Category: Market Action

No commentary today! Too much going on!

A mixed day for the Canadian preferred share market, with PerpetualDiscounts gaining 6bp, FixedResets up 15bp and DeemedRetractibes taking a 15bp loss. Volume was very heavy.

The details remain obscure, but the joke of the day is that BoA will have to pay government agencies a chunk of money for not foreclosing fast enough:

Bank of America’s agreements with Fannie Mae and Freddie Mac “provide for timelines to resolve delinquent loans through workout efforts or liquidation, if necessary,” the Charlotte, North Carolina-based lender said today in its annual report to the Securities and Exchange Commission. “In the fourth quarter of 2010, we recorded an expense of $230 million for compensatory fees that we expect to be assessed by the GSEs as a result of foreclosure delays.”

They’re also having increasing problems with obstreperous securitization holders:

Bank of America Corp. said a bondholder group pressuring the lender to repurchase soured mortgages has almost doubled the number of securitizations on which it is challenging the company.

There are 225 securitizations in dispute with the group, compared with 115 as of Oct. 18, the Charlotte, North Carolina- based bank said today in a regulatory filing. In October, the dispute covered about $46 billion in bonds.

The group includes Pacific Investment Management Co., BlackRock Inc. and the Federal Reserve Bank of New York, people familiar with the matter said in October. The group said then in a letter that the bank failed in its role as a loan servicer to provide required notice of faults in the underlying mortgages.

I’m not a big fan of them in general, but IIROC deserves applause for its short-selling decision:

The Investment Industry Regulatory Organization of Canada (IIROC) has completed two studies examining trends in trading activity, short sales and failed trades between 2007 and 2010. It has concluded that rates of short selling have been relatively constant and that there has been no negative change in the pattern of short selling in Canadian markets.

As a result, IIROC has decided it is safe to eliminate the current rule – known as the “tick test” – that prohibits short selling in a company’s shares at a price lower than the last sale price. The rule has meant short selling is not allowed while a stock is declining in price.

“Studies by IIROC support the premise that the tick test has no appreciable impact on price,” the regulator said on Friday.

It was a strong day in the Canadian preferred share market with all HIMIPref™ indices gaining ground. PerpetualDiscounts were up 13bp, FixedResets gained 20bp and DeemedRetractibles advanced 23bp. Volatility was low, with only three entries in the Performance Highlights table; volume was heavy.

No commentary today! Sorry!

It was quite the day for FixedResets on the Canadian preferred share market, as the issuer bid for NA.PR.N, NA.PR.O and NA.PR.P seems to have ignited some speculative buying. PerpetualDiscounts gained 1bp, FixedResets leaped upwards by 62bp and DeemedRetractibles were basically flat. Volume was heavy.

The Bank for International Settlements has released a working paper by Paolo Angelini, Laurent Clerc, Vasco Cúrdia, Leonardo Gambacorta, Andrea Gerali, Alberto Locarno, Roberto Motto, Werner Roeger, Skander Van den Heuvel and Jan Vlček titled BASEL III: Long-term impact on economic performance and fluctuations:

We assess the long-term economic impact of the new regulatory standards (the Basel III reform), answering the following questions. (1) What is the impact of the reform on long-term economic performance? (2) What is the impact of the reform on economic fluctuations? (3) What is the impact of the adoption of countercyclical capital buffers on economic fluctuations? The main results are the following. (1) Each percentage point increase in the capital ratio causes a median 0.09 percent decline in the level of steady state output, relative to the baseline. The impact of the new liquidity regulation is of a similar order of magnitude, at 0.08 percent. This paper does not estimate the benefits of the new regulation in terms of reduced frequency and severity of financial crisis, analysed in BCBS (2010b). (2) The reform should dampen output volatility; the magnitude of the effect is heterogeneous across models; the median effect is modest. (3) The adoption of countercyclical capital buffers could have a more sizeable dampening effect on output volatility.

The FDIC has released its 4Q10 Quarterly Banking Profile with highlights:

• Banks Earned $21.7 Billion in Fourth Quarter as Recovery Continues
• Full-Year Net Income of $87.5 Billion Is Highest Since 2007
• Asset Quality Improves for Third Consecutive Quarter
• Institutions Set Aside Half as Much for Loan Losses as a Year Earlier
• 157 Insured Institutions Failed During 2010

Former Fed governor Hoenig is taking a hard line on Too-Big-To-Fail:

Federal Reserve Bank of Kansas City President Thomas Hoenig said U.S. regulators should avert another crisis by breaking up large financial institutions that pose a threat “to our capitalistic system.”

