Category: Market Action

There was an article on Bloomberg about tech worker visas in the US:

Along with temporary deportation relief for millions, President Obama’s executive action will increase the number of U.S. college graduates from abroad who can temporarily be hired by U.S. corporations. That hasn’t satisfied tech companies and trade groups, which contend more green cards or guest worker visas are needed to keep tech industries growing because of a shortage of qualified American workers. But scholars say there’s a problem with that argument: The tech worker shortage doesn’t actually exist.

The argument against the tech worker shortage is presented in a paper by Hal Salzman, Daniel Kuehn, and B. Lindsay Lowell titled Guestworkers in the high-skill U.S. labor market:

This paper reviews and analyzes the science, technology, engineering, and mathematics (STEM) labor market and workforce and the supply of high-skill temporary foreign workers, who serve as “guestworkers.” It addresses three central issues in the ongoing discussion about the need for high-skill guestworkers in the United States:
Is there a problem producing enough STEM-educated students at sufficient performance levels to supply the labor market?
How large is the flow of guestworkers into the STEM workforce and into the information technology (IT) workforce in particular? And what are the characteristics of these workers?

What are the dynamics of the STEM labor market, and what are the employment and wage trends in the IT labor market?

Analysis of these issues provides the basis for assessing the extent of demand for STEM workers and the impact of guestworker flows on the STEM and IT workforces.
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The IT industry was able to attract increasing numbers of domestic graduates during periods of rising wages and employment, leading to a peak in wages and numbers of computer science graduates in the early 2000s. Since that time, the IT industry appears to be functioning with two distinct market patterns: a domestic supply (of workers and students) that responds to wage signals (and other aspects of working conditions such as future career prospects), and a guestworker supply that appears to be abundantly available even in times of relatively weak demand and even when wages decline or are stagnant.

Workers from countries with low wages and limited career opportunities will find the U.S. IT labor market attractive even when wages are too low and career opportunities too limited to increase the IT supply from domestic students and workers. In other words, the data suggest that current U.S. immigration policies that facilitate large flows of guestworkers appear to provide firms with access to labor that will be in plentiful supply at wages that are too low to induce a significantly increased supply from the domestic workforce.

Very interesting, but there are some policy questions left unaddressed. The first is a question of equilibrium – one would hope, from economic theory, that supply and demand for professionals of a given type will result in an equilibrium, as high wages increase supply (of people entering undergraduate studies in the field) and decrease demand (as projects become less profitable due to higher wages.

So question #1 is: given that programming is a well-paid sector (average salary in excess of $80,000, according to Figure K of the paper), and given that the end-product is so easily transported, does it not make sense to grant visas in order to increase the global market share of the US? This isn’t a “TFWs at Timmy’s” issue, these are services that are exported and have major spin-off benefits.

Question #2 (which is actually more relevant to the paper as written) is: is the population of IT guest-workers equivalent in any rough kind o way to the population of domestic workers? There is a huge variation of skill among professional programmers, with what I call ‘teeny-bopper programmers’ at the low end … they can do a competent job of coding as long as you give them their assignments in small chunks … but if they design a large project, you end up with spaghetti code that after a few iterations becomes undebuggable and unimprovable (it is my understanding that that is what happened to dBase). Designing a programme, determining how it will be broken down into modules, which talk to each other this way and rely on these common underlying functions … that’s a very highly skilled job.

So what’s the salary distribution of guest-workers compared to the salary distribution of domestic workers? If guest-workers are all in – say – the top tercile of domestic salaries, then the paper’s argument loses a lot of its validity.

Speaking of equilibrium labour markets, it’s good times for retailers:

Workers are facing the most favorable job market for seasonal work since the 18-month recession that started in December 2007, getting hired with fewer interviews and in some cases with higher pay.

About 821,000 workers will be hired for retail seasonal jobs this year, up 11 percent from a year ago and the highest since records were started in 1990, estimates Michael Niemira, former director of research for the International Council of Shopping Centers Inc. and now founder of economic forecasting firm The Retail Economist LLC in Tucson, Arizona.
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“I don’t want to say there is pressure on wages but there is an alignment of wages with demand,” said Jack Kleinhenz, chief economist with the National Retail Federation in Washington, who is estimating as many as 800,000 workers will be added. “There is some tightening” in the job market.

The unemployment rate for the retail and wholesale trade sector fell to 5.1 percent in October, the lowest since early 2008 in the initial months of the recession, Labor Department figures show. Wages and salaries for retail workers rose 2.5 percent in the third quarter from the same period in 2013, the biggest increase in more than four years, according to the Bureau of Labor Statistics data.

Seasonal job seekers using the website Snagajob.com are finding work in an average of 28 days this year compared with 45 days last year, company Chief Executive Officer Peter Harrison said. The Richmond, Virginia-based online matching service focuses on part-time and hourly positions.

Investment grade new issues have set a new record:

Investment-grade corporate debt sales have surged to a record $1.15 trillion this year as the most creditworthy borrowers flocked to the U.S. bond market to take advantage of historically low interest rates.

Apple Inc. (AAPL), Verizon Communications Inc. and Oracle Corp. were among borrowers that helped swell issuance this year. JPMorgan Chase & Co. was the the top underwriter for the fifth-straight year, grabbing 12.7 percent of the deals, according to data compiled by Bloomberg.

Alibaba Group Holdings Ltd., Asia’s biggest Internet company, led borrowings of more than $126 billion this month that helped sales breach last year’s record of $1.13 trillion. Companies have raced to the market to lock in borrowing costs that remain within 0.5 percentage point of the all-time low of 2.65 percent reached in 2013, Bank of America Merrill Lynch index data show.

Investors purchasing the debt have reaped 7.3 percent gains in 2014, overcoming the 1.5 percent loss last year, index data show. Investment-grade bonds are rated above Ba1 by Moody’s Investors Service and BB+ at Standard & Poor’s.

