Category: Market Action

Another normal day! At this rate, I’m going to have to make notes when preparing remarks about ‘What happened in August’!

The Fed made it clear that it will accept ABCP at the discount window. This will aid in delevering the financial system since it makes it easier for the banks to buy, or to lend against, the ABCP that has been issued in an attempt to avoid the banks. The latter process is referred to as disintermediation; I’m not sure what to call the process of reversal.

In related news, two Canadian sub-prime lenders have tightened their standards, citing inability to fund the loans at a decent price.

There was good economic news in the US (especially durable goods orders) … but that was for July! Considerable uncertainty remains over how the recent events will affect the real economy.

Brad Setser speculates, based on foreign official reserves held in custody at the Fed, that private investment in emerging economies is being reduced – funds reducing risk, funds meeting margin calls.

On the other hand … US equities capped a fine week with a good gain and Canadian equities did even better. So who knows? Markets will do what markets want to do when they want to do it.

But in signs that many, anyway, are calming down after the panic the US bond curve flattened and

Benchmark 10-year notes rose as traders said corporate bond sales created demand for long-term products sold earlier as hedges.

So in general, it would appear that term is being extended (even if merely via intermediaries), which is a Good Thing. Canadas flattened a lot with the 2-10 spread moving to 12.1bp from 19.1bp.

A quiet, directionless day in pref land.

There was ONE other $25-equivalent index-included issues trading over 10,000 shares today.

At last, a normal, quiet day in the summer! I had almost forgotten what those were like!

The big news, as far as I’m concerned, is the release of Fed statistics that illustrate the continued delevering of the financial system; the amount of outstanding US ABCP down over 4% on the week:

More than half of the $1.1 trillion in outstanding asset- backed paper comes due in the next 90 days, according to the Federal Reserve. Unless they find new buyers, hundreds of hedge funds and home-loan companies will be forced to sell $75 billion of debt, according to Zurich-based UBS AG, Europe’s largest bank.  

Those sales would drive down prices in a market where investors have already lost $57 billion, based on Merrill Lynch & Co.’s broadest index of floating-rate securities backed by home- equity loans. That may hurt the 38.4 million individual and institutional investors in money market funds, the biggest owners of commercial paper. Top-rated commercial paper is one of the world’s safest assets.

In Europe, the asset-backed commercial paper market is almost closed, Reynold Leegerstee, team managing director for Moody’s Investors Service, said on a conference call today.

My guess is that we’re going to see some more blow-ups, perhaps even large and exciting blow-ups. Paribas is re-opening the redemption window for the famous three funds that accellerated the panic; but there will be redemptions on the order books now for many funds and more to come when investors get their statements.

The lock-up in the ABCP markets is going to lead to exciting times (and bargains!) as financing intermediaries are forced to dump their holdings on the market for whatever they can get; such are the perils of leverage and term mismatching and the Fed’s pushing of the discount window (and other techniques, such as a lifting of the cap on Citigroup’s loans to customers via Citigroup Global Markets) is intended only to ensure that there is a market; they don’t care whether or not it’s a good and friendly market.

But so far, I’d say, so good. The damage has largely been confined not just to the financial system, as opposed to the real economy, but to hedge funds – and it is their function to absorb risk and trade it for return. It’s far too early to celebrate – assuming that the worst is over, effects won’t show up until Christmas – but right now we’re hearing of hedge fund redemptions being stopped and large financial institutions taking write-downs; we’re not learning of huge corporations bouncing their payroll cheques. But we’ll see! Things can always get worse and there’s still a lot of tension in the corporate bond market.

TD Bank released its results today and claimed that its underwriting of the BCE / Teachers deal is a really good piece of business. Well gee, if the salesman says it’s good, maybe we should all rush out and buy some, eh? There’s another one that we’ll just have wait and see about … at today’s close of 39.67, BCE common is still 7.2% below deal price, so those who are confident the deal will get done as described still have lots of chance to make some good money … at a higher yield than ABCP paper!

In other news we have another argument that it’s all Greenspan’s fault; an explanation of Countrywide’s financing requirements; and a discussion of Treasury’s problems with the IMF.

US equities were quiet, as were their Canadian counterparts. Treasuries barely moved and Canadas were boring, although some flattening was seen, reversing some recent trends. A quiet summer day, in fact.

Things were just as quiet in the preferred share market at it drifted up in lazy trading. Just how much up and how lazy is, however, something you’re going to have to wait for, since I’ve run out of time and will have to update the tables tomorrow.

