March 18, 2013

Remember the old Traders’ Rule? “If you owe a million, you’ve got a problem. If you owe a billion, they’ve got a problem.” The EU has come up with a variation on this for sovereigns: If you owe €10-billion, you’ve got a problem:

Euro-area finance ministers agreed to an unprecedented tax on Cypriot bank deposits as officials unveiled a 10 billion-euro ($13 billion) rescue plan for the country, the fifth since Europe’s debt crisis broke out in 2009.

Cyprus will impose a levy of 6.75 percent on deposits of less than 100,000 euros — the ceiling for European Union account insurance — and 9.9 percent above that.

Officials have struggled to find an agreement that would rescue Cyprus, which accounts for just half of a percent of the euro region’s economy, without unsettling investors in larger countries and sparking a new round of market contagion.

While the tax on deposits carries some risks of setting a precedent for other countries in the euro area, the ECB has shown it’s prepared to do what it takes to preserve the currency union, said Holger Schmieding, chief economist at Berenberg Bank in London.

“We are optimistic that it will not spark massive contagion,” Schmieding said in a note. “Still, with the unprecedented haircut on Cypriot bank deposits we are in uncharted territory again.”

So my question is this: Why would anybody keep anything more than a month’s expenses in a European bank?

The plot thickened over the weekend:

Cyprus’s parliament postponed an emergency session called to approve a levy on bank deposits on Sunday after signs lawmakers could block the surprise move agreed in Brussels to help fund a bailout and avert national bankruptcy.

Early market reaction is unfriendly:

The levy is “a worrying precedent with potentially systemic consequences if depositors in other periphery countries fear a similar treatment in the future,” Joachim Fels, chief economist at Morgan Stanley in London, wrote in a note to clients.

Scenes of Cypriots lining up at cash machines raised the specter of capital flight elsewhere and threatened to disrupt a market calm that settled over the 17-member bloc since the ECB’s pledge in September to backstop troubled nations’ debt. With no government in Italy, Spain in the throes of a political scandal and Greece struggling to meet the terms of its own bailout, more turmoil could hamper efforts to end the crisis.

Anticipating gains in haven markets, Bill Gross, who runs the world’s biggest bond fund at Pacific Investment Management Co. in Newport Beach, California, said on Twitter that the concern in Cyprus “moves risk-on trade to backseat.”

“Sell euro as well,” he wrote.

Barclays Plc (BARC) said in a report today that the deposit levy is the latest erosion of bondholder protection at European banks and an “ominous” sign of how bailouts are being handled.

The ECB’s pledge to buy bonds should prevail over market panic, though the tax on deposits brings the euro area into “uncharted territory again,” Holger Schmieding, chief economist at Berenberg Bank in London, wrote in a note yesterday.

“Given the fragile state of the banking systems, especially in Greece and Spain, anything that can impede the needed rebuilding of confidence in these banking systems can potentially cause financial and economic damage,” he said.

Early indications were not promising:

The euro dropped to its lowest level this year against the dollar after an unprecedented levy on bank deposits in Cyprus threatened to derail the nation’s bailout and spark a new round in Europe’s debt crisis.

The 17-nation euro declined by the most in three weeks against the yen as investors sought haven assets after Cypriot President Nicos Anastasiades bowed to demands by euro-area finance ministers to raise 5.8 billion euros ($7.5 billion) by taking a piece of every bank account in Cyprus. The yen rose against all of its 16 major peers after Anastasiades delayed a vote on the measure in parliament until today.

It got worse as the day wore on:

The euro slid the most in 14 months against the dollar after a proposed levy on bank deposits in Cyprus threatened to worsen the European debt crisis.

The 17-nation currency fell to a two-week low versus the yen as the nation postponed a vote on meeting demands by regional finance ministers to raise 5.8 billion euros ($7.5 billion) by imposing losses on its depositors. The euro pared its drop as declines in Italian and Spanish government bonds were limited. The New Zealand dollar and Mexican peso weakened as investors sold higher-yielding currencies.