But it’s not good news all ’round:

Leveraged loan issuance plummeted in the U.S. this month as investors punished borrowers in an increasingly volatile market for high-yield, high-risk debt.

Borrowers including TransFirst Inc. and Norwegian Cruise Line Holdings Ltd. have sold $6.5 billion of U.S leveraged loans to institutional investors in what’s poised to be the slowest November since 2008, according to data compiled by Bloomberg. Volume was almost $30 billion in October. Fewer deals are getting done after loan prices plunged more than 3 percent last month from a July peak and yields rose to 6.2 percent, the highest in more than two years.
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The drop-off in issuance comes as regulators scrutinize Wall Street’s lending practices and demand for the speculative-grade debt fades. Leveraged loans are typically issued by companies that have ratings of less than Baa3 by Moody’s Investors Service and below BBB- by Standard & Poor’s.

Remember how the Competition Ha-Ha Board (the guys who made the discovery that not all on-line reviews are legitimate) gave the banks permission to extend their hegemony on financial services as long as they paid sufficient money to their regulatory buddies? Well, it’s going to get even better!

The chair of the Ontario Securities Commission has inked a new deal to co-operate on investigations with his former employer, the federal Competition Bureau, which he headed in the early 1990s.

While the two regulatory bodies have far different mandates, they say there are enough areas of mutual interest to work on fraud investigations, exchange “information and intelligence,” and undertake joint education initiatives.

It was a mixed day for the Canadian preferred share market, with PerpetualDiscounts down 20bp, FixedResets off 9bp and DeemedRetractibles gaining 13bp. Volatility was good, with a preponderance of FixedReset losers. Volume was above average.

PerpetualDiscounts now yield 5.01%, equivalent to 6.51% interest at the standard equivalency factor of 1.3x. Long Corporates now yield a little under 4.15%, so the pre-tax interest-equivalent spread (in this context, the “Seniority Spread”) is now about 235bp, unchanged from the November 19 report.

The OECD has released its OECD Economic Outlook, November 2014:

25/11/2014-Modest global economic forecasts, continuing high unemployment, and downshifts in potential output should spur governments with a greater sense of urgency to fully employ monetary, fiscal and structural policy levers to support growth, notably in Europe, according to the Economic Outlook.

The Economic Outlook draws attention to a global economy stuck in low gear, with growth in trade and investment under-performing historic averages and diverging demand patterns across countries and regions, both in advanced and emerging economies.
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Global GDP growth is projected to reach a 3.3% rate in 2014 before accelerating to 3.7% in 2015 and 3.9% in 2016, according to the Outlook. This pace is modest compared with the pre-crisis period and somewhat below the long-term average

I must say, I don’t understand their pricing strategy at all. They want $105 (presumably USD) for an electronic version while posting an electronic version that can’t be copy-pasted. Given that this is a taxpayer-funded organization, this is ridiculous. So I’ll report on the Globe & Mail stories instead.

They’re anticipating policy hikes sooner than most:

In the OECD’s twice-annual Economic Outlook, released early Tuesday, the international economic policy and research body argued that Canada’s low and economically stimulative 1.0-per-cent central bank rate “will need to be gradually withdrawn to counter inflationary pressures,” as its economy grows toward reaching its full output capacity.

“It is assumed in this projection that the first policy rate increase occurs in late May of 2015, and that rates rise steadily thereafter,” the outlook report said.
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At the time [November 2013], the OECD’s concern looked misplaced, given that inflation was below 1 per cent. And, indeed, its call for rate increase to begin before the end of 2014 was, in retrospect, premature.

But 12 months later, Canada’s inflation picture may make the OECD’s argument more compelling. Last week, Statistics Canada reported that the country’s total Consumer Price Index inflation rate in October was 2.4 per cent, its highest since early 2012. The so-called “core” inflation rate, which excludes the most volatile components of CPI and is the Bank of Canada’s key guide to underlying inflation trends, was 2.3 per cent last month, its highest since the end of 2008.

The OECD said Canada’s improving growth next year will be driven by rising export demand, particularly from the United States, which accounts for three-quarters of Canada’s exports. The OECD expects the U.S. economy will grow 3.1 per cent next year, its strongest in a decade and the highest among major advanced countries.

US mortgage rules are getting very strict:

The Consumer Financial Protection Bureau introduced the Ability to Repay rule, or ATR, in January to prevent borrowers from getting mortgages they can’t afford. Part-time wages can be included by banks in determining the ability to repay a mortgage if an employer verifies that the borrower has worked at the job for two years and will continue to do so. Lenders may consider a period of less than two years if they have a reasonable explanation.

The issue isn’t the rule — it’s how lenders interpret it, said Pete Mills, senior vice president for residential policy for the Mortgage Bankers Association in Washington. Banks are concerned about “potentially draconian” penalties for violating ATR, so they are being conservative when evaluating applications, he said.

“We don’t have a long enough track record to see how ATR is going to be enforced, so lenders are staying well inside the credit lines,” Mills said. “When you have an application based on multiple jobs — those are hard to evaluate from a stability of income standpoint.”

Sam Gilford, a CFPB spokesman, declined to comment.
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Without part-time income, some borrowers no longer meet the debt-to-income ratio used to measure the ability to repay, disqualifying them for a mortgage. Fannie Mae and Freddie Mac, the government-run companies that buy and back most U.S. mortgages, cap the ratio at 45 percent. For loans insured by the Federal Housing Administration, the maximum is 43 percent.

Clever regulation – allow exceptions on the basis of “reasonable explanations” so the regulators can’t be criticized, but refuse to give a reasonable explanation of just what exactly a reasonable explanation is, to make use of the loophole extraordinarily risky.

Note that because regulation writers are morons, the term Debt-To-Income (as defined by Fannie Mae) is a misnomer. It’s actually Debt-Service-To-Income:

The DTI ratio consists of two components:

• •total monthly obligations, which includes the qualifying payment for the subject mortgage loan and other long-term and significant short-term monthly debts (see Calculating Total Monthly Obligation below); and
• •total monthly income (see Chapter B3–3, Income Assessment).

