PrefBlog

Another trifecta for the Canadian preferred share market today, with TXPR, CPD and ZPR all making new 52-week highs.

The US inflation numbers had something for everyone!

Consumer prices rose more quickly in December, the latest sign that the Federal Reserve’s fight against inflation may have stalled.

The Consumer Price Index rose 0.4 percent from November, and was up 2.9 percent from a year earlier, the Labor Department said on Wednesday. It was the fastest one-month increase in overall prices since February, driven in part by another sharp rise in the price of eggs and other groceries.

The “core” measure of inflation, which strips out volatile food and fuel prices to give a better sense of the underlying trend, was more encouraging: The index rose 3.2 percent from a year earlier after three straight months of 3.3 percent gains. Forecasters had not expected core inflation to slow.
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Inflation in housing — by far the biggest monthly expense for most families, and one of the most stubborn categories of consumer prices — has finally begun to ease: Shelter prices were up 4.6 percent in December from a year earlier, the smallest 12-month increase in nearly three years.

PerpetualDiscounts now yield 6.03%, equivalent to 7.84% interest at the standard equivalency factor of 1.3x. Long corporates yielded 4.62% on 2025-1-14 and since then the closing price of ZLC changed from 15.02 to 15.19, a total return of +1.13%, implying a decrease in yields (assuming that the “Duration” of 12.66 reported by BMO is Modified Duration) of about 9bp to 4.53%. Therefore, the pre-tax interest-equivalent spread (in this context, the “Seniority Spread”) has widened slightly (and perhaps spuriously) to 330bp from the 325bp reported January 8.

The day brought with it sone interest with massive trading in the BCE.PR.E / BCE.PR.F pair with Gundy CIBC acting on the E buy-side and the F sell-side. TMXMoney.com reports VWAPs (for all trades in the day, not just CIBC’s) of 17.618 and 17.651, respectively.

E will go ex-dividend 1/31 for about 0.11723 (which was the dividend earned on 12/31) while F went ex on 12/31 for $0.2415625, while conversion is effective 2/1, so that helps the math a bit. If somebody is putting the position on AND converting to close the position, they’re making a little money, much of which will be eaten up by commission unless they have low trading costs. Cost of capital would nibble away at the balance. So maybe it’s a real money account behind all this, that has held the Fs but wants or wouldn’t mind the Es, depending on what the reset rate on the Fs turns out to be. It would be interesting to hear the story on this … it would be interesting to hear a lot of stories!

And who were the guys on the other side of all these trades and what were their stories?

Jobs, jobs, jobs!

The economy added 256,000 jobs in December, seasonally adjusted, the Labor Department reported on Friday. It was a better-than-expected number amid a labor market that has been slowly cooling for two years. The unemployment rate edged down to 4.1 percent.
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• Wages still strong: Average hourly earnings rose 0.3 percent over the month, in line with expectations, amounting to a 3.9 percent gain since last year.
• Growth powered by the usual suspects: Health care, government, social assistance, and leisure and hospitality were the main drivers of the strong showing. But retail returned from what had been a largely flat year in the sector, adding 43,000 jobs.
• Labor force participation recedes: The share of people between the ages of 25 and 54 who were either working or looking for work edged down to 83.4 percent, and is now half a point lower than the 83.9 percent it reached earlier last year. The drop was led entirely by men; the participation rate for prime-age women rose.

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The yield on the 10-year U.S. Treasury note, which underpins a host of corporate and consumer loans, rose 0.17 percentage points for the week, a big move in that market. On Friday, the 10-year yield hit its highest level since late 2023, the last time investors fretted about government spending getting out of control.

This week, the 30-year mortgage rate, which typically tracks the 10-year Treasury yield, reached its highest level since early July. The S&P 500 index tumbled 1.9 percent for the week, with most of that fall on Friday as the bond tumult spread to other markets. The dollar continued its long-running rise, as the expectation of higher interest rates in the United States maintained its allure for investors around the world, even as yields in other bond markets lurched higher.

In Britain, worries over the country’s borrowing needs contributed to a sharp sell-off in the nation’s government bonds, known as gilts, with the yield on the 10-year note rising 0.24 percentage points, on course for its biggest one-week move in a year. In Germany, a benchmark for Europe’s debt markets, the yield on 10-year government notes, or bunds, rose 0.17 percentage points.

… and in the 51st state:

Canada’s economy added nearly four times the number of jobs forecasted for December and the unemployment rate surprisingly ticked down to 6.7 per cent, data showed on Friday, giving the central bank breathing room to determine the pace of further rate cuts.