“The biggest fear right now is that there could be a domino effect, which is pushing the euro down,” Douglas Borthwick, a managing director and head of foreign exchange at Chapdelaine & Co. in New York, said in a telephone interview. “What the market doesn’t understand is that people who take out money may still put it elsewhere in the euro zone, so I would argue that it’s not euro-negative.”

So towards the end of the day, the EU suggested a novel adjustment – soak the rich:

European policy makers signaled flexibility on the application of an unprecedented bank tax in Cyprus, seeking to overcome outrage that threatens to derail the nation’s bailout. European shares and the euro fell.

While demanding that the levy raise the targeted 5.8 billion euros ($7.6 billion), finance officials said easing the cost to smaller savers was up to Cyprus. A vote on the tax, needed to secure 10 billion euros in rescue loans, was delayed for a second day until tomorrow. Banks will remain shut through March 20 after a holiday today, a government official said. Euro-area finance ministers plan a conference call at 7:30 p.m. Brussels time today to discuss the matter.

“If the government wants to change the structure of the solidarity levy for the banking sector, the government can decide as such,” European Central Bank Executive Board member Joerg Asmussen said today in Berlin. “What’s important is that the planned revenue of 5.8 billion euros remain.”

Russian President Vladimir Putin called the tax “unfair, unprofessional and dangerous,” according to a statement posted on the Kremlin website. Russian companies and individuals have $31 billion of deposits in Cyprus, according to Moody’s.

Cypriot banks had 68.4 billion euros in deposits from clients other than banks at the end of January. Of that, 21 billion euros, or 31 percent, were from clients outside the euro area, 63 percent were from domestic depositors, and 7 percent were from other nations within the euro region, according to data from the Central Bank of Cyprus.

Now it’s finger-pointing time:

As after German Chancellor Angela Merkel’s beach-front walk with France’s then-President Nicolas Sarkozy in Deauville, the Cypriot package set off a flurry of recriminations, with European and national officials alternately taking credit for and distancing themselves from the deal.

First up was German Finance Minister Wolfgang Schaeuble, who blamed the idea of a confiscatory tax — and by implication, the market fallout — on the unelected technocrats at the European Commission and the European Central Bank.

“We of course would have respected the deposit insurance that guarantees accounts up to 100,000 but those who opposed a bail-in — the Cypriot government, also the European Commission and the ECB — they decided on this solution and now they have to explain it to the Cypriot people,” Schaeuble said.

What he neglected to say, on ARD television late yesterday, was that Germany favored an even more radical “bail-in” that would have exploded Cyprus’s banking system and propelled the country toward a euro exit, potentially making for a bigger mess than the one that unfolded on the markets today.

Schaeuble drew criticism from the Cypriot side for heavy- handed tactics. At one point, a Cypriot official said under cover of anonymity, he demanded a 40 percent depositor tax. A Schaeuble aide contacted by Bloomberg didn’t immediately respond to that observation.

And now the US Treasury’s getting involved:

The U.S. called for a “responsible and fair” resolution to the financial crisis in Cyprus, where a proposed tax on bank deposits roiled global markets.

The Treasury Department is “monitoring the situation in Cyprus closely,” and Secretary Jacob J. Lew has been speaking with his European counterparts, the department said in an e- mailed statement today. “It is important that Cyprus and its euro-area partners work to resolve the situation in a way that is responsible and fair and ensures financial stability.”

Hands up whoever is in favour of responsibility and fairness!

Bloomberg wants in on the action:

Of all the many steps that the euro area has taken to contain its debt crisis, the decision to force ordinary savers in Cyprus to contribute to their country’s bailout is the worst.

Technically, the rescue package for Cyprus doesn’t violate the euro area’s guarantee that all deposits up to 100,000 ($130,000) are insured. That’s because the proposal for the Cypriot government to take 6.75 percent of all bank deposits less than 100,000 euros, and 9.9 percent above that amount, is defined as a tax. Depositors, however, will see this for what it is: a raid on their savings.