The question of bankers’ pay is getting more entertaining by the minute:

Osborne said on Nov. 20 that he would consider ways to put bankers’ salaries at risk to ensure employees pay the price for misconduct and failure. At the same time, he dropped a court challenge against EU rules that cap bankers’ bonuses at twice fixed pay.

The U.K. maintains that the EU bonus rule gives banks a perverse incentive to boost fixed pay, breaking the link between compensation and performance. To restore that link through salaries, Osborne must resolve the problem that if fixed pay can be taken back, EU rules could classify it as a bonus that would be subject to the limit — and banks would still be able to raise salaries.

Meanwhile, universities are the new sweatshops:

Vandita Sharma writes code for a company that turns old radiators into high-tech heating devices. Gaurav Chhabra develops software that lets computers identify objects on camera. Paul Dariye is designing an app for a startup that helps nonprofits raise money.

The three engineers are paid $11 an hour or less by New York University’s Polytechnic School of Engineering, which has placed them in internships at small companies. Their work is at the center of a battle between NYU’s administration and the graduate student union, which is demanding higher wages for interns at the university’s startup incubators.

Engineers who do jobs comparable to those of Polytechnic’s interns make roughly $43 per hour, according to Glassdoor, a website that tracks salaries.

There’s no conflict of interest there. Nope, not one bit. Not with all the administrators employed by universities to watch over the incubation programme to make sure they’re run fairly.

It was an off day for the Canadian preferred share market, with PerpetualDiscounts off 7bp, FixedResets losing 15bp and DeemedRetractibles down 11bp. Volatility was average, but comprised entirely of losers. Volume was high.

These are strange times for bond markets:

The Bank for International Settlements estimates the amount of bonds outstanding has surged more than 40 percent since 2007 as countries such as the U.S. increased deficits to pull their economies out of recession and companies locked in low-cost financing as central banks dropped interest rates.

Even so, a shortfall emerged. At a time when investors scarred by the worst economic crisis since the Great Depression were seeking out the safest assets, central banks in the U.S., U.K. and Japan sapped new supply by purchasing trillions of dollars of bonds in unprecedented stimulus programs.

Global banking regulations designed to limit risk-taking and prevent a repeat of the crisis also boosted buying by requiring that financial firms stockpile highly rated assets.

All that extra demand has helped push down borrowing costs and upended forecasts by economists and strategists who foresaw higher bond yields this year.
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ECB President Mario Draghi fueled speculation that the bank will start buying government bonds after saying last week officials would broaden debt purchases if the inflation outlook weakens. Analysts estimate consumer prices in the euro area will rise 0.5 percent this year, the least since 2009.

The BOJ, the largest holder of Japan’s government bonds with 20 percent, may end up owning half that market by as early as 2018 as it tries to spur an economy that’s contracted at least five times in the past decade, according to Takuji Okubo, a chief economist at Japan Macro Advisors in Tokyo.

Central banks in the U.S., Europe, Japan and the U.K., along with the major lenders and reserve managers in those regions, are on pace to amass $26 trillion of debt securities by the end of next year, according to JPMorgan.
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And it’s not only the central banks. Global bond funds will probably add $280 billion next year, while pensions and insurers in the U.S., Europe, Japan and the U.K. will buy an estimated $550 billion, according to JPMorgan.

It was a mixed day for the Canadian preferred share market, with PerpetualDiscounts down 6bp, FixedResets gaining 5bp and DeemedRetractibles off 1bp. Volatility was average – but all the winners were FixedResets. Volume was slightly below average.

There is some thought that Canada’s inflation is normalizing:

Canada’s inflation rate accelerated faster than economists predicted in October, led by gasoline and clothing and suggesting the economy may be running hotter than the central bank had thought.

The consumer price index rose 2.4 percent compared with the same month a year earlier, Statistics Canada said from Ottawa. That’s faster than all 21 economists in a Bloomberg News survey predicted. The core rate that excludes eight volatile products accelerated to 2.3 percent, the strongest in almost three years.

Inflation has exceeded the Bank of Canada’s 2 percent target in five of the past six months, making it more difficult for Governor Stephen Poloz to argue temporary factors are driving price gains. Canada’s dollar rose the most in almost two months after today’s report as traders speculated the central bank may have to bring forward its timetable for raising borrowing costs.
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Canada’s dollar strengthened 0.7 percent to C$1.1229 per U.S. dollar at 10:40 a.m. Toronto time. Two-year federal government bond yields rose to 1.07 percent from 1.05 percent.

Clothing and footwear price gains accelerated to 3.1 percent, from September’s 2 percent pace, as retailers offered fewer discounts, Statistics Canada said today.

Gasoline prices rose 0.6 percent in October from a year earlier. On a monthly basis, gasoline fell 4 percent in October, the fourth consecutive decline.

The next few inflation reports may show the gains in gasoline and clothing prices receding, Ferley said, citing a recent fall in fuel prices and a slower depreciation of Canada’s dollar that had boosted the cost of imported apparel. Today’s inflation gain was still broad enough to suggest price gains faster than Poloz expects, he said.

Food prices rose 2.8 percent in October, including a 12.4 percent surge for meat purchased at stores.

It was a positive day for the Canadian preferred share market, with PerpetualDiscounts winning 15bp, FixedResets flat and DeemedRetractibles up 7bp. Volatility was good, comprised entirely of FixedResets. Volume was a little low.

I briefly mentioned subsidized gasoline in Saudi Arabia on November 11. Here’s a report on subsidized electricity in India:

The villagers of Dharnai in northern India had been living without electricity for more than 30 years when Greenpeace installed a microgrid to supply reliable, low-cost solar power.