The economy added a net 90,900 jobs last month, with almost two-thirds coming from full-time work, according to Statistics Canada. The job gains – third time in the past four months – were spread across several industries, the agency said.
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The jobs data pushed down market bets on a likelihood of a 25 basis point rate cut later this month from 70 per cent to 50 per cent.

The Canadian dollar weakened further after the data trading down 0.22 per cent at 1.4427 to the U.S. dollar, or 69.31 U.S. cents.
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The average hourly wage growth for permanent employees slowed to an annual rate of 3.7 per cent from 3.9 per cent in November, Statistics Canada said. The closely-watched wage growth rate was the slowest since April 2022.

In further sign of the job market firming up, Canada’s employment rate, or the proportion of the population that is employed, increased for the first time since January 2023.

… and the markets did their thing:

U.S. and Canadian stocks sold off on Friday, with the S&P 500 erasing its 2025 gains, after an upbeat American jobs report stoked fresh inflation fears, reinforcing bets that the Federal Reserve will be cautious in cutting interest rates this year. Investors also pared bets that the Bank of Canada will cut its trend-setting interest rate again later this month after a surprisingly strong jobs report this side of the border. Bond yields were up sharply in both countries.
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Pressuring stocks, the yield on the 30-year U.S. Treasury note touched 5% – its highest since November 2023, but slightly retreated to 4.966%.

Canada’s closely watched 5-year bond yield was up 13 basis points by late day to its highest level since mid-November.

… and in the swaps market:

Swaps post-jobs announcement

After the mid-December inflation announcement, the December 2025 swap rate was 2.78% … so this figure has actually declined over the past three weeks odd.

The Bank of Canada has released Staff Working Paper 2025-2 by Michael Brolley and David A. Cimon titled Non-Bank Dealing and Liquidity Bifurcation in Fixed-Income Markets:

Non-bank financial institutions, such as principal-trading firms and hedge funds, increasingly compete with bank-owned dealers in fixed-income markets. Some market participants worry that if non-bank financial institutions push out established bank dealers, liquidity will become unreliable during times of stress. We model non-bank entry and state-dependent liquidity provision. Non-bank participants improve liquidity more during normal times than in stress, leading to a bifurcation of liquidity. In the cross-section, their entry improves liquidity for large and previously unserved small clients; however, banks may no longer provide reliable liquidity to marginal clients. Central bank lending may limit harmful bifurcation during times of stress if that lending is predictable and at sufficiently favourable terms.
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In modern fixed income markets, expanding competition in liquidity provision has improved trading costs for investors. In corporate bond markets, Hendershott et al. (2021) estimate that the direct impact of increased competition for liquidity provision reduces trading costs by 10 to 20 percent. Li and Sch¨urhoff (2019) provide evidence that improved trading costs through better prices arise when clients are not served only by a small subset of core dealers, further echoing the benefits of intermediary competition. However, incumbent dealers are raising the alarm that the increased competition can have serious unintended consequences.

In government bond markets, banks have historically assumed the primary intermediary role. These bank dealers argue that during times of stress, they provide liquidity to institutional investors who require guaranteed access to liquidity to meet demands of margin calls or redemptions. If bank dealers must now compete with non-bank intermediaries (e.g., principal trading firms and hedge funds), the concern is that increased competition in ‘good times’ will reduce their capacity to absorb liquidity demands during times of stress—when non-bank intermediaries would withdraw—leading to greater market instability.1 Hence, focusing on liquidity improvements in stable markets
ignores this important role that bank dealers play, and competition from non-bank intermediaries may worsen liquidity during times of stress.

It’s kind of interesting to look at this through the lens of current politics – one can think of the non-bank intermediaries as emphasizing a transactional basis for deals (like Trump, we have so often been told) while the banks emphasize the relationship. And then you have to ask yourself: what are the causes and other effects of that?

TXPR was down 21bp today, erasing about half of yesterday’s 42bp “4pm gain”. An Assiduous Reader wrote in to claim that this was due to CPD reinvesting the L.PR.B redemption money, which seems reasonable enough, but illustrates my big problem with slavish devotion to mechanical, price-insensitive trading strategies: telegraphing your intent to perform big trades costs money.

I complain about this particularly with respect to pre-announcements of index composition changes. In Fund Comparison 2012, I discussed the Market Impact of the 12Q4 TXPR Revision, which was quite substantial; in yesterday’s particular case, it seems clear that CPD’s insistence on reinvesting redemption money with the objective of minimizing tracking error against the index cost its investors money, as the reinvestment price was artificially boosted by their action. Investors would have been better off had the reinvestment taken place in a more discreet manner, even if this had resulted in an increased tracking error; but many investors worship at the altar of tracking error and the fund, while performing better, would have seemed less attractive.

It’s a complicated world and cannot be solved with simple rules!