“I am convinced that the existence of too-big-to-fail financial institutions poses the greatest risk to the U.S. economy,” Hoenig said today in a speech in Washington. “They must be broken up. We must not allow organizations operating under the safety net to pursue high-risk activities and we cannot let large organizations put our financial system at risk.”

The full speech makes some interesting points:

At the Federal Reserve Bank of Kansas City, we estimated the ratings and funding advantage for the five largest U.S. banking organizations during this crisis. In June 2009, these organizations had senior, long-term bank debt that was rated four notches higher on average than it would have been based on just the actual condition of the banks, with one bank given an eight notch upgrade for being too big to fail. Looking at the yield curve, this four-notch advantage translates into more than a 160 basis point savings for debt with two years to maturity and over 360 basis points at seven years to maturity.
…
So long as we have systemic organizations operating under the government’s protection, we will face the matter of whether we have the will to allow the market and bankruptcy to resolve them. In a major crisis, there will always be an overwhelming impulse to avoid putting such institutions through receivership. Always, it is feared that public confidence will be shattered, creditors or depositors at other institutions will panic, and that there are too many connections that will bring down other institutions. In addition, important services will be lost and the international activities will be too complex to resolve.

Many of these fears are likely overstated. I maintain the view that the long-term consequences are much more severe if we fail to take action to end this cycle of repeated crises. In an environment where market participants are truly at risk, they will be much more likely to take steps to protect themselves, thus reducing the side effects of resolutions, and a failed institution’s essential activities can be continued through bridge banks and other means.

Glad to hear it! Instead of weekend bail-outs, lets have weekend bankruptcies, with governments if necessary, providing Debtor in Possession financing at a punitive interest rate rather than equity infusions.

The Bank for International Settlements has released a working paper by Richhild Moessner, Feng Zhu and Colin Ellis titled Measuring disagreement in UK consumer and central bank inflation forecasts:

We provide a new perspective on disagreement in inflation expectations by examining the full probability distributions of UK consumer inflation forecasts based on an adaptive bootstrap multimodality test. Furthermore, we compare the inflation forecasts of the Bank of England’s Monetary Policy Committee (MPC) with those of UK consumers, for which we use data from the 2001-2007 February GfK NOP consumer surveys. Our analysis indicates substantial disagreement among UK consumers, and between the MPC and consumers, concerning one-year-ahead inflation forecasts. Such disagreement persisted throughout the sample, with no signs of convergence, consistent with consumers’ inflation expectations not being “well-anchored” in the sense of matching the central bank’s expectations. UK consumers had far more diverse views about future inflation than the MPC. It is possible that the MPC enjoyed certain information advantages which allowed it to have a narrower range of inflation forecasts.

I found the charts of consumer expectations enlightening:

Click for Big

An Instinet analyst opines that the TMX-LSX merger will be blocked:

But she argued such positives were outweighed by the fact that LSE would have a slight edge in governance (getting the CEO seat and one more board seat) and that Canada’s influence could be watered down further in coming years.
…
One of the biggest hurdles may be intangible — the symbolic importance of having a national exchange company.

“Canadian policy seeks to ensure Canada’s “ownership” of its culture. As the Toronto and Montreal Exchanges are important at both strategic and symbolic levels, we do not believe that the government will feel comfortable ceding control of either. While the least concrete, this factor may ultimately prove to be one of the most important determinants in Minister Clement’s decision,” [director of global trading research at brokerage firm Instinet] Ms. [Alison] Crosthwait wrote, adding that public opinion will play a big role.

Gee, I’m sure glad business sense doesn’t enter the equation! That would really complicate matters!

It was a gloomy day in the Canadian preferred share market, with PerpetualDiscounts down 17bp, FixedResets losing 15bp and DeemedRetractibles giving up 14bp. Volatility continued to be on the low side, with only five entries in the Performance Highlights table, albeit all negatives. Volume was heavy.