Then, within weeks of the lights flickering on in Dharnai’s mud huts, the government utility hooked up the grid — flooding the community with cheap power that undercut the fledgling solar network. While Greenpeace had come to Dharnai at Bihar’s invitation, the unannounced arrival of the state’s utility threatened to put it out of business.
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It’s a scenario playing out at dozens of ventures across India’s hinterlands. Competition from state utilities, with their erratic yet unbeatably cheap subsidized power, is scuppering efforts to supply clean, modern energy in a country where more people die from inhaling soot produced by indoor fires than from smoking.

I mentioned a new round of bank-bashing yesterday, in connection with their commodities businesses. Could it be that this is related?:

Congressional scrutiny of Goldman Sachs Group Inc. (GS) and Morgan Stanley (MS)’s commodities businesses is another strain for units that already saw revenue drop by two-thirds from peak years.

Goldman Sachs produced $1 billion of revenue from its commodities unit and investments in commodity businesses in 2012, down from $3.4 billion in 2009, according to a Senate Permanent Subcommittee on Investigations report released today on banks’ involvement in those markets. Morgan Stanley’s commodity revenue fell for four straight years, from $3 billion in 2008 to $912 million in 2012, according to the report.

It’s an ill wind that blows nobody any good:

Six years after Bernard Madoff’s fraud collapsed, the cost of liquidating his defunct investment advisory firm to repay thousands of victims has topped $1 billion, though the con man’s former customers aren’t footing the bill.

The fees, paid by the industry-backed Securities Investor Protection Corp., which is managing the case, have financed a team of lawyers who this week surpassed $10 billion in recoveries for victims, or almost 60 percent of the principal that vanished after Madoff’s arrest in December 2008.

Irving Picard, the bankruptcy lawyer who’s leading the effort as trustee for Madoff’s company, included the new fee total in an interim report posted today on his website. A bankruptcy judge in Manhattan regularly approves the fees, sometimes over the objections of victims’ groups.
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“It’s obscene,” Helen Davis Chaitman, a lawyer representing some victims in the case, said in an e-mail about the fees. Chaitman, who has frequently challenged Picard in courts, said federal prosecutors recovered most of the cash for victims and Picard should pay out more than just principal.

It was a good day for the Canadian preferred share market, with PerpetualDiscounts winning 29bp, FixedResets up 16bp and DeemedRetractibles gaining 15bp. Volatility was low. Volume was average.

Recent musings on an Ontario tax hike should focus attention on Japan’s woes:

Japanese Prime Minister Shinzo Abe is discovering that haste makes waste.

Trying to double his nation’s sales tax to 10 percent over an 18-month period has resulted in the fourth recession since 2008 and the need to postpone the increase’s second part planned for next October. With an election now pending, the levy may be on hold at 8 percent until 2017.

The lesson is that the increases proved too much, too soon, and baby steps may have been more prudent, with the initial 3 percentage-point boost equivalent to 60 percent of the original level. In contrast, the U.K.’s 2011 increase of 2.5 percentage points amounted to a much smaller 14 percent boost and didn’t generate a recession.

Coming up next …Greenspan’s Conundrum Redux!

When then-Federal Reserve Chairman Greenspan raised the benchmark overnight rate from 2004 to 2006, long-term borrowing costs failed to increase, thwarting his attempts to tighten credit and curb excesses that contributed to the worst financial crisis in 80 years.

“We wanted to control the federal funds rate, but ran into trouble because long-term rates did not, as they always had previously, respond to the rise in short-term rates,” Greenspan said in an interview last week. He called this a “conundrum” during congressional testimony in 2005.

The bond market is signaling that past may be prologue as Yellen’s Fed prepares to raise rates next year. The yield on the 10-year U.S. Treasury note has fallen 0.71 percentage point in 2014 even as the Fed wound down its bond-buying program and mapped out a strategy to raise the benchmark federal funds rate from near zero, where it has been since 2008.
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The Fed does have one tool that Greenspan didn’t: a $4.49 trillion portfolio accumulated in three rounds of asset purchases. Selling some of those assets might provide a way to lift long-term rates if necessary, said Michael Gapen, senior U.S. economist at Barclays Plc in New York.

The sanctions on Russia are having some effect, even if some of the effects were unforeseen:

A recession is imminent, inflation is getting out of hand and the ruble and oil are in freefall, Economy Minister Alexei Ulyukayev told Putin, according to people who attended the meeting at the presidential mansion near Moscow in mid-October. Clearly, Ulyukayev concluded, sanctions need to be lifted.

At that, Putin recoiled. Do you, Alexei Valentinovich, he asked, using a patronymic, know how to do that? No, Vladimir Vladimirovich, Ulyukayev was said to reply, we were hoping you did. Putin said he didn’t know either and demanded options for surviving a decade of even more onerous sanctions, leaving the group deflated, the people said.

Days later, they presented Putin with two variants. To their surprise, he chose an initiative dubbed “economic liberalization,” aimed at easing the financial burden of corruption on all enterprises in the country, the people said. It was something they had championed for several years without gaining traction.

The policy, which Putin plans to announce during his annual address to parliament next month, calls for a crackdown on inspections and other forms of bureaucratic bullying that cost businesses tens of billions of dollars a year in bribes and kickbacks, the people said. It entails an order from the president to end predatory behavior, with prosecution being the incentive for compliance, they said.

There will be another round of bank bashing:

The biggest Wall Street banks have used their ownership of metal warehouses, oil tankers and other commodities businesses to gain unfair trading advantages and dominate markets, according to a U.S. Senate investigation.

In a 400-page report focused on Goldman Sachs Group Inc., Morgan Stanley (MS) and JPMorgan Chase & Co., a Senate panel said the firms have eroded what was once a strict line separating banking from commodities to the detriment of consumers and the financial system. The activity gives banks access to non-public information that could move markets and increases the likelihood that industrial accidents will spur taxpayer bailouts, the Permanent Subcommittee on Investigations found.

“We simply cannot allow a large powerful Wall Street bank the power to influence the price of a commodity essential to our economy,” Senator Carl Levin, who chairs the panel, told reporters in Washington today. He added that his staff “found substantial evidence that these activities expose major banks to catastrophic risks that are poorly understood.”

