Not quite so many links as has been the case lately, thank heavens, but those that I am going to put up are of exceptional interest … so read carefully!
Coventree was able to roll $600-million worth of paper today, which is good news, but noted:
“This ABCP was purchased primarily by investors who elected to renew or roll over their ABCP that matured (Tuesday),” Coventree stated.
I suspect there’s something of Mexican standoff implicit in the above remarks … if Coventree had to enter CCAA Protection it would be worse for both the company and the creditors.
There was a hint that much the same thing might be happening in the States, with Countrywide Financial stock plunging when Merrill Lynch changed its recommendation from “Buy” to “Sell” based on liquidity concerns. The analyst’s track-record was not disclosed. As in many such cases, this accellerated concerns to the point of becoming a self-fulfilling prophecy:
Countrywide credit-default swaps soared 225 basis points to 600 basis points, according to broker Phoenix Partners Group. That means it costs $600,000 a year to protect $10 million of Countrywide bonds from default for five years. The contracts have risen more than sixfold in the past month.
The rout intensified after CNBC reported that Countrywide’s 30-day asset-backed commercial paper was being quoted by dealers at a 12.54 percent yield. The company previously borrowed at 15 basis points, or 0.15 percentage point, over the London interbank offered rate, which currently is about 5.57 percent for 30-day borrowings, the cable-television network reported
Even one of the bond market’s golden boys is affected, though admittedly the damage is largely self-inflicted: Nestle lost its triple-A status:
Nestle’s was cut one level to AA+ by Fitch and to Aa1 by Moody’s after the Vevey, Switzerland-based company said it plans to repurchase 25 billion Swiss francs ($21 billion) of stock, its biggest-ever share buyback. The downgrade leaves only Johnson & Johnson, Toyota Motor Corp. and Exxon Mobil Corp. holding AAA ratings from both Moody’s and Standard & Poor’s as well as Fitch.
In late news that might broil the markets tomorrow:
Australia’s Rams Home Loans Group Ltd. has been unable to refinance A$6.17 billion ($5 billion) of short-term U.S. loans because of a “lack of market liquidity” caused by the global credit rout.
Rams cited the “tightening of the global credit markets” for failing to sell the so-called extendable commercial paper, the company’s largest source of funding for its loans, it said in a statement today.
The lender has been given temporary funding of A$1 billion by two of its providers, Rams said.
In turn, both American and Canadian equities tanked. Today’s fearless prediction: pundits in tomorrow’s paper will note that the Canadian index is now more than 10% off its peak, meeting the generally accepted definition of a “correction”.
Reminds me of my back-office days back in 1987. I was asked quite seriously if I thought the 502-point drop in the Dow was a “crash” or a “correction”. I said I thought it meant the Dow was down 502 points, which wasn’t considered a particularly penetrating answer.
All the angst got the central banks moving. The Bank of Canada lowered its standards for repurchase agreements and the current month Fed Futures are now showing an expectation of an average Fed Funds rate for August (this month! August!) of 4.99%, twenty-six bps below target. This follows disclosure that the dollar-weighted average of actual Fed Funds transactions yesterday was 4.54%, with a low of half a point. We can be thankful that inflation numbers were benign and were met with cheers. A Fed governor, Poole, reminded the markets not to take anything for granted – the Fed cares about the real economy, not bit of Wall Street paper.
Given the de facto easing, it is not surpising that Treasuries had a really good day, with the two-year yield declining six basis points, although the spoil-sports trading ten-years took yield up 1bp, for a marked steeping. Canadas did not behave in anywhere near so dramatic a fashion, but 2-10 still steepened 2.3bp.
Rotten day in the preferred market, with all but one of the indices down on the day – and that one (FixFloat) was due to exceptional performance by BCE.PR.T, which accomplished this feat on zero volume. It’s very tempting to try to read something into this performance; but then again, in such a retail dominated market, strange things can happen.
