Category: Market Action

It was quite a day today … I saw a flying pig, a cat with horns, and S&P upgrading Quebec:

• •We expect the Province of Quebec to extend its record of prudent fiscal policies, with strict cost controls and growing tax revenues keeping its budget in surplus and causing its debt ratios to further shrink over the next couple of years.
• •As a result, we are raising our long-term issuer credit and senior unsecured debt ratings on Quebec to ‘AA-‘ from ‘A+’, and affirming our short-term issuer credit rating at ‘A-1+’.
• •The stable outlook reflects our expectation that, in the next two years, Quebec will generate modest after-capital surpluses and reduce its tax-supported debt ratio.

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We expect Quebec to continue benefiting from moderate economic momentum and strict cost controls, enabling it to achieve operating and after-capital surpluses of 8.7% and 1.2%, respectively, from fiscal years 2016-2020. This outlook is better than we foresaw last year, despite the government’s recent decision to hasten the elimination of the health premium tax and boost its program and infrastructure spending before the October 2018 election. While the government’s fiscal framework could change post-election, regardless of the party elected, our base-case assumption is for general continuity in fiscal policies, given the high visibility in undoing some of the fiscal checks, such as the requirement for balanced budgets and the Generations Fund that are enshrined in legislation. The province also has contingencies available within its 2017 budget, should its economic picture moderate or other spending priorities arise.

Positive operating results are allowing Quebec to deposit more than C$2 billion yearly into its Generations Fund, which we treat analytically as a sinking fund. We expect the balance in this fund to reach C$15.9 billion by fiscal 2019, up significantly from C$8.5 billion in fiscal 2016. This, alongside increasing revenues, will lower Quebec’s tax-supported debt to 211% of consolidated operating revenues by fiscal 2019. This is a major reduction from its peak of 235% in fiscal 2015. Nevertheless, even at the lower level, Quebec’s debt burden would remain high by domestic and international standards and, if it doesn’t materially decline below this projected level, would likely remain a barrier to further upgrades. We also anticipate the province’s interest expense to decrease slowly, averaging 9.3% of adjusted operating revenues from fiscal years 2017-2019.

Andrew Willis of the Globe had some very good commentary on the Home Capital settlement:

Part of the solution, announced Wednesday, is a regulatory settlement that sees Home Capital absolve the OSC of any blame for the whole mess. In a news release, Home Capital chair Brenda Eprile said the company “acknowledges that the Commission is not to blame for the events of recent months involving its liquidity position.”

I’m guessing Ms. Eprile grit her teeth while signing off on that line. But her goal is to get Home Capital moving forward, and that meant resolving regulatory issues and potential class-action lawsuits. As part of a settlement that’s going to set back Home Capital – or its insurance company – approximately $30-million, it doesn’t cost Ms. Eprile anything to give the OSC a little political coverage.

I’m also guessing that Ontario’s Premier was thrilled to see that statement, as the provincial Liberals wouldn’t want to be fighting an election next year as the party that nearly vaporized the largest lender to homeowners who can’t borrow from the big banks.
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From the OSC’s point of view, sources say there is an equally strongly-held view that Home Capital and its legal advisers dug in their heels on the terms of the settlement and that led to the public showdown.

This view is bolstered by the fact that many lawyers believe Home Capital and its executives would have been cleared if the OSC allegations had ever been taken to a hearing. Disclosure decisions that Home Capital made back in 2015 were approved by one former OSC chair – lawyer Jim Baillie from law firm Torys, and are now being defended by another former head of OSC, Stikeman Elliott’s Ed Waitzer.

I expect that the next company announcement of a big, well-publicized negotiated settlement will include a phrase along the lines of ‘I am a running-dog lackey of the anti-investor deviationist line! I have been an unwitting dupe of the pro-inadequate disclosure camp!’ Give bureaucrats power that can be countered only by the superior political connections of the Big Banks and Big Insurers and what else do you expect?

What a difference a week makes!

Investors and economists are recalibrating rate forecasts after the central bank’s surprise talk of tightening this week signaled a policy move could come sooner rather than later.

A Bloomberg survey of 17 economists found the majority now project a rate increase this year. Six predict higher rates in October and two suggest a September hike. That’s an about face from a week ago, when only two forecasters were projecting rates would rise in 2017.

Traders are also pricing in a full 25 basis point increase to the central bank’s 0.5 percent benchmark interest rate by the December meeting, according to Bloomberg calculations on overnight index swaps.
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Swaps trading on Thursday showed a 46 percent chance of an increase in July, and a 75 percent chance of one by December. A week ago the odds were 5 percent and 27 percent.