The controversy over banks’ involvement with commodities has spurred the Federal Reserve to review regulations and prompted some Wall Street firms to try to shed assets. Levin’s new findings include details on clients who entered into controversial aluminum transactions with Goldman Sachs and reveal that an employee questioned whether market-moving information could be passed on to traders.
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In August [2013], a district judge dismissed a suit against the firm and others brought by aluminum consumers, saying that an increase in a price component of aluminum was “an unintended consequence of rational profit maximizing behavior rather than the product of conspiratorial design.”

It was a good day for the Canadian preferred share market, with PerpetualDiscounts gaining 3bp, FixedResets winning 14bp and DeemedRetractibles up 13bp. Volatility was nil. Volume was very low.

PerpetualDiscounts now yield 5.03%, equivalent to 6.54% interest at the standard equivalency factor of 1.3x. Long corporates yield about 4.2%, so the pre-tax interest-equivalent spread (in this context, the “Seniority Spread”) is now about 235bp, unchanged from the November 5 report.

There are some interesting trends in bond markets:

The influence of high-frequency traders in the Treasury market is growing. About 60 percent of Treasury securities trades are expected to be transacted on electronic platforms by the end of next year, an increase from 40 percent in 2013, according to Tabb Group LLC, a New York-based research firm. Of those trades, 10 percent were executed by robots in 2010, a share that will probably grow to 20 percent next year, according to Tabb.
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New rules adopted after the 2008 credit crunch are also part of the new normal. Global guidelines called Basel III, instituted by the Bank for International Settlements in Basel, Switzerland, require banks to hold more cash in reserve for assets such as bonds they keep on their balance sheets.

Partly in compliance with the regulations, the 22 primary dealers authorized to trade directly with the Fed reduced their U.S. government debt holdings to $46.3 billion at the end of October from a record high $146 billion in October 2013, Fed data show. While they still hold inventory, they’re allocating less to opportunistically buying big clumps of bonds and then slowly selling them, a process known as market-making.
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Hedge funds have filled the vacuum created by the retreat of the big banks. On the morning of Oct. 15, the turmoil in Treasuries echoed in the trading of junk bonds. As $8 billion was being wiped out in that global market, Toronto hedge-fund manager Philip Mesman fielded e-mails from U.S. bankers clamoring for him to buy their customers’ holdings.

Investors were unloading the debt of the riskiest companies, forcing exchange-traded funds and mutual funds to sell. Before Basel III and the Volcker Rule, which limits the ability of U.S. banks to trade on their own accounts, dealers would’ve bought the bonds themselves and held them until finding someone to take them. Instead they were forwarding the “sell” messages to firms they knew had quick access to cash.
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The size of German bund futures that can go through the market at one time without moving the price has fallen 46 percent to 784 contracts as of Oct. 17, from this year’s peak of 1,450 contracts in April, according to JPMorgan. The average over the past four years was 920 contracts.

Yay! More regulation! The 2014 Ontario Economic Outlook and Fiscal Review states:

The government is also undertaking a review of the regulation of financial planning. An expert committee will be appointed to look at more tailored regulation of financial advisers and financial planners.

Only through increased regulation will Granny be able to get financial advice from a reliable and knowledgeable source: her friendly neighborhood bank teller, who will be pleased to sell her an index linked GIC.

There will be no fast-track for Keystone:

The U.S. Senate refused to approve TransCanada Corp. (TRP)’s $8 billion Keystone XL pipeline after years of a political fight over jobs, climate change and energy security.

The vote was 59-41 with 60 required for passage in the Democratic-led Senate. Republicans have said they will try again next year after their party takes control of the chamber. House Speaker John Boehner and Senate Republican leader Mitch McConnell say passage of a Keystone measure is a top priority.

President Barack Obama has opposed legislation approving the Keystone project, saying it would bypass a review being conducted by the State Department. He didn’t say whether he would sign or veto the bill if it reached his desk.

It was a good day for the Canadian preferred share market, with PerpetualDiscounts winning 27bp, FixedResets up 14bp and DeemedRetractibles gaining 8bp. Volatility was minimal. Volume was low.

To my astonishment, it looks like there is an adult on the buy-side:

Oeyvind Schanke, head of asset strategies at Norway’s $860 billion sovereign wealth fund, has worked out how to dodge traders in the U.S. trying to profit on his orders by leaving no pattern for them to track.

Investors who want to pre-empt trades by the world’s biggest sovereign-wealth fund and act on that information to make a profit — a practice known as front running — won’t have much success, he said.

“We’ve done a lot to try and avoid leaving those patterns,” Schanke said in a Nov. 14 interview at the Oslo headquarters of the fund. “We’re trading less using algorithmic trading now than we did some years ago and are doing much more trading in large block sizes to avoid pattern-reading.”

Incredible. He had a problem (though why the media insists on calling it “front-running” is beyond me); he sat and thought about it; he tried something new; it’s working. This is probably the most amazing advancement in institutional money management since the invention of the client lunch. CFA Level 27. This guy should get the next three Nobel Prizes in Economics, at least. He’s awesome.

BIS has published a paper by Michael Brei and Leonardo Gambacorta titled The leverage ratio over the cycle:

This paper analyses how the Basel III leverage ratio (Tier 1 capital/exposure) behaves over the cycle. The analysis proposes a setup to test for the cyclical properties of bank capital ratios, taking into account structural shifts in banks’ behaviour during the global financial crisis and its aftermath. Using a large data set covering international banks headquartered in 14 advanced economies for the period 1995-2012, we find that the Basel III leverage ratio is significantly more countercyclical than the risk weighted regulatory capital ratio: it is a tighter constraint for banks in booms and a looser constraint in recessions.

To universal surprise, the G-20 decided to encourage growth:

Group of 20 leaders agreed to take measures that would boost their economies by a collective $2 trillion by 2018 as they battle patchy growth and the threat of a European recession.