PerpetualDiscounts now yield 5.61%, equivalent to 7.85% interest at the standard equivalency factor of 1.4x. Long corporates now yield about 5.5%, so the pre-tax interest-equivalent spread is now 235bp, a significant increase from the 225bp reported on February 16. It will be remembered that comparability of these levels over the long term has been compromised by drastic changes to index composition necessitated by OSFI’s refusal to grandfather extant preferreds when new capital rules come into force.

The Bank of Canada has released a working paper by Katya Kartashova titled The Private Equity Premium Puzzle Revisited:

In this paper, I extend the results of Moskowitz and Vissing-Jørgensen (2002) on the returns to entrepreneurial investments in the United States. First, following the authors’ methodology I replicate the original findings from the Survey of Consumer Finances (SCF) for the period 1989–1998 and show that the returns to private and public equity are similar. I then extend the period under consideration using data from subsequently released waves of SCF 2001, 2004, and 2007 and assess the robustness of their results to this extension. I find that the “private equity premium puzzle” is not a robust feature of the data and does not survive beyond the period of high public equity returns in the 1990s. In particular, returns to entrepreneurial equity remain largely unaffected when public equity returns plunge to near zero values between 1999 and 2001. The average return to private equity exceeds public equity return in 1999-2007 and for the period 1989-2007 as a whole. To validate the results, I provide alternative measures of private equity returns in the data.

The Bank of England has released a working paper by Filipa Sá, Pascal Towbin and Tomasz Wieladek titled Low interest rates and housing booms: the role of capital inflows, monetary policy and financial innovation:

A number of OECD countries experienced an environment of low interest rates and a rapid increase in housing market activity during the last decade. Previous work suggests three potential explanations for these events: expansionary monetary policy, capital inflows due to a global savings glut and excessive financial innovation combined with inappropriately lax financial regulation. In this study we examine the effects of these three factors on the housing market. We estimate a panel VAR for a sample of OECD countries and identify monetary policy and capital inflows shocks using sign restrictions. To explore how these effects change with the structure of the mortgage market and the degree of securitisation, we augment the VAR to let the coefficients vary with mortgage market characteristics. Our results suggest that both types of shocks have a significant and positive effect on real house prices, real credit to the private sector and real residential investment. The responses of housing variables to both types of shocks are stronger in countries with more developed mortgage markets, roughly doubling the responses to a monetary policy shock. The amplification effect of mortgage-backed securitisation is particularly strong for capital inflows shocks, increasing the response of real house prices, residential investment and real credit by a factor of two, three and five, respectively.

A mixed day on the Canadian preferred share market, but mainly down. PerptualDiscounts gained 9bp, FixedResets lost 8bp and DeemedRetractibles were off 14bp. Volume picked up a bit, to elevated levels.

No commentary today because … er … because … um … because it’s a full moon! That’s it, full moon tonight, therefore no commentary.

A good day on the Canadian preferred share market, with PerpetualDiscounts up 13bp, FixedResets down 1bp, and DeemedRetractibles gaining 4bp. Volatility continued to be very low, with only one entry in the Performance Highlights table; volume subsided to average levels.

There’s an interesting claim of regime switching in stock-bond correlations:

Based on his analysis of data over the past 20 years, the tipping point is a yield of about 4 per cent.

When the 10-year government bond yield is below that threshold, bond yields and the S&P/TSX composite index tend to move together, with a positive correlation of 0.49, strategist with UBS Securities Canada] Mr. [George] Vasic found. That’s to be expected, because very low bond yields are usually associated with sluggish or recessionary conditions, and when the economy starts to improve, yields and stocks both rise.

However, when bond yields are between 4 per cent and 6 per cent, stocks and bond yields tend to move in opposite directions, with a correlation of negative 0.56. In other words, when yields are already high and climbing, the stock market starts to feel the brunt of rising interest rates. (A correlation of 1 represents a perfect positive relationship, while negative 1 indicates a perfect inverse relationship.)

One thing that is well known is that correlation signs reverse in times of financial stress; it’s unclear whether this is anything new.

Prices slid somewhat in the Canadian preferred share market today, with PerpetualDiscounts down 7bp, FixedResets losing 6bp and DeemedRetractibles off 8bp. Volatility was low, with only one issue in the Performance highlights. Volume was heavy.