Megan Greene chimes in:

If there were a bank run in the euro area, the ECB would probably finance the run by allowing national central banks to provide emergency lending assistance. Such borrowing by banks is guaranteed by the government, further blurring the line between the finances of the commercial banks and the state.

Second, the Cyprus bailout deal makes a mockery of deposit insurance in Europe. This doesn’t bode well for the credibility of a European Union-wide deposit guarantee, one of the basic tenets of a banking union.

The bailout agreement will fail to deal with the Cyprus problem and may reintroduce the risk of a financial collapse in the region, which had been significantly reduced. If this is the case, then market pressure on the weaker economies in Europe could reach levels not seen since last August, only this time against a backdrop of much higher austerity fatigue. That is an explosive combination.

In a development that I would like to stress has NO RELATIONSHIP WHATSOEVER to the Cyprus mess, the Europeans are beating up on the Credit Rating Agencies again:

Credit rating companies are falling short of standards set by European Union, the bloc’s chief markets regulator said.

The regulator highlighted failings in the “process of disclosure and implementation of changes” to the methodology used to rate the creditworthiness of Europe’s banks, the Paris- based European Securities and Markets Authority said in an e- mailed statement today.

“Considering the continued importance of credit ratings in financial markets it is extremely important that credit rating agencies identify and remedy those issues in their businesses which may undermine the independence, objectivity and the quality of credit ratings,” Steven Maijoor, ESMA’s chairman said in the statement.

If you owe €80-billion, they’ve got a problem:

Euro-area finance ministers agreed to extend maturities on rescue loans to Ireland and Portugal, easing the terms on two recipients of European bailout aid in a show of support for their commitment to austerity.

The ministers gave no details on the extension. Those will be worked out by the so-called troika that oversees euro-area bailouts and the European Financial Stability Facility, the currency bloc’s temporary rescue fund, the finance chiefs said today. The details will be presented to euro ministers at the same time as the memorandum of understanding underlying a rescue program for Cyprus.

Dallas Fed President Richard W. Fisher made a speech titled Ending ‘Too Big to Fail’:

Their exalted status also emboldens a sense of immunity from the law. As Attorney General Eric Holder frankly admitted to the Senate Judiciary Committee on March 6, when banks are considered too big to fail, it is “difficult for us to prosecute them … if you do bring a criminal charge, it will have a negative impact on the national economy.”[Footnoted Link]

The 2010 Dodd–Frank Wall Street Reform and Consumer Protection Act was a well-intentioned response to the problem. However, its stated promise—to end too big to fail—rings hollow. Running 849 pages and with more than 9,000 pages of regulations written so far to implement it, Dodd–Frank is long on process and complexity but short on results.

Regulators cannot enforce rules that are not easily understood.

Nor can they enforce these rules without creating armies of new bureaucrats. Congress’s Financial Services Committee aggregates information from the Federal Register that estimates the cumulative hours needed for the affected agencies, like the Fed, to fulfill new requirements called for by Dodd–Frank. The committee presently estimates that it will take 24,180,856 hours each year to comply with new rules already finalized for implementation of the act.[7] And we have yet to complete the rulemaking process!

Fisher did not address the critique of the “TBTF Funding Advantage” discussed on March 11.

I mentioned Chesapeake Energy’s bonds on March 7 in connection with “Covenant Arbitrage”, a fancy way of saying “Reading the Prospectus”. That situation, in which some were betting that the company would be forced to redeem some bonds at a premium, appears to have been resolved:

Chesapeake Energy Corp. (CHK) issued a notice to redeem $1.3 billion in bonds early, at par, after a judge ruled that the gas producer would probably prevail in court over any demand to pay $400 million in extra interest.

The company said in a statement today that it will continue to pursue a federal lawsuit to confirm that it has met the deadline to redeem without triggering a “make-whole” provision that would require paying the extra interest. The 6.775 percent notes fell the most since May.