Citing risks from financial markets and geopolitical tensions, the leaders said the global economy is being held back by lackluster demand, according to their communique following a two-day summit that ended yesterday in Brisbane. The group submitted almost 1,000 individual policy changes designed to lift growth and said they would hold each other to account to ensure they are implemented.

But what else could they do, given the recession in Japan?

Less than 24 hours after heads of state gathering in Brisbane, Australia, agreed to take measures that would boost their economies by a collective $2 trillion by 2018, the Cabinet Office delivered news in Tokyo that Japan’s gross domestic product unexpectedly shrank an annualized 1.6 percent in the three months through September, the second straight contraction.

Disappointment is becoming routine for the global economy, with the International Monetary Fund last month cutting its 2014 world-growth outlook for the sixth time since January 2013. Weaker expansion stands to add pressure on policy makers including European Central Bank President Mario Draghi who are already pushing the limits of monetary stimulus and governments that are reluctant to increase spending.

Will Canadian interest rates rise in the short term (which is to say, five years)? I think so; they’re ridiculously low right now, have been for five years and are distorting the housing market. But not by much. The strength isn’t there.

Deutsche Bank AG is getting out of the kitchen:

Deutsche Bank AG will stop trading most credit-default swaps tied to individual companies, exiting a business that new banking regulations have made costlier, according to a spokeswoman.

The lender will instead focus on transactions in corporate bonds, while maintaining trading in the more active market for credit swaps tied to benchmark indexes, Michele Allison, a spokeswoman for the Frankfurt-based bank, said today. The firm also will continue trading swaps tied to emerging-market borrowers and distressed companies, she said.
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Deutsche Bank is exiting a part of the market that shrank to less than $11 trillion from $32 trillion before the financial crisis, data from the Bank for International Settlements show. Dealing in credit swaps, which have been blamed for exacerbating the 2008 financial crisis, has become more expensive for lenders like Deutsche Bank as regulators across the U.S. and Europe require banks to hold more capital to back trades, reducing the returns for shareholders.
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Among measures that regulators have enacted since the crisis is requiring large swaths of credit swaps to be backed by clearinghouses, which are capitalized by banks and require traders to set aside collateral, or margin, to cover losses if they can’t make good on the transactions. Much of the market, where the privately negotiated trades have typically been done over phone calls and e-mails, is also being shifted to electronic systems.

The regulatory crackdown pushed some of Wall Street’s most profitable credit derivatives and corporate-bond traders to less-regulated hedge funds. One trio of Deutsche Bank credit traders departed the bank’s New York office for hedge funds in 2011 and 2012 after making a combined $1 billion for the firm during the two preceding years, people with direct knowledge of the situation said in a 2012 Bloomberg News story.

Brookfield Investments, proud issuer of BRN.PR.A (which trades by appointment only and is not tracked by HIMIPref™) has been confirmed at Pfd-2(low) by DBRS:

The rating continues to be based on the strength of Brookfield Investments’ owner (Brookfield Asset Management Inc. or BAM: rated A (low), Stable trend by DBRS), as well as the Company’s relatively stable portfolio of real estate and asset management investments, with strong asset and dividend coverage. The rating remains limited by Brookfield Investments’ exposure to the volatility of overall capital markets, concentration of investments in the real estate sector, lack of investment restrictions and the relative illiquidity of unlisted investments.

Overall asset coverage (based on market values) for the Senior Preferred Shares increased to 17.49 times (x), for the six-month period ending June 30, 2014 (H1 2014), from 14.60x a year earlier. This was mainly due to an increase in investment values, particularly the Company’s investment in Brookfield Property Partners (BPY). That said, Brookfield Investments’ portfolio continues to have a high degree of exposure to the real estate sector. The Company also reduced its investment in Western Forest Products Inc. (Western) by disposing of 26 million shares in January 2014. As at Q2 2014, the Company had a 12.0% ownership interest in Western. As a result of the aforementioned portfolio changes, the Company’s exposure to real estate investments was 67.3% (on a market value basis as at Q2 2014). Specifically, BPY represents 55.7% of the Company’s investment portfolio on a market value basis. This should continue to support overall market values and provide stable dividends going forward. DBRS believes that asset coverage of 17.49x for the Senior Preferred Shares (based on market values in H1 2014) and dividend coverage of 12.45x are strong for the current rating category and provide a good level of downside protection. In terms of future investments, DBRS expects the Company will focus on stable, income-producing assets, such as preferred or common shares in real estate and power sectors.

It was a mixed day for the Canadian preferred share market, with PerpetualDiscounts up 18bp, FixedResets off 1bp and DeemedRetractibles gaining 4bp. Volatility was average. Volume was low.

There are some thoughts that Keystone has missed the boat:

Delays of the Keystone XL pipeline are providing little obstacle to Western Canadian oil producers getting their crude to the U.S. Gulf Coast, with shipments set to more than double next year.

The volume of Canadian crude processed at Gulf Coast refineries could climb to more than 400,000 barrels a day in 2015 from 208,000 in August, according to Jackie Forrest, vice president of Calgary-based ARC Financial Corp. The increase comes as Enbridge Inc.’s Flanagan South and an expanded Seaway pipeline raise their capacity to ship oil by as much as 450,000 barrels a day. Canadian exports to the Gulf rose 83 percent in the past four years.

The expansion shows Canadians are finding alternative entry points into the U.S. while the Keystone saga drags on. In the latest chapter, a Democratic senator and a Republican representative are seeking votes in their chambers to set the project in motion. The two are squaring off in a runoff election for a Senate seat from Louisiana, a state where support for the project is strong.

“Keystone is kind of old news,” Sandy Fielden, director of energy analytics at Austin, Texas-based consulting company RBN Energy, said Nov. 12 in an e-mail. “Producers have moved on and are looking for new capacity from other pipelines.”