The Canada five-year bounced upwards today, closing at 1.14%.

As expected, the FOMC hiked the US policy rate:

Information received since the Federal Open Market Committee met in May indicates that the labor market has continued to strengthen and that economic activity has been rising moderately so far this year. Job gains have moderated but have been solid, on average, since the beginning of the year, and the unemployment rate has declined. Household spending has picked up in recent months, and business fixed investment has continued to expand. On a 12-month basis, inflation has declined recently and, like the measure excluding food and energy prices, is running somewhat below 2 percent. Market-based measures of inflation compensation remain low; survey-based measures of longer-term inflation expectations are little changed, on balance.
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In view of realized and expected labor market conditions and inflation, the Committee decided to raise the target range for the federal funds rate to 1 to 1-1/4 percent. The stance of monetary policy remains accommodative, thereby supporting some further strengthening in labor market conditions and a sustained return to 2 percent inflation.

The US market took it all in stride:

Treasuries rose, the dollar trimmed losses and U.S. stocks turned lower after Yellen suggested weak readings on inflation won’t persist amid a tightening labor market.

And, in fact, the Canada five-year reversed itself today, closing with a yield of 1.10%, down 5bp on the day.

PerpetualDiscounts now yield 5.10%, equivalent to 6.63% interest at the standard equivalency factor of 1.3x. Long corporates now yield a little over 3.7%, so the pre-tax interest-equivalent spread (in this context, the “Seniority Spread”) is now about 290bp, a narrowing from the 300bp reported June 7.

I mentioned the Agrium precedent in connection with the proposed Dealers’ Sleaze Fees supporting the TransAlta preferred share exchange offer – it looks like the issue will soon get another airing:

The largest shareholder in Liquor Stores NA Ltd. asked regulators Tuesday to halt a controversial vote-buying scheme rolled out by the retailer’s board of directors during a bitter proxy fight.

The incumbent board at Liquor Stores, North America’s largest publicly-traded chain of wine and spirits stores, launched a campaign last week that sees financial advisers paid five cents per share for each vote they obtain in favour of the current board, if the slate is elected at the company’s annual meeting, scheduled for June 20.

Private equity fund PointNorth Capital Inc., which owns 9.9 per cent of the 252-store Edmonton-based chain and nominated six directors on the nine-person board, filed an application early Tuesday with the Alberta Securities Commission asking that the adviser payments be halted and that any voting agreements obtained for cash be terminated.
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Lawyers watching this showdown from the sidelines said the Alberta regulator is likely to weigh in on PointNorth’s application, as the issues break new ground on governance and the ASC may want to establish a precedent for future proxy battles.

PointNorth said Tuesday that proxy advisory service Institutional Shareholder Services Inc. (ISS) sent a report on Liquor Store’s vote buying plan to ISS clients that said: “Investors may consider these solicitation fees as an improper defensive tactic that leads to an entrenchment of the incumbents.”

As one might expect, Liquor Stores’ response was disingenuous bullshit:

Liquor Stores N.A. Ltd. (the “Company” or “Liquor Stores”) (TSX: LIQ), North America’s largest publicly traded liquor retailer, today stated that an application by activist PointNorth Capital to the Alberta Securities Commission (ASC) is without merit.

Liquor Stores added that the Soliciting Dealer arrangement put in place by Liquor Stores is in the public interest, contrary to PointNorth’s claim to the ASC. The Soliciting Dealer arrangement is designed to alert the Company’s retail shareholders to the grave risk PointNorth poses to their Liquor Stores’ investment and ensure shareholder democracy in Canada can function for small shareholders and not just the large institutions.

Anybody with more than a grade four education will immediately ask why, given the stated aim, the Soliciting Dealer arrangement only pays stockbrokers for votes in favour of management’s favoured directors. But that never bothers the sleaze-bags who continue to infest large company management, PR firms and politics.

Meanwhile, market timers are in a tizzy about Poluz’s hawkish comments this morning:

The Canadian dollar strengthened to a two-month high against its U.S. counterpart on Tuesday as comments by Bank of Canada Governor Stephen Poloz supported the view that the central bank could raise interest rates sooner than previously thought.

The interest rates cuts the Bank of Canada made in 2015 have largely done their job as the economy appears to be gathering momentum, the head of the central bank said.

“Poloz today signaled that rates won’t be on hold forever,” said Nick Exarhos, economist at CIBC Capital Markets.

Chances of an interest rate hike this year have surged to 72 per cent from just 22 per cent before stronger-than-expected jobs data on Friday, data from the overnight index swaps market shows.