Update, 2007-08-24

There were four other $25-equivalent index-included issues trading over 10,000 shares today.

Well, the press is certainly champing at the bit to announce a return to normalcy!

In the best news of the day HSBC Canada issued a press release that included the paragraph:

HSBC Investment Funds (Canada) Inc., manager of the HSBC Mutual Funds, and HSBC Investments (Canada) Limited, manager of the HSBC Pooled Funds, confirm that there is no exposure to third party asset backed commercial paper within any of these Funds.

Finally! Some explicit recognition in all this mess that there is a difference between the corporation’s interest and the subsidiaries fiduciary function. It isn’t much and it isn’t any kind of proof that all is well with separation of function at HSBC Canada (any more than the press releases that aroused my ire in the past two days are any kind of proof that there’s anything wrong at National Bank and Industrial Alliance) … but the more that such a distinction is mentioned in public, the more willing I am to believe that the distinction is part of corporate culture.

All this Independent Review Committee stuff has to be good for something, right?

In Canadian ABCP news, NAV Canada (beloved of all those who pay for airline tickets) announced that it:

holds approximately $368 million of non-bank R-1 (high) rated ABCP allocated among its reserve funds and accounts required by its debt indentures.  The Company has approximately $130 million of cash and cash equivalents not affected by the problems in the non-bank ABCP market.

It is, of course, cheap and easy to point out investment mistakes in hindsight, so I’ll try to show a little restraint … but that means about three-quarters of their cash is held in non-bank Canadian ABCP. They may wish to review their diversification policies.

Amidst fears that liquidity infusions are being hoarded by the top-tier banks four major banks were jawboned by the Fed into using the discount window and letting the credit trickle down. Bernanke is using a more targetted approach than Greenspan used for the 1998 LTCM crisis … we shall see how it all turns out! If he can get away with it, there will be less bleeding of easy credit into the real economy and less chance of a renewed asset bubble. At present, the Fed appears to be defending a 5% Fed Funds rate but Bernanke’s got lots of time to decide whether or not to make the de facto easing de jure. The futures traders appear to believe in a three month ease, then back to the anti-inflation grind.

There is still a lot of stress in the global system despite a pause for breath in US markets. Investors should remember the Fed doesn’t really care about them. We can only hope that the politicians do not succeed in getting the Fed to bail out mortgagors, but it is election time in the US, after all, so there’s bound to be a lot of showboating.

Meanwhile, the default statistics on securitized loans mentioned yesterday are being confirmed by statistics on mortgages held directly. Lenders are reacting ruthlessly to the changed climate, with three lenders firing 3,700 employees. Remember “creative destruction”? This is the nasty second part, and we’ve only just begun:

two European mortgage-securities funds had their credit ratings slashed to junk from AAA by Standard & Poor’s because debt market turmoil curbed access to short-term financing.

Even more seriously, Wall Street bonuses are threatened. On the other hand, in late-breaking news it was announced that Bank of America’s putting $2-billion into Countrywide. So things are – very slowly and jerkily – working as they should.

At least one hedge fund is experiencing knock-on effects of the credit crunch. Stratus has 25% of its assets in Sentinel, which suspended client redemptions on August 14 – which may, in fact, have more to do with fraud than liquidity.

The Chinese have bought up a huge amount of high-quality housing debt over the past few years.

Here’s a good question to ask your friendly neighborhood US Equity Quant: “how do you distinguish between the various levels of financial instrument valuation“? Without having to gain access to the quantitative code and other trade secrets, you should be able to come to a reasonable judgement of skill level by the answer to that question!

US Equities had a very good day as traders decided the world might still exist at the time today’s trades settle. Canadian equity roared upwards, but is still down a bit more than 7% from the July peak. We shall see what happens if Tom Graff’s musings on the potential for re-pricing of as-yet unsettled private equity takeovers should prove to be prophetic with respect to the Teachers’ / BCE deal.

Treasuries fell, with the 2-10 spread flattening 6bp. Some investment grade issuers raised funds, reducing reliance on short term credit, for instance:

XTO Energy Inc. reopened a bond sale yesterday, raising $1 billion to pay down commercial paper, according to a regulatory filing. Fort Worth, Texas-based XTO yesterday sold five-year, 10- year and 30-year bonds.

After all … look at the alternative:

Asset-backed commercial paper yields rose to the highest in almost seven years after H&R Block Inc., the biggest U.S. tax preparer, said a unit tapped $850 million in credit lines because it couldn’t sell the short-term debt.