Again, lack of interest in the lower rated credits was noticable, with the following performance stand-outs: YLD.PR.B, -4.55%; IQW.PR.D, -4.43%; HPF.PR.B, -4.26%; STQ.E, -3.01%; IQW.PR.C, -2.83%; DC.PR.A, -2.29%; GT.PR.A, -2.15%; NTL.PR.F, -2.07%; BBD.PR.C, -1.40%; BBD.PR.B, -1.32%; BPO.PR.J, -1.22%; and YPG.PR.A, -1.09%. Some of the lower rated credits bounced, but not many: WN.PR.C, +1.06%; WN.PR.D, +1.41%.
Just for fun, I’ll update the ‘Junky but not quite junk’ list (and remember, this is not representative! While the selections were not entirely random, they’re not entirely representative, either!).
| Pfd-3 Comparables | |||
| Issue | EPP.PR.A | WN.PR.E | YPG.PR.B |
| Quote, 7/25 | 20.80-20 | 20.31-68 | 23.05-15 |
| Quote, 8/15 | 20.20-70 | 19.91-07 | 22.40-50 |
| Return (b/b) for period | -2.88% | -1.97% | -2.82% |
| Pre-Tax Bid-YTW, 8/15 | 6.15% | 6.06% | 6.62% |
| Note: None of these issues has had an ex-Date in the period. | |||
| Note that these indices are experimental; the absolute and relative daily values are expected to change in the final version. In this version, index values are based at 1,000.0 on 2006-6-30 | |||||||
| Index | Mean Current Yield (at bid) | Mean YTW | Mean Average Trading Value | Mean Mod Dur (YTW) | Issues | Day’s Perf. | Index Value |
| Ratchet | 4.75% | 4.79% | 25,177 | 15.96 | 1 | -0.0411% | 1,040.3 |
| Fixed-Floater | 5.01% | 4.94% | 121,361 | 15.69 | 8 | +0.0877% | 1,017.3 |
| Floater | 4.92% | 2.12% | 74,048 | 8.07 | 4 | -0.2299% | 1,040.1 |
| Op. Retract | 4.83% | 4.13% | 81,197 | 3.20 | 16 | -0.1687% | 1,023.4 |
| Split-Share | 5.09% | 4.90% | 99,536 | 3.88 | 15 | -0.3190% | 1,037.4 |
| Interest Bearing | 6.25% | 6.76% | 64,462 | 4.61 | 3 | -0.3389% | 1,031.6 |
| Perpetual-Premium | 5.56% | 5.29% | 99,078 | 6.60 | 24 | -0.1247% | 1,019.1 |
| Perpetual-Discount | 5.11% | 5.15% | 296,980 | 15.23 | 39 | -0.4558% | 969.9 |
| Major Price Changes | |||
| Issue | Index | Change | Notes |
| PWF.PR.K | PerpetualDiscount | -2.2186% | Now with a pre-tax bid-YTW of 5.24% based on a bid of 23.80 and a limitMaturity. |
| CM.PR.H | PerpetualDiscount | -2.0877% | Now with a pre-tax bid-YTW of 5.16% based on a bid of 23.45 and a limitMaturity. |
| BAM.PR.N | PerpetualDiscount | -1.4181% | Closed at 20.16-29, which is rather odd, I think, given that BAM.PR.M closed at 20.85-00. These issues are identical except for the start of the redemption schedule – BAM.PR.N starts six months later, which is better. However, BAM.PR.N is still attempting to cope with a horrible reception at issue time. MAPF has a position. Now with a pre-tax bid-YTW of 5.99% based on a bid of 20.16 and a limitMaturity. |
| RY.PR.D | PerpetualDiscount | -1.4172% | Now with a pre-tax bid-YTW of 5.07% based on a bid of 22.26 and a limitMaturity. |
| CM.PR.R | PerpetualPremium | -1.2476% | Now with a pre-tax bid-YTW of 4.59% based on a bid of 25.66 and a softMaturity 2013-4-29 at 25.00. |
| LBS.PR.A | SplitShare | -1.2476% | Asset coverage of a little over 2.4:1 as of August 9, according to Brompton Group. Now with a pre-tax bid-YTW of 4.82% based on a bid of 10.29 and a hardMaturity 2013-11-29 at 10.00. |
| BAM.PR.G | FixFloat | -1.2422% | |
| BAM.PR.B | Floater | -1.1885% | |
| BSD.PR.A | InterestBearing | -1.0672% | Asset coverage of slightly over 1.8:1 as of August 10, according to Brookfield Funds. Now with a pre-tax bid-YTW of 7.51% (mostly as interest) based on a bid of 9.27 and a hardMaturity 2015-3-31 at 10.00. |