The Boston Fed has released its 2H10 Research Review:

• Public Policy Discussion Papers
  • Who Gains and Who Loses from Credit Card Payments? Theory and Calibrations, Scott Schuh, Oz Shy, and Joanna Stavins
  • $1.25 Trillion Is Still Real Money: Some Facts about the Effects of the Federal Reserve’s Mortgage Market Investments, Andreas Fuster and Paul S. Willen
  • Reasonable People Did Disagree: Optimism and Pessimism about the U.S. Housing Market Before the Crash Kristopher S. Gerardi, Christopher L. Foote, and Paul S. Willen (discussed on PrefBlog)
  • A Profile of the Mortgage Crisis in a Low-and-Moderate-Income Community, Lynn M. Fisher, Lauren Lambie-Hanson, and Paul S. Willen
• Working Papers
  • In Search of Real Rigidities, Gita Gopinath and Oleg Itskhoki
  • Strategic Choice of Preferences: The Persona Model, David H. Wolpert, Julian C. Jamison, David Newth, and Michael Harre
  • Some Evidence on the Importance of Sticky Wages, Alessandro Barattieri, Susanto Basu, and Peter Gottschalk
  • Imputing Household Spending in the Panel Study of Income Dynamics:
    A Comparison of Approaches, Daniel H. Cooper

  • The Distress Premium Puzzle, Ali K. Ozdagli
  • Characterizing the Amount and Speed of Discounting Procedures, Dean T. Jamison and Julian C. Jamison
  • Internal Sources of Finance and the Great Recession, Michelle L. Barnes and N. Aaron Pancost
  • Affective Decision Making: A Theory of Optimism Bias, Anat Bracha and Donald J. Brown
  • The Financial Structure of Startup Firms: The Role of Asset, Information, and Entrepreneur Characteristics, Paroma Sanyal and Catherine L. Mann
• Public Policy Briefs
  • Evidence of a Credit Crunch? Results from the 2010 Survey of First District Community Banks, Jihye Jeon, Judit Montoriol-Garriga, Robert K. Triest, and J. Christina Wang
• Multimedia
  • The Great Recession (video), Christopher L. Foote

My discussion with Assiduous Reader Drew (in the comments to February 11) got me thinking about the propriety of allowing Exchanges to determine who gets listed. For instance, it is possible that this made sense long ago, when (I’m speculating) listing fees were a lower proportion of Exchnge revenue than they were now? Is it possible that the rationale behind the regulatory contracting-out of this gatekeeper function is now obsolete?

I went looking for a chart showing proportions of Exchange revenue over time.

I counldn’t find one, but it turns out – naturally enough – that this has not only been thought of before, but has been a big issue. Jonathan Macey and Maureen O’Hara (who has been mocked on PrefBlog) wrote paper titled From Markets to Venues: Securities Regulation in an Evolving World:

Few issues better reflect this divergence of interests than the listing and delisting of securities. Exchanges have traditionally used listing standards to support their “signaling role” of attesting to the quality of firms trading on the exchange. In return for this endorsement, listing firms paid both initial listing fees and continuing listing fees. These fees have been an important source of revenue for stock markets, particularly in the U.S where listing fees have often been upwards of 30% of the NYSE’s overall revenues.

When it was the case that where firms listed determined where shares traded, these fees could be justified as paying for the ongoing regulation of trading. As we have argued earlier, however, the listing-trading connection has broken down, and trading currently takes place on whichever venue provides the greatest liquidity. There is increased competition for listings. Listing fees now represent almost a fee for access to the US markets, a monopoly rent as it were to the few exchanges and venues empowered to list firms. From a purely economics perspective, since exchanges can list firms whose stocks they may not actually end up trading, the incentives are surely to list more firms than would be optimal if listing and trading were linked. Concerns over such perverse incentives were recently raised in Hong Kong, where a government appointed commission pushed for the transfer of the listing function to the regulator from the exchange arguing that “As a listed company motivated by profitability, the HKEx has a clear interest in listing as many companies as possible since listing fees represent a significant portion of revenues (18% in 2002) and there is a disincentive to allocate revenues to enforcement with is costly and produces no revenues.”