Canadas fell, with the 2-10 spread flattening by 7.4bp, in what was hailed as an indication that the market has been pricing in too catastrophic a disaster.

It was a quiet and calm, but none-the-less positive day for Canadian preferreds. There was good volume and a confluence of prices with BAM.PR.M / BAM.PR.N, so it may be that those issues are normalizing after recent wild oscillations … subject to “normalizing” being a meaningful word, that is!

There were nine other $25-equivalent index-included issues trading over 10,000 shares today.

Another nervous day

Continuing the recent pattern, Yvon Charest, Industrial Alliance’s President and Chief Executive Officer, gave his portfolio managers a kick in the teeth by usurping their responsibilities. They’re just plain flat out buying the ABCP in their mutual funds – there is no indication as to whether the portfolio managers want to sell (and look, I know that’s a pretty good bet, OK? That’s not the point). Mr. Charest’s track record as a portfolio manager was not disclosed; we can expect unit-holders not to care until conflicts of interest are resolved in a way they don’t like and a newspaper headline tells them to care.

If Mr. Charest wants to play at “Portfolio Managers”, there is nothing to prevent him from issuing index-linked PPNs, and doing it all on his own balance sheet. But if there’s to be a separate balance sheet there has to be independence.

There is no indication as yet that anybody besides me thinks this is important; analyst independence is just so 2002.

On the sub-prime front, large bets are being made agains ResCap’s survival – and ResCap is a big player:

At the end of June, ResCap had tapped those [ABCP] markets for about $5.5 billion in financing, according to regulatory filings.

ResCap has about $18.5 billion in committed financing, CreditSights analyst David Hendler wrote in an Aug. 7 note.

Mortgage companies without any sub-prime on their books, such as Ottimo Funding LLC, are experiencing financing difficulties.

The default reports for July have been released and Fitch has placed $92.1-billion under review. Last month they reviewed $118-billion and downgraded $13-billion of it. There are more calls coming out for a review of the ratings agencies, as the politicians seem to have agreed on a convenient scapegoat. There are more calls for increased regulation of banks, as well.

Yves Smith has published a balanced review of the various critiques of Central Bank actions. Put me in the third camp: Realist (although I would prefer “Pragmatist”). The market is faced with a situation in which nobody will even look at riskier or more complicated debt. The central banks must first ensure that the commercial banks can, in fact, make investment decisions with reasonably assured financing. Then they must increase the spread between government and commercial paper to the point where real investors (as opposed to mere dealers) will at least be interested enough to look at it. Finally, once the normal routine of examining credit and making an actual decision between safe-but-low-yielding and riskier-but-higher-yielding securities has been re-established, we can get back to fighting inflation. And don’t worry, once people start looking at risk/reward with a more jaundiced eye, there will be plenty of losers. But if the credit markets lock up and everybody in the world has to dump assets on the market at give-away prices in order to de-lever, we’re talking deflation. And deflation is bad.

Tom Graff seems to be in so-far-so-good camp as well, while James Hamilton applauds the Fed’s methodology thus far.

There is some speculation that the liquidity crisis is over and we can all go home; fortunately there are cooler heads at the Fed:

“Financial market volatility, in and of itself, doesn’t require a change in the target federal funds rate,” [Richmond Fed President] Lacker said at a luncheon of the Risk Management Association of Charlotte. “Policy needs to be guided by the outlook for real spending and inflation.”

And, in boring news about the real economy, the Cleveland Fed reminds us that inflation, while still worrisome, is showing signs of responding favourably to the Fed’s policies of moderate restraint. 

True to form, however, US equities were up on takeover speculation, so it would seem that some are hopeful the whole episode was just a bad dream. Canadian equities followed.

Canadian banks re-affirmed their committment to providing credit support to their own Asset Backed Commercial Paper (ABCP) products. I can only imagine they’re having difficulty rolling the paper and are attempting to (i) reduce their conduit’s cost of borrowing, and (ii) keep the assets & liabilities off their own balance sheets. Given that their cost of funding, as measured by the September BAX on the Montreal Exchange has risen to about 4.6% (and I’ve seen them much higher), I’m sure they’re about ready to try anything. Note that the Canadian 3-month WI T-Bills are at 4.00% … that’s an amazing spread – according to RBC, the spread was 30bp on August 10, 62bp on August 17.

