January 27, 2010

The Securities & Exchange Commission has issued a statement SEC Approves Money Market Fund Reforms to Better Protect Investors. Some of the changes are cosmetic and boxticky, others serve the usual regulatory purpose of looking good without addressing the underlying issue. Their rationale for the changes is:

The financial crisis and the weaknesses revealed by the Reserve Primary Fund’s “breaking the buck” in September 2008 precipitated a full-scale review of the money market fund regulatory regime by the SEC. A money market fund “breaks the buck” when its net asset value (NAV) falls below $1.00 per share, meaning investors in that fund will lose money. The SEC’s new rules are intended to increase the resilience of money market funds to economic stresses and reduce the risks of runs on the funds by tightening the maturity and credit quality standards and imposing new liquidity requirements.

Reserve Primary Fund broke the buck because it had a relatively small position in commercial paper that defaulted; there was no backstop to cover the default. While it will be conceded that the mathematical chances of this happening again will be reduced by, say, the strong encouragement to MMFs to hold Treasury securities, the fundamental cause is not addressed: there was no backup.

I have argued that the Volcker proposals for MMF regulation be implemented. Nothing will ever guarantee that commercial paper won’t default; the only thing that will seriously affect the incidence of buck-breaking is a formalization of the current nod-and-wink guarantee by the sponsor; it will then require a double-default to break the buck.

The Boston Fed has released a book of conference proceedings titled Policymaking Insights from Behavioral Economics with chapters:

  • Behavioral Economics: Its Prospects and Promises for Policymakers
  • Behavioral Aspects of Price Setting and Their Policy Implications
  • Household Savings Behavior in the United States: The Role of Literacy, Information, and Financial Education Programs
  • The Behavioral Economics of the Labor Market: Central Findings and Their Policy Implications
  • U.S. House Price Dynamics and Behavioral Economics
  • Happiness, Contentment, and Other Emotions for Central Banks
  • Behavioral Economics and Public Policy: Reflections on the Past and Lessons for the Future
  • Implications of Behavioral Economics for Monetary Policy
  • Behavioral Economics as “Psychologically Informed” Economic Inquiry

Comrade Peace-Prize’s bank regulation initiative caused some chatter at Davos.

A relatively quiet day on the Canadian Preferred Share market, with PerpetualDiscounts gaining 8bp and FixedResets losing 6bp on the day. Volume was normal, and there was only one issue exhibiting an interesting amount of price volatility.

PerpetualDiscounts closed yielding 5.78%, equivalent to 8.09% interest at the standard equivalency factor of 1.4x. Long Corporates now yield about 5.8%, so the pre-tax interest-equivalent spread is now about 230bp, continuing to widen from the 215bp reported January 20.

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

Values are provisional and are finalized monthly
Index Mean
Current
Yield
(at bid)
Median
YTW
Median
Average
Trading
Value
Median
Mod Dur
(YTW)
Issues Day’s Perf. Index Value
Ratchet 0.00 % 0.00 % 0 0.00 0 -0.0966 % 1,717.0
FixedFloater 5.57 % 3.66 % 36,335 19.43 1 0.8790 % 2,836.4
Floater 2.28 % 2.65 % 105,318 20.64 3 -0.0966 % 2,145.1
OpRet 4.85 % -4.21 % 111,582 0.09 13 0.0739 % 2,317.3
SplitShare 6.35 % -0.83 % 156,568 0.08 2 -0.0219 % 2,116.2
Interest-Bearing 0.00 % 0.00 % 0 0.00 0 0.0739 % 2,119.0
Perpetual-Premium 5.81 % 5.65 % 151,624 6.04 12 0.0797 % 1,890.1
Perpetual-Discount 5.75 % 5.78 % 178,360 14.19 63 0.0836 % 1,829.8
FixedReset 5.42 % 3.58 % 341,533 3.82 42 -0.0567 % 2,178.4
Performance Highlights
Issue Index Change Notes
CIU.PR.A Perpetual-Discount 1.50 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2040-01-27
Maturity Price : 21.01
Evaluated at bid price : 21.01
Bid-YTW : 5.57 %
Volume Highlights
Issue Index Shares
Traded
Notes
RY.PR.T FixedReset 129,150 RBC crossed 30,400 at 27.68, then another 60,500 at 27.71, finishing with 10,600 at 27.70.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-09-23
Maturity Price : 25.00
Evaluated at bid price : 27.70
Bid-YTW : 3.64 %
RY.PR.X FixedReset 93,280 Nesbitt crossed 50,000 at 27.80; Desjardins crossed blocks of 20,000 and 10,000 at the same price.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-09-23
Maturity Price : 25.00
Evaluated at bid price : 27.78
Bid-YTW : 3.58 %
TD.PR.I FixedReset 77,288 TD crossed 50,000 at 27.80.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-08-30
Maturity Price : 25.00
Evaluated at bid price : 27.77
Bid-YTW : 3.63 %
IGM.PR.B Perpetual-Discount 52,290 Desjardins crossed blocks of 13,400 and 13,000 at 24.75.
YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2040-01-27
Maturity Price : 24.50
Evaluated at bid price : 24.71
Bid-YTW : 6.06 %
BAM.PR.R FixedReset 45,325 YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2040-01-27
Maturity Price : 23.18
Evaluated at bid price : 25.27
Bid-YTW : 4.75 %
BMO.PR.O FixedReset 42,999 National crossed 24,000 at 28.34.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-06-24
Maturity Price : 25.00
Evaluated at bid price : 28.31
Bid-YTW : 3.56 %
There were 33 other index-included issues trading in excess of 10,000 shares.

