for the same region, amounted to an unfair dismissal, the judgment shows.

The bank didn’t disclose key evidence to Lombardo during the internal probe, and its investigators didn’t compile a written report on the Invexstar losses, leading to confusion among Nomura executives running the process, according to the judgment. Jones, who oversaw Lombardo’s internal appeal, received “erroneous” information from Ward, who had approved the firing, all of which helped turn the process into “an overall muddle,” the judge wrote.

The whole process is amusing because:

Statti had accumulated failed trades worth $666 million when Lombardo contacted him under pressure from his Nomura bosses.
…
Nomura shouldn’t have taken Invexstar on as a client, a process known as “on-boarding,” Lombardo said. The company was given electronic trading access, extended trading and credit limits when it it had almost no assets, while Statti wasn’t registered with the Financial Conduct Authority, he said.

Statti had run two trading firms before setting up Invexstar, Bloomberg reported in January. One, BLF Global Asset Management Ltd., collapsed in 2013 owing about 12 million pounds to creditors including JPMorgan Chase & Co. and Citigroup Inc. while the other, Bi-Elle Fund & Asset Management U.K. Ltd., ceased operations in 2008 with losses of 54 million pounds, U.K. Companies House filings show.

“I wasn’t made aware of Alberto Statti’s prior history by anyone,” Lombardo said in his statement, referring to Statti’s time at BLF. As a result, he “was handed a client to manage that I was led to believe was sound and had passed all required on-boarding checks,” he said.

So I don’t get it. Invexstar was able to put on trades with a gross value of $666-million despite having no assets and being run by a serial defaulter? And it’s the salesman who gets nailed for this? And the Chief Operating Officer and the Chief Risk Officer have both kept their jobs? I don’t get it.

We haven’t had any drone news for a while, but here’s a story about medical services in Madagascar:

A startup named Vayu late last week said its unmanned aerial vehicle had made the first long-range, fully independent flights carrying delicate blood and stool samples from remote villages to a lab. The basic technology isn’t new, but Vayu’s airborne experiment, over the mountainous terrain of Madagascar, could kick off a game-changing system of transport. UAVs could carry vaccines, medicines, and samples sensitive to temperature and pressure—to diagnose tapeworm, for example—for some of the one billion people who lack access to good roads.
…
Vayu, founded in 2014 and based in Michigan, works in Madagascar together with the Stony Brook University Global Health Institute and with the support of local governments and the United States Agency for International Development (USAID). It is working on a drone that can fly for 100 kilometers (62 miles) and plans to use the technology in Papua New Guinea, Malawi, the Philippines, and Nepal.

The video is great!

Speaking of drones, they’re going to be put to work in BC on wildfire spotting:

Drones are about to be added to the fire fighting arsenal of the B.C. Wildfire Service.

Spokeswoman Erin Catherall says the service has conducted two seasons of trials and is ready to put the remotely controlled aircraft to work.

She says drones have already been an important part of the battle against recent wildfires in northeastern British Columbia because they are cheaper and safer than piloted aircraft.

They can also be used at night, when most helicopters and planes are grounded.

Catherall says that allows firefighters to identify hot spots for immediate action as soon as the sun rises.

… and those with an interest in IT are presented with a new opportunity:

The commercial drone industry is exploding, allowing businesses and operators to rapidly and cost-effectively capture data that wasn’t readily available to them before. While this is opening up new opportunities for companies, it also comes with new complications.
…
There are cloud-based drone software providers like EagleView and DroneDeploy that make it easy for businesses to collect, process and analyze data by taking the information, storing it in the cloud, and sending back the results.

But [Josh] Bernstein [vice president of the emerging technologies division at EMC] believes businesses should build their own services and datacenters in house to get a competitive advantage in the market. “For example, if you and I are competing for crop surveillance and we are both using DroneDeploy or some other service, we are going to get the same results. On the other hand, if one of us brings that capability in house, we can arguably have a competitive edge and return more value to our customers over time,” he said. In order to bring this capability in house, businesses will have to find experienced IT people who know how to bring that knowledge into a new emerging market.

Assiduous Readers will remember that I have a long-standing concern about means-tested benefits and their cumulative effective marginal tax rate, which can be so high as to destroy any incentive for the recipient to earn any extra money at all. Bloomberg points out that there are also asset tests:

Susanne Brasset has $5 in her bank account. She’s scared to save more.

Brasset, a 39-year-old freelance photographer in Denver, has cerebral palsy, which limits her ability to work. To pay her bills, she relies on Social Security, which she gets because of her disability.

But the program monitors her bank accounts to make sure she’s not putting away too much money. With more than a few thousand in the bank, she’d be disqualified for the program, as well as for Medicaid and other crucial benefits. Unable to plan for the future, Brasset said her finances put her in a “constant state of anxiety and fear.”

“There’s more money I could be making,” she said. “But I’m discouraged by all the rules I need to adhere to.”

Brasset is caught in a bind familiar to many people with disabilities. Their well-being relies on government benefit programs, but these programs impose strict limits on how much recipients can earn and save. Rules intended to bar freeloaders end up keeping disabled people in a permanent state of poverty, unable to put money away for emergencies, retirement, and other life goals.