Which is my point exactly. A potential criticism of the TMX-LSE deal is that the TMX has regulatory functions and we might not want those to be under foreign control. But assuming that the functions need to be performed at all, should they be performed by the TMX in the first place? Would it be reasonable, for instance, to say … “OK, go ahead and merge …. on the condition that the Listing Authority gets spun out as a stand-alone company.” … ?

For the security market as a whole, however, listing and delisting standards play an important role by delineating the quality of firms allowed to access a country’s capital markets. Restricting access or denying trading privileges is thus a public good in that it enhances the overall quality of the market. Entrusting this decision to self-regulating exchanges is suboptimal because as with any public good, the social costs exceed the private costs. As we have argued above, self-regulation cannot succeed when this is the case.

Vehemently disagree. This has the implicit view that capital markets are stupid and it is wise regulators who should decide who gets to take advantage of the suckers.

It was another mixed day on the Canadian preferred share market,with PerpetualDiscounts losing 6bp while FixedRestes gained 3bp and DeemedRetractibles were up 6bp. Volatility remained low. but volume picked up and can be described as heavy.

PerpetualDiscounts now yield 5.62%, equivalent to 7.87% interest at the standard equivalency factor of 1.4x. Long corporates continue to yield 5.6%, so the pre-tax interest-equivalent spread (also called the Seniority Spread) is now about 225bp, This marks a significant decline from the 240bp recorded February 9; it should be remembered that while the two figures mentioned are compable (with the caveate that there aren’t too many issuers in that index any more), they are less comparable – and a good comparison would require explicit assumptions of spreads between issuers, etc. – with all earlier data.

Daniel K Tarullo, Member of the Board of Governors of the Federal Reserve System, testified before the Committee on Financial Services, US House of Representatives, Washington DC, 15 February 2011, in an effort titled Assessing the regulatory, economic, and market implications of the Dodd-Frank derivatives title. Very non-committal and not much meat, but there was one interesting admission that I believe has been downplayed in the debate so far:

Title VIII of the act complements the role of central clearing in Title VII through heightened supervisory oversight of systemically important financial market utilities, including systemically important facilities that clear swaps. This heightened oversight is important because financial market utilities such as central counterparties concentrate risk and thus have the potential to transmit shocks throughout the financial markets. As part of Title VIII, the Board also was given new authority to provide emergency collateralized liquidity in unusual and exigent circumstances to systemically important financial market utilities. We are carefully considering ways to implement this provision in a manner that protects taxpayers and limits any rise in moral hazard.

Additionally, he floated an idea for discretionary exemptions; seeking these exemptions will create jobs for lobbyists and other smiley-boys:

Within these statutory constraints, the Board and the other prudential regulators are working to implement the margin provisions in a way that takes appropriate account of the relatively low systemic risk posed by most end users. For example, we are considering if it would be appropriate to allow a banking organization that is a dealer or major participant to establish a threshold with respect to an end-user counterparty, based on a credit exposure limit that is approved and monitored as part of the credit approval process, below which the end user would not have to post margin. The Board appreciates that posting margin would impose costs on end users, possibly inhibiting their ability to manage their risks. The Board also believes that the margin regime should be applied only to contracts entered into after the new requirement becomes effective.

It was a mixed day on the Canadian preferred share market, with PerpetualDiscounts losing 1bp, FixedResets down 7bp while DeemedRetractibles gained 15bp. Not much volatility, volume was average, and the “Last” spread on FTS.PR.G was rather wide. SLF blocks were the volume highlight.

The Basel Committee has released its Revisions to the Basel II market risk framework – updated as of 31 December 2010, complete with a PDF that has now crashed my Internet Explorer twice. The press release states:

Since the financial crisis began in mid-2007, an important source of losses and of the build up of leverage occurred in the trading book. A main contributing factor was that the current capital framework for market risk, based on the 1996 Amendment to the Capital Accord to incorporate market risks, does not capture some key risks. In response, the Basel Committee on Banking Supervision (the Committee) supplements the current value-at-risk based trading book framework with an incremental risk capital charge, which includes default risk as well as migration risk, for unsecuritised credit products. For securitised products, the capital charges of the banking book will apply with a limited exception for certain so-called correlation trading activities, where banks may be allowed by their supervisor to calculate a comprehensive risk capital charge subject to strict qualitative minimum requirements as well as stress testing requirements. These measures will reduce the incentive for regulatory arbitrage between the banking and trading books.