| BCE.PR.T | FixFloat | +1.2129% | On ZERO volume, but enough to keep the FixFloat index from negativity! |
| Volume Highlights | |||
| Issue | Index | Volume | Notes |
| MFC.PR.C | PerpetualDiscount | 61,290 | Now with a pre-tax bid-YTW of 4.94% based on a bid of 23.10 and a limitMaturity. |
| GWO.PR.F | PerpetualPremium | 51,688 | Now with a pre-tax bid-YTW of 3.52% based on a bid of 26.85 and a call 2008-10-30 at 26.00. There are some, obviously, who are willing to bet it won’t be called! |
| NA.PR.L | PerpetualDiscount | 43,100 | Nesbitt crossed 25,000 at 24.10. Now with a pre-tax bid-YTW of 5.05% based on a bid of 24.10 and a limitMaturity. |
| BNS.PR.M | PerpetualDiscount | 41,175 | National Bank bought a total of 29,000 in the late afternoon, including a cross of 25,000 at 22.99. Now with a pre-tax bid-YTW of 4.93% based on a bid of 23.00 and a limitMaturity. |
| GWO.PR.I | PerpetualDiscount | 37,400 | Now with a pre-tax bid-YTW of 5.08% based on a bid of 22.45 and a limitMaturity. |
There were fifteen other $25-equivalent index-included issues trading over 10,000 shares today.
For the last several years I’ve held no P3’s, on the grounds that spreads were too tight. I’m familiar with your 5 and 10 rule (not more than 5% in any one P3 and 10% in all P3’s), but I think that one’s odds are better in P3’s when spreads are wide than when they are narrow; and while I know you disdain what you perceive as market timing, which might entail allocating funds to P3’s in accordance with subjective judgments (albeit it subjective judgments of quantitive data), you also seem to believe in playing the odds. Further, I am skeptical that there is necessarily a whole lot of difference between a P3(high) and a P2(low), a skepticism that has become all the more acute with the recent peformance (I’m trying to be charitible) of the rating agencies.
All of which gets me around to this question: is the P3(high) YPG.PR.B (the Yellow Pages for those of you who don’t know) yielding an interest equivalent of about 9.5% in B.C. really all that more risky (junky in your terms) than BAM.PR.N (an investment bank/financial engineering shop with god knows what on its books yielding who cares what). I ask because you seem prepared to load up on the latter but not the former, solely on the grounds of what the rating agencies have to say about the matter, agencies that just know are getting around to downgrading AAA securities to the junk levels they are presently trading at.
(Full disclosure: less than 5% of my portfolio is in the YPG issue and a little more than 5% is in the BAM issue, but I’m a heck of a lot more worried about the credit of the latter than the former.)
I’ll be the last to deny that the YPG preferreds currently look very attractive. An interest equivalent of 9.5% is about 500bp over Canadas, which is about equal to the equity premium with significantly less risk to capital.
It has become fashionable to disparage the Rating Agencies, but they have an extremely good track record, which is both public and verifiable. As with the market in general, it is reasonable to disagree with them from time to time and this can be a profitable endeavor. And also as with the market in general, anybody who does attempt to exploit their errors and inefficiencies should expect to be wrong at least one-third of the time.
YPG bonds, the 5.25% of ’16, are currently indicated at 260bp over Canadas. BAM bonds, the 5.29% of ’17, are currently indicated at 130bp over Canadas. So at least I have some company in thinking there’s a difference!