The $1.3 billion of 6.775 percent notes due March 2019 fell 2.75 cents on the dollar to 104.5 cents to yield 5.87 percent at 11:30 a.m. in New York, according to Trace, the bond-price reporting system of the Financial Industry Regulatory Authority. The shares rose 40 cents to $22.92 at 11:40 a.m. in New York Stock Exchange composite trading.

Chesapeake, the second-biggest natural gas producer in the U.S., argued that today is the deadline for it to issue a notice of early redemption and avoid the make-whole provision. BNY Mellon (BK) said the call would have to be completed today and it’s now too late. Payment will be made on May 13 subject to a court ruling that Chesapeake met its deadline, according to today’s statement.

Engelmayer, in his ruling, said the contract was ambiguous and he would need to see evidence about how it was drafted before deciding at a trial which side is correct.

Here’s a law of interest:

From July 1, parents in China can sue their kids who don’t visit often enough, under a broadened law mandating children take better care of the aged. With China’s elderly population forecast to more than double to 487 million in the next 40 years, the government needs to try and limit the cost of caring for seniors.

It was a mixed day for the Canadian preferred share market, with PerpetualPremiums gaining 3bp, FixedResets down 8bp and DeemedRetractibles off 5bp. Volatility was negligible. Volume was on the high side of average.

HIMIPref™ Preferred Indices
These values reflect the December 2008 revision of the HIMIPref™ Indices

Values are provisional and are finalized monthly
Index Mean
(at bid)
Mod Dur
Issues Day’s Perf. Index Value
Ratchet 0.00 % 0.00 % 0 0.00 0 -0.5915 % 2,609.1
FixedFloater 4.12 % 3.46 % 30,536 18.35 1 0.2174 % 3,946.0
Floater 2.56 % 2.83 % 89,038 20.17 5 -0.5915 % 2,817.1
OpRet 4.81 % 2.28 % 60,445 0.28 5 0.1551 % 2,604.0
SplitShare 4.28 % 4.05 % 711,847 4.20 4 -0.0403 % 2,938.3
Interest-Bearing 0.00 % 0.00 % 0 0.00 0 0.1551 % 2,381.1
Perpetual-Premium 5.20 % -5.07 % 92,360 0.12 31 0.0318 % 2,362.0
Perpetual-Discount 4.84 % 4.85 % 163,937 15.79 4 -0.0203 % 2,662.0
FixedReset 4.90 % 2.70 % 286,456 3.31 80 -0.0836 % 2,507.7
Deemed-Retractible 4.87 % 3.24 % 137,891 0.60 44 -0.0485 % 2,444.8
Performance Highlights
Issue Index Change Notes
TRI.PR.B Floater -3.21 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2043-03-18
Maturity Price : 22.98
Evaluated at bid price : 23.25
Bid-YTW : 2.22 %
BAM.PF.B FixedReset -1.02 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2043-03-18
Maturity Price : 23.19
Evaluated at bid price : 25.25
Bid-YTW : 3.80 %
Volume Highlights
Issue Index Shares
ENB.PR.T FixedReset 145,800 RBC crossed blocks of 50,000 at 24,500, both at 25.75. Scotia crossed 40,000 at 25.62.
Maturity Type : Limit Maturity
Maturity Date : 2043-03-18
Maturity Price : 23.28
Evaluated at bid price : 25.60
Bid-YTW : 3.60 %
ENB.PR.P FixedReset 122,473 Scotia crossed 39,000 at 25.69 and 56,000 at 25.66.
Maturity Type : Call
Maturity Date : 2019-03-01
Maturity Price : 25.00
Evaluated at bid price : 25.61
Bid-YTW : 3.59 %
CIU.PR.B FixedReset 117,823 Nesbitt crossed 100,000 at 26.50.
Maturity Type : Call
Maturity Date : 2014-06-01
Maturity Price : 25.00
Evaluated at bid price : 26.43
Bid-YTW : 2.15 %
CM.PR.L FixedReset 83,055 Nesbitt crossed 75,000 at 26.54.
Maturity Type : Call
Maturity Date : 2014-04-30
Maturity Price : 25.00
Evaluated at bid price : 26.51
Bid-YTW : 1.79 %
PWF.PR.S Perpetual-Discount 77,830 Recent new issue.
Maturity Type : Limit Maturity
Maturity Date : 2043-03-18
Maturity Price : 24.68
Evaluated at bid price : 25.08
Bid-YTW : 4.80 %
RY.PR.R FixedReset 70,469 RBC crossed 50,000 at 26.05.
Maturity Type : Call
Maturity Date : 2014-02-24
Maturity Price : 25.00
Evaluated at bid price : 26.03
Bid-YTW : 2.23 %
There were 36 other index-included issues trading in excess of 10,000 shares.
Wide Spread Highlights
Issue Index Quote Data and Yield Notes
TRI.PR.B Floater Quote: 23.25 – 24.30
Spot Rate : 1.0500
Average : 0.6721