The audio of the interview has been posted by the BoC – no transcript, dammit!

The loonie did well:

The loonie surged after Wilkins’s comments, ending Monday up 1.1 percent to C$1.3350 per U.S. dollar in Toronto, the steepest increase since March and the biggest advance among Group-of-10 peers. The loonie added to gains Tuesday, rising 0.33 percent. Odds of a 2017 rate increase almost doubled to 59 percent, from 30 percent on Friday, based on trading in the swaps market. Yields on benchmark 2-year government bonds surged 11 basis points to 0.84 percent, and added another three basis points Tuesday to the highest since January 2015.

And the final level for the Canada five-year was 1.15% … holy smokes! It’s not even a recent high, but it’s up 10bp since yesterday and a total of 19bp since Friday! That’s a fast move … and very likely is the cause of today’s stupendous returns (and volume!) for FixedResets. And all this happened on a day on which 51 of the 377 issues I track went ex-dividend! There will be some sad stories coming out of that coincidence, I’m sure.

Every now and then I see a complaint about high fees in group RRSP accounts. For instance, the fees shown by Manulife for its programme …. well, let’s just say they are not institutional-type fees. There should definitely be something of an increment for group RRSPs, as there is bookkeeping and there will be services to the individuals concerned … but I, personally, would be enormously pissed off if I worked for a big company and my pension account was paying anything close to this.

In the States, Jerome Schlichter is doing something about it:

Mr. Schlichter’s firm, Schlichter Bogard & Denton LLP, has secured $334 million in settlements for clients since 2010. Two years ago, it won a case before the Supreme Court, which ruled that employers with 401(k) plans have an ongoing duty to monitor the investments they choose.

Mr. Schlichter, 68 years old, said retirement plans previously didn’t receive watchdog treatment from regulators or anyone else. “Nobody’s bonus depended on how the 401(k) plan was managed,” he said.

Last year, law firms filed more than 25 fee cases against 401(k)-type plans, according to Groom Law Group in Washington. That includes 14 from Mr. Schlichter’s firm against employers including elite universities. The complaints allege, in part, that the plans failed to bargain for lower fees.

Meanwhile, there is speculation that we may be headed for interesting times:

Broad financial conditions are as accommodative now as they were in early 2015, the point of maximum Fed stimulus, according to a closely watchedGoldman Sachs index, which measures the combined impact of movements in interest rates, stock prices and the value of the dollar.
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“If we decide that we need to tighten financial conditions and we raise short-term interest rates and that doesn’t accomplish our objective, then we’re going to have to tighten short-term interest rates by more,” New York Fed President William Dudley told The Wall Street Journal last year.

It is still too early to say whether officials will raise rates more aggressively than planned. Still, Harvard University economist Jeremy Stein, a former Fed governor, said because financial conditions are so loose after three rate increases, the Fed is less likely to back away from its plan to keep raising rates, even in the face of low inflation.

… and there was a moderately hawkish speech by Carolyn A. Wilkins, Senior Deputy Governor of the Bank of Canada:

In 2015 and 2016, the starkest effects of the drop in oil prices on GDP were in business investment. Firms in the oil and gas sector cut capital spending in half, shutting down oil rigs and cancelling investment plans. Investment in the rest of the economy was also subdued, in part as a result of the weakness in non-commodity exports, especially last year. The economy kept growing, thanks to household spending, and activity was concentrated in regions where the energy sector was not as important.

Today, as we move past the adjustment to lower oil prices, we are seeing the economy pick up. A couple of weeks ago we got the national accounts data from Statistics Canada for the first quarter of this year. It was pretty impressive, with growth at 3.7 per cent. And the figures show business investment growing again. This is in large part because capital expenditures in the oil and gas sector have bounced back.
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We also see a broadening when it comes to growth across industries (Chart 4)
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Jobs in goods-producing industries are now on the rise, and the share of sectors adding workers is growing.

Some sectors stand out. The technology sector has been creating a lot of jobs, many of which are very well paid. Other sectors that have seen strong job growth include finance and insurance, health care and education.

As sources of growth become more diverse, gains in employment are spreading across the country (Chart 5).
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Our judgment on the appropriate stance of monetary policy will continue to be based on the outlook for inflation and on the full range of risks—both upside and downside—to that outlook. An important aspect of our inflation assessment is that the economic drag from lower oil prices is now largely behind us. And the 50 basis point reduction in our policy rate in 2015 has facilitated this adjustment. As growth continues and, ideally, broadens further, Governing Council will be assessing whether all of the considerable monetary policy stimulus presently in place is still required.