It is my view that BAM is suffering from the “Conglomerate Discount”, in the same way that GE Capital bonds suffer from the Conglomerate Discount. This makes no sense at all, since conglomerates should enjoy a premium on their bond prices – a premium that is recognized by the agencies. It is certainly reasonable that conglomerates should suffer a conglomerate discount on their stock price – but that’s an entirely different thing.
BAM may also be suffering from simply having too many issues on the market. I don’t mind backing up the truck to buy Royal Bank preferreds, for instance, but I limit exposure to lesser names.
Thanks James. I find the spread information you provide between the bonds and preferred shares of the same issuer very helpful. I think of the bond investors (institutions) as the relatively smart money as compared with the preferred share investors (retail). Am I right to think of it this way, and, if so, what do you think an appropriate spread should be, given the lesser covenants on a preferred share? Also, if I could trouble you, I would be interested to know the spreads on the BAM and YPG issues. On high quality issues the spreads seem to me to be the closest thing to a free lunch that anyone, certainly retail like me, will ever get.
Please keep up the fabulous discourse. It’s extremely edifying.
By the way, I want to take respectful issue with you on your view of the ratings agencies. The fact that the rating agencies have a good record does not address my grievance. They should have a good record, as most of the time when they set ratings they are, in my view, just telling the market what it already knows and has priced in. So, their ratings should, for the most part, jibe with the market and, by that indicia, be accurate.
The real question, however, is whether the conflict they put themselves in by accepting payment for their ratings from the issuers and playing an integral part in a selling process that indirectly rewards them for slapping high quality ratings on low quality securities, provides any value to the market. The fact that packaged subprime mortgages that were rated AAA are falling in value is not the fault of the rating agencies. But the fact that the agencies concurred with the market’s assessment of their AAA ratings when they are paid, presumably, to know better, is their fault. It is precisely in these situations (which are rare), where the rating agencies are being asked to put intellectual honesty ahead of self-interest, that the track record of the agencies should be measured. Like pilots today, who prove their worth in emergencies not routine operations, rating agencies should prove their worth in outlier situations. By that indicia, my guess is that they fail.
I think of the bond investors (institutions) as the relatively smart money as compared with the preferred share investors (retail). Am I right to think of it this way
I think so, provided the word “smart” is not taken too literally. The preferred share market is comprised of three little ants, each with a 51% chance of being right. When they take a vote on where the market should be, the chance that the majority is right is only slightly better than even. The bond market is comprised of twenty thousand little ants.
so, what do you think an appropriate spread should be, given the lesser covenants on a preferred share?
I have no idea. Prefs should pay more than a bond and less than an equity. An equity should be somewhere around 500bp over Canadas.
Also, if I could trouble you, I would be interested to know the spreads on the BAM and YPG issues.
I’m not sure what you mean here. You mean, like what I posted, but regularly? That might be coming, but not soon.
The real question, however, is whether the conflict they put themselves in by accepting payment for their ratings from the issuers and playing an integral part in a selling process that indirectly rewards them for slapping high quality ratings on low quality securities, provides any value to the market.
Sarkozy is on the case! And as soon as he’s fixed up credit ratings, he’s going to make it rain soup.
Can you suggest a workable alternative payment model?
But the fact that the agencies concurred with the market’s assessment of their AAA ratings when they are paid, presumably, to know better, is their fault.
I haven’t seen a transition analysis for these things yet and a transition analysis that means anything won’t be available for ten years.
Additionally, do you remember the chart I reproduced on August 2? It appears that fraud was a increasing component of the sub-prime market – there’s not much a rating agency can do to protect themselves from fraud. They’re not the police.
How many AAA tranches have, in fact, defaulted? I’m not a sub-prime specialist, so I don’t know the answer.
But one way or another, there’s not much to argue about here. Ratings Agencies do not make your investment decisions. They are advisors, just like stockbrokers, shoe-shine boys and HIMIPref™. If you don’t like their advice nothing forces you, or any other adult, to take it. Deutsche Bank (? was it Deutsche?) made a boatload of money shorting sub-prime.
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