TransCanada Corp. (TRP)’s Keystone XL, which would transport Alberta’s heavy oil sands crude to refineries on the Gulf, has been held up for six years, awaiting Obama administration approval.

… so, naturally, it’s a big issue:

Republicans, emboldened by big gains in last week’s midterm elections, have chosen to make Keystone XL into the first battle of wills with a lame-duck president.

And Mr. Obama, so far, isn’t backing down.

… because we’ve got other means of transport:

It’s not uncommon to see mile-long trains of tanker cars cutting through the centre of Lac La Biche, carrying tens of thousands of barrels of crude to market, snarling traffic as they go. And it’s not about to stop. Former mayor Aurel Langevin, who ran the town from 2012 to this past spring, estimates that, a year ago, Lac La Biche averaged three oil trains a day. That figure is expected to hit about eight per day, carrying upward of 100 tankers each, in the year ahead.

This new reality for Lac La Biche, and thousands of other towns across North America, is symptomatic of the critical–and costly–transportation bottleneck that now hangs over the oil sands. The lack of options for transporting Alberta’s heavy crude south, to oil refineries on the U.S. Gulf Coast, means it is sold at a significant discount to the benchmark West Texas Intermediate.

TransCanada Corp.’s $5.5-billion Keystone XL pipeline was supposed to be a key part of the solution–until it became a symbol for the debate over whether new pipes should be built anywhere in North America.

Actively managed US equity funds have done particularly badly vs. their benchmarks this year – various reasons have been put forward:

Here are some of the most-common excuses cited for what Arthur Miller might call “Death of a Stock Picker”: the Federal Reserve’s spigot of liquidity led to tighter correlations and less dispersion among industry groups that made it difficult to identify potential outperformers. And the boom in exchange-traded funds is also credited with having a similar effect.

Tom Lee of FundStrat Global Advisors today contributed another handy excuse: blame Apple Inc. Or rather, blame yourself if you didn’t load up on Apple shares. Apple, the largest company in the world, has rallied 41 percent this year, about four times as much as the Standard & Poor’s 500 Index. Last year, the shares were only good for about a fifth of the S&P 500’s 30 percent gain.

Not owning Apple in 2014 was one of the biggest reasons managers trailed benchmarks this year, according to Lee, accounting for 81.3 basis points of an average 340 basis-point underperformance. Skipping Microsoft Corp., up 33 percent in 2014, was good for another 36.2 basis points in underperformance, according to Lee.

And while many fund managers are cursing this year’s 18 percent rally in utilities, Lee points out that the group only accounts for 3 percent of the S&P 500 so the absence of the entire industry in a fund would only be good for 25 basis points of underperformance.

The ‘higher correlation’ argument needs to be taken with a grain of salt: if we assume every stock in the universe has exactly the same return at all times, then every actively managed fund will underperform by its MER; but by no more than the MER.

AltaGas Ltd., proud issuer of ALA.PR.A, ALA.PR.E and ALA.PR.G, was confirmed at Pfd-3 by DBRS:

DBRS expects the recent improving trend in the Company’s credit metrics to continue as the full-year benefits from assets placed in service are realized. Cash flow-to-adjusted debt has improved to 11.8% in Q3 2014 (9.6% in 2012) and adjusted debt in capital structure has improved to 51.9% (60.2% in 2012). DBRS expects the Company to finance its capital expenditure program with a prudent mix of equity and debt and maintain credit metrics consistent with its current rating.

Wow, DBRS has specified some very precise expectations there!

It was another mixed day for the Canadian preferred share market, with PerpetualDiscounts up 19bp, FixedResets off 6bp and DeemedRetractibles gaining 13bp. Volatility was average. Volume was very low.

And now it’s time for my monthly PrefLetter weekend!

OSFI honcho Jeremy Rudin made a speech today at the Life Insurance Invitational Forum:

We are also consulting with you in the international arena. We have a Canadian, Frank Swedlove of the CLHIA, who recently completed his term as inaugural chair of the Global Federation of Insurance Associations. The federation is deeply engaged with the International Association of Insurance Supervisors – the IAIS, of which OSFI is a member.

OSFI has been promoting reforms in the organization. We are happy to see the IAIS adopting the practices and governance structure of other bodies that support the Financial Stability Board. The IAIS is improving its planning, organizational efficiency, focus, and governance. It is developing a formal, robust and transparent process to streamline stakeholder consultations. Given the extremely important assignments the IAIS has undertaken for the FSB, this is good news.

As part of these reforms, the Observer category at the IAIS is being eliminated. I know that some insurers are concerned that this reform will reduce transparency at the IAIS.

I certainly agree that the IAIS needs to keep a window open for the industry to contribute to its deliberations. I am very supportive of the new IAIS consultative mechanism. It is similar to OSFI’s own approach to consultations, so I am confident it will be satisfactory.
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If we at OSFI think that the eventual international capital standard for insurance companies is too low for Canadian purposes, we will set a higher bar. My successors may have cause to thank me for doing so, just as I am grateful to my predecessors who set a higher bar for banks.

On the other hand, when we judge that there is little or no value in exceeding an international minimum, we stay quite close to our agreements with global counterparts. Sometimes, that means bucking the trend, as with our decisions on preferred share issues and leverage limits for banks.

There have been six Canadian observers at the IAIS (FICONET was originally given two lines. Corrected 2014-11-14):

• · Assuris
• · Canadian Life & Health Insurance Association Inc.
• . FICONET (International Financial Consumer Protection Network)
• · Insurance Bureau of Canada
• · Manulife Financial
• · Sun Life Financial

The Global Federation of Insurance Associations says:

We understand that the growth of the IAIS means that the IAIS needs to evaluate whether the Observership role is functioning as intended. However, we do not understand what particular problems this proposed cancellation of Observership status is intended to solve. Rather, we believe this will make the IAIS standards development process less transparent overall, which we do not believe is the intention.
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We urge the IAIS to reconsider its proposed decision to generally exclude stakeholders from IAIS meetings. It should be best practice to always invite stakeholders to meetings, unless there are good reasons to exclude them, rather than the other way around. Exclusion of stakeholders from meetings should only be acceptable in a clearly prescribed set of circumstances such as, but not limited to, IAIS internal matters, budget issues, issues that concern only one stakeholder, etc.