7 Responses to “January 27, 2010”

  1. meander says:

    Really, enough with the “Comrade Peace-Prize”. Serious issues are worthy of better than ad hominem attacks and name calling.

    It brings down the tone of your otherwise articulate commentary.

  2. jiHymas says:

    Most politicians mentioned often enough will get nicknames on this blog, such as good old Comrade PP, Spend-Every-Penny, and What Debt?

    It’s not to everybody’s taste, but it doesn’t have to be.

    If nothing else, it will help convince the search engines that this is not a political blog.

  3. truthortalk says:

    Hi James,

    I really enjoy your blog.

    Question for you if you don’t mind.

    Eyeballing one of your old charts on the the pre-tax interest-equivalent spread, it appears that the current 230 bp is a good 100bp or so wider than the norm.

    Do you think if one was to initiate a position now, it would be reasonable to expect that spread compression would offset the pain of rising interest rates in a return to “normal” levels of interest rates?

    Cheers

  4. truthortalk says:

    more specifically, would share prices hold up?

  5. jiHymas says:

    Eyeballing one of your old charts on the the pre-tax interest-equivalent spread, it appears that the current 230 bp is a good 100bp or so wider than the norm.

    I usually express the pre-credit-crunch norm as a range: 100-150bp. I think this conveys more information than an average.

    Do you think if one was to initiate a position now, it would be reasonable to expect that spread compression would offset the pain of rising interest rates in a return to “normal” levels of interest rates?

    There’s a number of things to consider here.

    Most importantly, as I never tire of pointing out, whenever anybody talks about “interest rates” you always have to ask: “Which interest rates?”. In this particular case, it appears you are talking about yields on government bonds in general and the overnight rate in particular, and I agree that these will probably rise in the relatively short term – the main question in my mind is will this happen to significant effect this year, or will it happen next year.

    However, I quote spreads against Long Corporates for a reason: there is far less basis risk in this spread than there is in anything else I’ve seen quoted. Long Corporates and PerpetualDiscounts have a great number of common factors affecting their yields.

    It is not clear whether Corporate rates in general, Long Corporate rates in particular, and interest-equivalent yields on PerpetualDiscounts in excruciating detail will also rise in tandem with governments. During the Credit Crunch, these rates rose while the rates on government securities fell; a return to normal – if by normal, one means, say 2005-07 – will imply that each of these corporate-based yields will fall.

    In other words, in a “return to normal” scenario, spread compression – of both PerpetualDiscounts vs. Long Corporates AND of Long Corporates vs. Long Canadas – will exceed the rise in Long Canadas.

    However, the spread compression story is pretty complex, particularly with respect to PDs.

    i) How much of the change in risk-aversion currently evidenced by the increase in the Seniority Spread is permanent?

    ii) How much of the change in actual-risk that I expect to see in banks and insurers over the next few years (tighter regulation, more common equity) will be reflected in spreads?

    In sum … I dunno.

    All I can suggest is that you make your allocation to preferreds on the basis of things they’re good at – long term tax advantaged income at a good spread to alternatives – while ensuring that your portfolio as a whole will compensate if the things they’re bad at (Number 1: Coping with inflation) if those bad things come to pass.

    This is more complicated, but much more reliable, than trying to time the market. See my post Market Timing? for more on this theme.

  6. truthortalk says:

    Thanks!

  7. […] PerpetualDiscounts closed the month yielding 5.81%, equivalent to 8.13% interest at the standard equivalency factor of 1.4x. Long Corporates returned 4.02% on the month to close with a yield of about 5.8%, so the pre-tax interest-equivalent spread (also called the Seniority Spread) is now about 235bp, a little wider than the 230bp reported on January 27. […]

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