An additional response to the crisis is the introduction of a stressed value-at-risk requirement. Losses in most banks’ trading books during the financial crisis have been significantly higher than the minimum capital requirements under the former Pillar 1 market risk rules. The Committee therefore requires banks to calculate a stressed value-at-risk taking into account a one-year observation period relating to significant losses, which must be calculated in addition to the value-at-risk based on the most recent one-year observation period. The additional stressed value-at-risk requirement will also help reduce the procyclicality of the minimum capital requirements for market risk.

As I have often stated here, I’m not completely certain that this is a step forward. Trading is functionally different from holding, and a trader may well wish to hold a position in El Crapola Corporation paper for a while because he knows he’s got a buyer. Problems can arise – and did arise during the crisis – when the paper that couldn’t be sold was kept on the trading book, instead of migrating to the banking book as it aged.

I haven’t seen any discussion of this point anywhere, so this is either a very profound point, or a very naive one. Take your pick.

Sell Side analysts are a hoot:

So, when analysts are raising their recommendations on a stock, that should be telling people to buy more of it (or, sell less of it); when they are cutting their recommendations, that’s telling people to sell more (or, buy less). In both cases, especially when you’re talking about well-known analysts at major firms, we would expect this to filter down to the stocks themselves – downgrades serve to drive stock prices lower, upgrades to push them higher. Right?

As it turns out, not so much. In fact, it would appear that as long as they spell your company’s name right,upgrades and downgrades are both good news for your stock.

Laszlo Birinyi and Amanda Crumb, of independent stock-market research firm Birinyi Associates Inc., recently analyzed more than 2,700 upgrades and downgrades issued by 19 Wall Street firms since the market bottomed in March, 2009. They found that – as expected – upgraded stocks rose an average of 2.03 per cent on the day of their upgrade, while downgraded stocks averaged a 2.02-per-cent drop on the day of the news.

But once they looked even a mere week further out, this expected trend no longer held. Yes, the upgraded stocks continued to move higher, both on an absolute basis and relative to the S&P 500 benchmark, and these gains got stronger as time passed. What wasn’t expected, though, was that the same was also true for the downgrades.

Downgraded stocks not only typically rose in the weeks to months following the downgrades, but after an initial underperformance relative to the S&P 500 in the first week, they significantly outperformed the benchmark at one month and three months out. What’s more, this surprising upward trend among downgrades didn’t appear to have been skewed by some large incorrect calls at a couple of firms; the gains were seen across virtually all 19 investing firms.

Remember 2005? Remember how it was so friggin’ obvious that subprime was a nascent disaster? Remember giving learned lectures about how big the real estate bubble was? Remember how it was all the fault of evil bonus-loving Wall Street vampires? I don’t. The Boston Fed has a similarly faulty memory. And, it would seem, John Paulso, most famous for making a fortune betting against it, and second-most famous for being disrespected in the Boston Fed paper, can’t remember that either:

As one of the few winners from the financial crisis, John A. Paulson looks pretty smart. His hedge fund firm, Paulson and Company, netted $15 billion betting against the subprime mortgage market — and he continues to profit from his wager on gold.

But in audio recordings recently released by Financial Crisis Inquiry Commission, Mr. Paulson reveals just how much flack he got from professionals and peers, who in the early days of the turmoil derided his big bet as the misguided move of a “novice.”

“Most of them, when we did express our viewpoints, thought we were inexperienced novices in the mortgage market,” Mr. Paulson said in an interview with the commission in 2010. “We were very, very much in the minority. If I said a thousand-to-one, we were the one. Even friends of ours thought we were so wrong, they felt sorry for us.”

The Evil, bonus-seeking Fabulous Fab, as one may recall, was the one who (as discussed on April 21, 2010) conspired with the smart cookies at ACA and IKB to fleece the poor neophyte. Oh, no, wait, sorry, it was the other way ’round.

It was another relatively quiet, slowly rising day on the Canadian preferred share market, with PerpetualDiscounts up 5bp, FixedResets gaining 1bp and DeemedRetractibles winning 9bp, all on quiet, “normal” volume with very little price volatility.