The speech has been tied to a rise in the loonie:

The Canadian dollar extended gains after Wilkins’s comments, appreciating 0.9 percent to C$1.3350 per U.S. dollar at 2:04 p.m. in Toronto, the steepest increase since March and the biggest advance among Group-of-10 peers on Monday. The gain helped turn the loonie’s year-to-date loss against the greenback into a gain.

As early as January, Governor Stephen Poloz had been talking about the possibility of another rate cut, after lowering the key rate twice in 2015 to 0.5 percent.

Swaps trading suggests investors are placing an 11 percent probability of a rate increase next month, and a 56 percent chance by the end of this year. On Friday, those probabilities were 5 percent and 30 percent. The central bank hasn’t raised interest rates since 2010.

The comments also sparked a sell-off in Canada’s federal government bonds, pushing the yield on two-year notes up seven basis points, the steepest rise since December, to an almost three-month high of 0.81 percent. The rate on five-year securities rose above 1 percent for the first time in three weeks.

The five-year ended the day at 1.05%, a sharp rise from Friday’s 0.96% – which may have been behind today’s preferred share market gain.

A Spanish bank went bust, so obviously the sky is falling:

The collapse of Banco Popular Espanol SA and a subsequent wipeout of its junior debt serves as a reminder for Canadian investors lapping up similar bonds why these securities offer a higher yield than others.

The 1-euro rescue takeover of what was Spain’s sixth-largest bank by rival Banco Santander SA left holders of its stock and contingent convertible bonds with losses of 3.3 billion euros ($3.7 billion). Senior debt was protected as authorities averted a run on the bank and saved taxpayers from bearing costs.

The move comes as investors across the ocean have been buying non-viability contingent capital bonds, securities which convert to equity when certain crisis triggers are hit. While no major Canadian lender is anywhere near the trouble Banco Popular was in, the Bank of Canada warned on Thursday of increased financial system vulnerabilities associated with household debt.

So a Canadian NVCC bond was highlighted in the story:

The spread on the 2.982 percent NVCC bonds of Toronto-Dominion Bank, Canada’s largest bank by assets, with a call date in September 2020 has fallen 160 basis points from its peak in February 2016, while that on the lender’s 2.045 percent deposit notes maturing in March 2021 has shrunk 54 basis points over roughly the same period, according to Bloomberg data.

“It should be a bit of a wake-up call for Canadian investors,” said Bill Girard, who manages corporate bond portfolios at Bank of Nova Scotia’s 1832 Asset Management, arguing that Canadian investors have been buying higher-yielding NVCC bonds without fully realizing the risk. “Banco Popular investors might have thought the same. You’re safe right until the point you aren’t.”

It should be a bit of a wake-up call, but it won’t be. The reason it should be a wake-up call is because … well, first off, let’s take a look at the financial statements for PHILLIPS, HAGER & NORTH SHORT TERM BOND & MORTGAGE FUND (I don’t want to pick on Royal Bank’s subsidiary – it was just the first one I found).

On page four of the document, we find that this fund holds just over $17-million of these things.

WHAT THE #$$%**@$ IS AN NVCC ISSUE DOING IN A SHORT TERM BOND & MORTGAGE FUND?

I have noted in the past that OSFI wanted this stuff incorporated into bond indices, even though they’re not actually bonds as the term is generally understood. OSFI’s desire for this was publicly reported and was consistent with other sleaze-bag regulatory rip-offs of unsophisticated retail bond index investors globally. So, naturally, the bank-owned TSX happily incorporated them in their bond indices. This was a problem for quite some time, but I am pleased to report that May, 2017, revision of the FTSE TMX Canada Universe and Maple Bond Indexes contains section 3.1.4:

Exclusions

The indexes do not include floating-rate notes, convertible bonds (which convert to equity at the option of the holder), Non Viable Contingent Capital bonds (NVCC which convert to equity if the regulator determines a firm is “Non Viable”), residential and commercial mortgage-backed securities (CMBS and MBS), other monthly-pay securities, other prepayable securities, inflation-indexed securities, or securities specifically targeted to the retail market. It also excludes securities that are not priced, which would typically be securities that are closely held and do not trade.

It doesn’t happen very often, but sometimes things do get better!

PerpetualDiscounts now yield 5.08%, equivalent to 6.60% interest at the standard conversion factor of 1.3x. Long corporates now yield about 3.60%, so the pre-tax interest-equivalent spread (in this context, the “Seniority Spread”) is now about 300bp, a slight (and perhaps spurious) widening from the 295bp reported May 31.