PrefBlog

PerpetualDiscounts now yield 5.32%, equivalent to 6.92% interest at the standard equivalency factor of 1.3x. Long corporates now yield about 3.95% so the pre-tax interest-equivalent spread (in this context, the “Seniority Spread”) is now about 295bp, a significant widening from the 285bp reported October 11.

The Boston Fed has published a fascinating paper by Daniel H. Cooper, María José Luengo-Prado and Jonathan A. Parker titled The Local Aggregate Effects of Minimum Wage Increases:

As part of the Fair Labor Standards Act, the federal government initiated a national minimum wage in 1938, which has since been raised 22 times, the latest increase in 2009 going to $7.25 per hour. State-level minimum wage increases have occurred with much greater frequency, especially quite recently, with 17 states raising minimum wages in 2016 and 19 states doing so in 2017. In total, there have been 247 changes in the minimum wage on the federal and state level between 1999 and 2014, resulting in substantial variation in current minimum wages across the United States. The policy intent behind minimum wage laws is to raise the return to employment for low-wage workers; indeed, the idea of a $15 per hour “living wage” has been growing—in 2016 California and New York passed legislation to gradually raise their minimum wages to this level (Seattle enacted a similar gradual $15 per hour increase in 2014), while other states are enacting more modest multi-year raises.

A voluminous empirical literature has largely found that within the range of the increases historically experienced in the United States, higher minimum wages have minimal employment effects. However, this literature has largely overlooked the fact that through general equilibrium adjustments that go beyond the labor market, the level of the minimum wage should affect prices and consumer spending. Moreover, higher minimum wages may cause fluctuations as local economic conditions adjust to the changed regulations. This paper addresses these less-studied issues by exploiting the variation in minimum wages across the United States and the fact that labor markets are defined by commuting distances. The authors compile a dataset of state-level minimum wage changes for the 1999–2014 period and use city-level price data from metropolitan statistical areas to measure the dynamic effects that minimum wage increases have on annual changes in city-level prices (inflation) and consumer spending.
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In particular, a 10 percent increase in the minimum wage is associated with an overall (all-items) inflation rate that is 8 basis points higher relative to the preceding year. This effect is not precisely estimated and is quite small, especially given that a 10 percent minimum wage increase is nearly double the average MWPC in our sample. However, the increase in inflation is not evenly distributed across all goods and services. In particular, minimum wage changes have the largest measured impact on food prices — especially food away from home (column 8). A 10 percent increase in the minimum wage leads to prices on food away from home that are about 0.3 percent higher.
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Consistent with our findings for prices, we find the largest, most precisely estimated effects of a minimum wage increase on food away expenditures. In particular, a 10 percent increase in the minimum wage raises nominal food away consumption by nearly 0.8 percentage point. There are also relatively large and positive, but imprecisely estimated, impact effects for nondurables, and food and beverages consumed at home. In addition, the cumulative increase in food at home consumption is precisely estimated and of similar magnitude to the impact (and cumulative) effect for food away. Consumption of services also increases slightly.
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In addition, the food away and food at home consumption effects are much larger than the respective food price effects, suggesting that nominal food consumption increases more than the amount that would be implied by higher prices alone. That is, consumers appear to adjust the quantity of food that they consume when the minimum wage rises, with the effect on food away from home being more immediate and the effect on food at home occurring over time.

The salutary effects of Ontario’s minimum wage hike are becoming visible: one large company is thinking about what it’s doing and taking steps to increase productivity:

Grocery store chain Metro Inc. says it will eliminate about 280 jobs starting in 2021 as part of a $400-million overhaul of its Ontario distribution network.

The company says the move to modernize and automate its network will mean the loss of about 180 full-time and 100 part-time positions.

The announcement follows comments by Metro in August that it would study automation as it looked to cut costs in the face of the Ontario government’s plan to raise the minimum wage next year.

PerpetualDiscounts now yield 5.32%, equivalent to 6.92% interest at the standard equivalency factor of 1.3x. Long corporates now yield about 4.05%, so the pre-tax interest-equivalent spread (in this context, the “Seniority Spread”) is now about 285bp, a significant narrowing from the 295bp reported October 4.

Scotia came out with a Tier 1 Bond last week:

Bank of Nova Scotia saw strong investor demand on Wednesday for an Additional Tier 1 bond, the first offshore deal of its kind out of Canada, which could pave the way for similar deals. The US$1.25bn perpetual non-call five issue, which has a fixed coupon for the initial five years and then switches to floating, saw almost US$8bn of demand at the peak of interest.

With the level of interest so strong – there were roughly 400 line items in early marketing – bookrunners Bank of America Merrill Lynch, Citigroup, Scotia and UBS were able to pull in pricing sharply from IPTs of 5% area to 4.65%.

That looked to be attractive pricing for the borrower, who is looking to diversify its funding outside of Canada.
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“The deal has a dividend stopper and the concept of MDA doesn’t exist in Canada.”

Dividend stopper language prevents banks from paying equity dividends if they have not paid AT1 coupons, and is prohibited in European AT1 bonds.