One of the basic precepts of foreign exchange markets is the concept of hedging. If you buy a ten-year forward contract on another currency, the rate will be determined by the spot rate as modified by the difference in the ten-year yields of government bonds in the two currencies. That’s the theory, anyway; in practice, the difference between the theoretical rate and the actual rate is the basis:

That quirk means the longstanding notion of the U.S. as a respite from negative yields in Japan and Europe is little more than an illusion. And with everyone from Jeffrey Gundlach to Bill Gross warning of a bubble in bonds, it could ultimately upend the record foreign demand for Treasuries, which has underpinned their seemingly unstoppable gains in recent years.

“People like a simple narrative,” said Jeffrey Rosenberg, the chief investment strategist for fixed income at BlackRock Inc., which oversees $4.6 trillion globally. “But there isn’t a free lunch. You can’t simply talk about yield differentials without talking about currency differentials.”
…
In a strange twist, the fact that yields on 10-year Treasuries are still way higher than those in Japan or Germany is part of the reason foreigners are having such a hard time actually profiting from the difference. Negative interest rates outside the U.S. have caused a surge in demand for dollars and dollar assets, pushing up the cost to get into and out of the greenback at the same exchange rate to levels rarely seen in the past.

Ten-year yields in the U.S. are currently 0.23 percentage point below a basket of bonds from Australia, France, Germany, Italy, Japan, Spain and Switzerland on a hedged basis, versus 1.4 percentage points above on an unhedged basis, according to data compiled by BlackRock. At the start of the year, hedged Treasuries yielded over a half-percentage point more.

Click for Big

Click for Big

Georgi Kantchev, Christopher Whittall and Miho Inada write a good piece in the WSJ titled Are Negative Rates Backfiring? Here’s Some Early Evidence:

Recent economic data show consumers are saving more in Germany and Japan, and in Denmark, Switzerland and Sweden, three non-eurozone countries with negative rates, savings are at their highest since 1995, the year the Organization for Economic Cooperation and Development started collecting data on those countries. Companies in Europe, the Middle East, Africa and Japan also are holding on to more cash.

Economists point to a variety of other possible factors confounding central-bank policy: Low inflation has left consumers with more money to sock away; aging populations are naturally more inclined to save; central banks themselves may have failed to properly explain their actions.

But there is a growing suspicion that part of problem may be negative rates themselves. Some economists and bankers contend that negative rates communicate fear over the growth outlook and the central bank’s ability to manage it.

“People only borrow and spend more when they are confident about the future,” says Andrew Sheets, chief cross-asset strategist at Morgan Stanley. “But by going negative, into uncharted territory, the policy actually undermines confidence.”

When BC imposed its 15% tax on foreign real estate buyers, I think they did it with the deliberate intention of creating uncertainty – otherwise, they would have allowed deals struck in good faith prior to the deadline to close under the old rules. Now the chickens are looking for a place to roost:

At least 427 deals are likely to collapse due to the new measure, according to Dan Morrison, president of the Real Estate Board of Greater Vancouver, citing responses from 27 brokers to an e-mail inquiry. The group didn’t calculate the value of those sales, though they would be worth about C$404-million ($307-million) based on the average purchase by a foreign buyer of C$946,945.

That may just be the tip of the iceberg.

“It’s a domino effect,” said Elton Ash, Western Canada regional executive vice president for Re/Max Holdings Inc. Not only will foreign buyers be hit but also Canadians who had contracts to sell and had already put offers on their next house, he said. Morrison said the effects could take years to play out given some deals involve the sales of condos still being built.
…
The new tax violates several treaties and agreements that Canada holds with at least 28 other countries, including the U.S. under the North American Free Trade Agreement, according to Barry Appleton, managing partner of law firm Appleton & Associates, who specializes in international law and has launched claims in Canada under NAFTA.

Jobs, jobs, jobs!

Payrolls climbed by 255,000 last month, exceeding all forecasts in a Bloomberg survey of 89 economists, following a 292,000 gain in June that was a bit larger than previously estimated, a Labor Department report showed Friday. The jobless rate held at 4.9 percent as many of the people streaming into the labor force found jobs.
…
The labor force participation rate, which indicates the share of working-age people who are employed or looking for work, increased to 62.8 percent from 62.7 percent.

Wage growth offered more promising signs of acceleration, with average hourly earnings rising a more-than-forecast 0.3 percent from a month earlier, the most since April, to $25.69. The year-over-year increase was 2.6 percent in July, the same as in June.

The average work week for all workers also increased by 6 minutes to 34.5 hours in July from 34.4.

Meanwhile, in the frozen North:

Canada’s economy lost 31,000 jobs in July, due to a big drop in public administration positions as well as declines in Ontario and among younger workers.

Full-time work plunged by 71,000 spots and part time employment rose by 40,000.

The jobless rate rose to 6.9 per cent from 6.8 per cent in June, Statistics Canada said in its monthly labour report released on Friday.

Meanwhile, there are those who are frightened that foreigners might want to buy what we’re selling:

Realtors say it’s still too early to tell how much the B.C. government’s recent 15-per-cent tax on Vancouver-area residential properties purchased by people who aren’t permanent residents will fuel demand for Toronto housing. There are concerns the tax will lead foreign buyers to purchase homes in the GTA market instead.
…
The province’s tax adds another layer of angst to the Toronto market, already in the midst of double-digit price gains, fierce bidding wars and what the local real estate board called the “troubling trend” of a shrinking supply of resale homes on the market.

Unease has been growing over skyrocketing real estate prices in both markets. The Bank of Canada recently issued warnings about unsustainable growth, while the federal government has struck a working group to issue recommendations on how to make Vancouver and Toronto’s housing more affordable.