Maturity Type : Limit Maturity
Maturity Date : 2043-03-18
Maturity Price : 22.98
Evaluated at bid price : 23.25
Bid-YTW : 2.22 %

BAM.PR.C Floater Quote: 18.49 – 19.00
Spot Rate : 0.5100
Average : 0.3481

Maturity Type : Limit Maturity
Maturity Date : 2043-03-18
Maturity Price : 18.49
Evaluated at bid price : 18.49
Bid-YTW : 2.83 %

RY.PR.W Perpetual-Premium Quote: 25.60 – 25.99
Spot Rate : 0.3900
Average : 0.2798

Maturity Type : Call
Maturity Date : 2013-04-17
Maturity Price : 25.25
Evaluated at bid price : 25.60
Bid-YTW : -8.21 %

BAM.PF.B FixedReset Quote: 25.25 – 25.56
Spot Rate : 0.3100
Average : 0.2004

Maturity Type : Limit Maturity
Maturity Date : 2043-03-18
Maturity Price : 23.19
Evaluated at bid price : 25.25
Bid-YTW : 3.80 %

ABK.PR.C SplitShare Quote: 32.06 – 32.42
Spot Rate : 0.3600
Average : 0.2724

Maturity Type : Call
Maturity Date : 2014-03-10
Maturity Price : 31.64
Evaluated at bid price : 32.06
Bid-YTW : 2.71 %

W.PR.H Perpetual-Premium Quote: 25.90 – 26.19
Spot Rate : 0.2900
Average : 0.2061

Maturity Type : Call
Maturity Date : 2013-04-17
Maturity Price : 25.00
Evaluated at bid price : 25.90
Bid-YTW : -24.47 %

3 Responses to “March 18, 2013”

  1. mpisni says:

    Hi James, this one really blows my mind, after printing tons of cash in the USA and mandating spending cuts in the euro zone to instill confidence in the financial system the ruling parties are turning a 180 degree’s and taxing savers . When all the chatter has been “too much spending” these Eurozone oligarchas are now saying “too much saving”

    In my books its too much government , this move will erode any confidence people have in the financial system . I think they made this move in a tiny market to see if it will fly and if it does than it will be done in larger markets to fund government overspending. This precedent must be struck down or its market meltdown again as its all about confidence.

  2. jiHymas says:

    Yes. I can understand their desire to save €10-billion by avoiding bailing out a tax-haven, but I’m not sure if they really thought everything through.

    When financial rules are changing, each investor will assume that all the rules applicable to him will change for the worse; this was particularly apparent when Lehman went bankrupt. The Europeans seem to think they’ve stabilized the system enough to allow them to get away with this … but it’s not too clear!

    Certainly, I’d be withdrawing my money from European banks!

  3. […] noted yesterday, Russia is most upset about the Cypriot deposit tax. Here’s why: Wealthy Russian individuals […]

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