NAIC is also opposed:

At the International Association of Insurance Supervisors (IAIS) Annual General Meeting on October 25, members voted on observer membership status for non-member stakeholders. The vote, which took place in closed session, amended IAIS bylaws to end the observer membership status, which included participation in some IAIS meetings, in favor of creating new stakeholder consultation procedures.

“I am extremely disappointed in the outcome of Saturday’s vote to end observer status at the IAIS,” said Adam Hamm, NAIC President and North Dakota Insurance Commissioner. “Observers run the range of consumer advocates, insurance experts, and industry representatives – all of whom have critical input to share on the real-world consequences of decisions made by regulators. Shutting them out of the official process in favor of ‘invite only’ participation deprives IAIS members and stakeholders alike and could diminish the credibility of decisions made at the IAIS.”

… as are American insurers:

For U.S. insurance organizations, the proposed change slated to go into effect on Jan. 1, 2015, couldn’t come at a worse time. In addition to the common supervisory framework, the group also is considering capital standards as well as how to designate and supervise global systemically important insurers.

How IAIS deals with these issues could significantly affect U.S. insurers.

U.S. insurer groups fear the proposed meeting participation changes would harm transparency, and filed comments opposing the change during a comment period that ended earlier this month.

“We have been a longtime observer of the IAIS and we think that transparency is critical,” said Robert Neill, senior director of international and government affairs at the Washington-based American Council of Life Insurers. “The U.S. government system is built on a transparent process, and we’re concerned about any departure from transparency.”

Steve Simchak, director of international affairs at the Washington-based American Insurance Association, called the proposal “very concerning.”

“The work the IAIS is doing now could have major impact on insurance regulation here in the U.S. and also on U.S. insurance groups that operate internationally,” Mr. Simchak said. “We think as the work of the IAIS becomes more important, that’s a cause for more transparency and not less.”

… as does a European group:

We note the efforts and welcome the commitment to enhance the efficiency and effectiveness of IAIS activities and decision-making processes. After all, many AMICE members contribute (indirectly, through the financing arrangements for their national supervisors) to the financing of the IAIS. Having said this, we wonder, however, why the abolition of observer status is being seen as an important step towards securing efficiency and effectiveness. We believe that in a clearly and transparently governed policymaking structure neither the independence nor the efficiency of the IAIS is necessarily compromised by the existence and involvement of observers.

However, since OSFI is a grossly incompetent organization with negligible analytical prowess, it is not surprising that they wish to make their decisions in secret. Assiduous Readers will also remember that OSFI’s consultation process is laughable.

Speaking of speeches, there was a most interesting presentation by Carolyn Wilkins of the Bank of Canada titled Money in a Digital World:

E-money is still a wallflower in developed countries where many people have bank accounts, although this could change quickly. Today it is more popular in countries where relatively fewer people have access to banking services.4 An example of this is Kenya, where many people use e-money called M-Pesa. M-Pesa is backed by the issuer and redeemable in the Kenyan shilling. It gives people a low-cost way to transfer money using their mobile phones. M-Pesa is used in some 2 million transactions each day, worth about $5 billion annually. That’s nearly 20 per cent of Kenya’s GDP.

Limited access to banks is not always the main motivator for the adoption of e-money. The Octopus card, in Hong Kong, was originally designed to pay for public transit. It proved so convenient that it is now used for over 13 million transactions each day – from transit to coffee to a pair of jeans.
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E-money is not big enough to pose material risk to financial stability in Canada at this time. That said, money and payments technology is progressing in leaps and bounds, and so the Bank of Canada is watching developments closely. The federal government also is undertaking a review of payment systems in Canada to ensure that the degree of regulation of payment systems and methods is appropriate. This review has resulted in the Bank of Canada having increased responsibility to oversee payment systems of economic and systemic importance.

There is little doubt that these innovations have some benefits. They give us more choice about how we make purchases, and can reduce the cost of certain transactions. Think about online purchases of pictures or songs. The transaction costs of traditional payment methods, such as credit cards, make these small-value purchases expensive. A $1 transaction could be done for no fee using Bitcoin while it could cost over 30 cents in fees using some merchant credit cards. E-money is also useful for sending money across borders. Traditional financial institutions offer these services, called remittances, but the fees can be as much as 10-12 per cent for small transactions. So, e-money has some benefits in certain economies, especially when cash is not a viable option.
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Some people have wondered whether widespread use of e-money could impair the ability of the central bank to conduct monetary policy. This is very unlikely because Canadian interest rates would still matter.13 Whether they use e-money or cash, as long as people and businesses pay bills and borrow in Canadian dollars, the Bank of Canada would still be able to achieve its monetary policy objective. When it comes to cryptocurrencies, however, the situation is different. In the unlikely situation in which cryptocurrencies were used broadly, a significant proportion of economic transactions would not be denominated in Canadian dollars. This would reduce the Bank’s ability to influence macroeconomic activity through Canadian interest rates. Let me be clear, we are nowhere near this point today. But if we were, it would be even more important to determine whether issuing e-money is a role that should be done by the central bank.

And the Bank of Canada Review – Autumn 2014 has been published, with articles:

• Recent Developments in Experimental Macroeconomics
• Should Forward Guidance Be Backward-Looking?
• Spillover Effects of Quantitative Easing on Emerging-Market Economies
• Firm Strategy, Competitiveness and Productivity: The Case for Canada
• The Use of Financial Derivatives by Canadian Firms

It was a mixed day for the Canadian preferred share market, with PerpetualDiscounts off 6bp, FixedResets up 15bp and DeemedRetractibles gaining 1bp. Volatility was average. Volume was low.