Maximum Distributable Amounts (MDA) is also a European concept and is effectively a firm’s distributable profit. If it is too low, banks can be barred from paying AT1 coupons.

“Some European AT1s turn the capital structure upside down,” David Knutson, head of Americas credit research at Schroders, told IFR.

“They are essentially sub equity. In principle, you shouldn’t be able to pay equity if you can’t pay bondholders.”

This may cut into the supply of preferred shares:

The notes were crafted in such a way that the money raised qualifies as additional tier 1 (AT1) capital, which is part of a cash reserve that Canada’s top banking regulator expects banks to hold to maintain a minimum level of financial stability.

The Canadian banks have primarily raised this type of capital by issuing preferred shares into the domestic market, which is heavily dependent on retail demand. But preferred shares have been a tough sell for banks to export beyond Canada because Canada Revenue Agency puts a tax of 25 per cent on any passive income generated by investors who are not residents of Canada.
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BMO Nesbitt Burns Inc. analyst Kris Somers called Scotiabank’s note a “gamechanger,” adding in a report that the new structure has the potential to result in reduced supply of preferred shares sold by financials.

This type of offering is being billed as a solution to a problem that Canada’s largest financial institutions have been wrestling with for years: The country’s market for preferred shares has become a less reliable and more costly way of sourcing AT1 capital.

There’s no mention of the issue on Scotia’s website that I can see, but the prospectus is on EDGAR – and I can link to it directly because it was subject to the rules of a first-world regulator!

Interest Rate
From and including the Issue Date to, but excluding, October 12, 2022 (the “Fixed Rate Period”), interest will accrue on the Notes at an initial rate equal to 4.650% per annum. From and including October 12, 2022 (the “Floating Rate Period”), interest will accrue on the Notes at a rate per annum equal to three-month LIBOR (as defined herein) plus 2.648% and will reset quarterly.
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Optional Redemption
The Bank may, at its option, with the prior written approval of the Superintendent of Financial Institutions (Canada) (the “Superintendent”), redeem the Notes, in whole or in part, on any Interest Payment Date on or after October 12, 2022, at a redemption price equal to 100% of the principal amount thereof, plus any accrued and unpaid interest up to, but excluding, the date of redemption (except to the extent such unpaid interest was cancelled).

The Bank may, at its option, with the prior written approval of the Superintendent, redeem the Notes, in whole but not in part, at any time within 90 days following a Regulatory Event Date (as defined herein), at a redemption price equal to 100% of the principal amount thereof, plus any accrued and unpaid interest up to, but excluding, the date of redemption (except to the extent such unpaid interest was cancelled).

Additionally, the Bank may, at its option, with the prior written approval of the Superintendent, redeem the Notes, in whole but not in part, on any date following the occurrence of a Tax Event (as defined herein), at a redemption price equal to 100% of the principal amount thereof, plus any accrued and unpaid interest up to, but excluding, the date of redemption (except to the extent such unpaid interest was cancelled).
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Upon the occurrence of a Trigger Event (as defined below), each outstanding Note will automatically and immediately be converted, on a full and permanent basis, without the consent of the holders thereof, into that number of Common Shares determined by dividing (a) the product of the Multiplier and the Note Value, by (b) the Conversion Price (an “NVCC Automatic Conversion”). See “Description of the Notes—NVCC Automatic Conversion.”

“Conversion Price” means, in respect of each Note, the greater of (i) the Floor Price and (ii) the Current Market Price.

“Current Market Price” means the volume weighted average trading price of the Common Shares on the TSX or, if not then listed on the TSX, on another exchange or market chosen by the board of directors of the Bank on which the Common Shares are then traded, for the 10 consecutive trading days ending on the trading day immediately prior to the date on which the Trigger Event occurs (with the conversion occurring as of the start of business on the date on which the Trigger Event occurs), converted (if not denominated in U.S. dollars) into U.S. dollars at the Prevailing Rate on the day immediately prior to the date on which the Trigger Event occurs. If no such trading prices are available, Current Market Price shall be the Floor Price.

“Floor Price” means the U.S. dollar equivalent of CAD$5.00 converted into U.S. dollars at the Prevailing Rate on the day immediately prior to the date on which the Trigger Event occurs, subject to adjustment in the event of (i) the issuance of Common Shares or securities exchangeable for or convertible into Common Shares to all holders of Common Shares as a stock dividend, (ii) the subdivision, redivision or change of the Common Shares into a greater number of Common Shares, or (iii) the reduction, combination or consolidation of the Common Shares into a lesser number of Common Shares. The adjustment shall be calculated to the nearest one-tenth of one cent provided that no adjustment of the Floor Price shall be required unless such adjustment would require an increase or decrease of at least 1% of the Floor Price then in effect; provided, however, that in such case any adjustment that would otherwise be required to be made will be carried forward and will be made at the time of and together with the next subsequent adjustment which, together with any adjustments so carried forward, will amount to at least 1% of the Floor Price.

“Multiplier” means 1.25.

Note that the multiplier for sub-debt is 1.5 and the multiplier for preferred shares is 1.0. So preferred shares are effectively junior to this debt.