US 3-month T-Bills finally increased in yield but the 2-10 curve steepened anyway – so let’s not say it’s over just yet! The Canadian 2-10 spread steepened again and is now at 30.5bp. Hank Cunningham provides some historical context.

There were five other $25-equivalent index-included issues trading over 10,000 shares today.

A nervous day in the market today – best illustrated by the fall in US 3-month T-Bills to 3.09%, down 66bp on the day with a Treasury auction coming in at 2.85%.

A serious affront to analyst/portfolio manager independence was delivered by National Bank in the context of their purchase of Asset Backed Commercial Paper that was sold to certain client or held by National Bank branded money market funds:

As a result, our clients can be reassured that the funds will not hold any ABCP until we are convinced of the quality and liquidity of the paper, whether or not it is issued by a major bank.
…
National Bank of Canada, mindful of the best interests of the unitholders of the National Bank Mutual Funds, preferred not to have its clients bear the brunt of this uncertainty and therefore decided to initiate the transaction announced today.

Excuse me? National Bank decided? And ABCP won’t be held until “we” (under the National Bank letterhead) are happy about the credit quality?

I may be a little dense, but Morningstar lists the portfolio manager as Richard Levesque and he works for Natcan, which is registered by the OSC as “Investment Counsel/Portfolio Manager”. He is the only one entitled to make decisions regarding fund investments within the context of the fund’s mandate and the mandate is the sole province of the unitholders. National Bank, CEO Louis Vachon, and any miscellaneous bozos from marketting have no say in the matter.

As always, there’s no telling what the real story is (the press release may have been released in unseemly haste and poorly edited with an emphasis on brevity), but I trust that all unitholders, regulators and trade associations will do what they can to ensure they know just who is running the fund, whose interests are held paramount at all times and how much influence National Bank management has over portfolio management decisions.

Some readers will not consider this a major issue. Some readers are encouraged not to come running to me when the interests of mutual funds and their corporate sponsors  become intertwined in a manner they don’t like.

In less important news, a lot of children are being thrown off sleds to the sub-prime wolves. Capital One is taking a big charge to close its Alt-A mortgage unit, KKR Financial is seeking equity after selling a big chunk of sub-primes, and Thornburg sold a whack of mortgage-backeds in a frantic attempt to delever. Solent Capital may be forced to join them, after investors wouldn’t buy their ABCP. In short, the market is working as it should, although fear continues to rule greed: money market funds are piling into those famous 3% Treasury Bills, and SachsenLB needed emergency liquidity of 17.3-billion Euros.

The blame game continues, with calls for more regulation in Europe and America. Blaming the Fed is always popular. I haven’t seen calls for more regulation in Canada yet, possibly because they’re still trying to find something that isn’t regulated.

The WSJ reminds us that all this has happened before. Brad Setser reports on current Fed thinking on how this will all resolve – which doesn’t appear to involve more regulation, thank heavens – while Jim Hamilton looks at low-investment-grade spreads and wonders where all the risk is being priced. My guess is simply that contagion from lower-quality sub-prime, while knocking hell out of higher-rated sub-prime and affecting investment-grade corporates to some degree … simply has run out of steam.

US Equities experienced a few swings, but closed up on the day, followed by their Canadian counterparts.

Treasury news was dominated by the plunge in short-end yields, while Canada continued steepening. I like steepening.

A quiet day for preferreds, although Nesbitt was able to accomplish some crossing in size. The perpetualPremium sector did well, led by BMO.PR.H and CL.PR.B.

There were ten other $25-equivalent index-included issues trading over 10,000 shares today.

All indices were assigned a value of 1000.0 as of December 31, 1993.

Index Constitution, 1999-11-30, Pre-rebalancing

Index Constitution, 1999-11-30, Post-rebalancing

Well, that’s the end of another week-and-a-half! I said the same thing August 10 … I’m gonna start putting in for overtime.

The big news of the day was the Fed cut the discount rate. As the WSJ admirably explains the discount rate is the rate at which financial institutions can borrow directly from the Fed:

Banks were reluctant to access the window because it was associated with a stigma usually reserved for distressed banks. A few years ago the Fed overhauled the discount window to try and alleviate that stigma; the rate was then set one percentage point above the funds rate and subject to far fewer conditions. In spite of that, discount window borrowing has remained paltry.

Discount lending averaged just $11 million in the week ended Aug. 15. Although that was up from $1 million in the prior week it was puny compared to the billions of dollars the Fed has regularly injected into the financial system through open market operations.

There has been some jeering that this is a mere gesture; but some cheering for such a public (and cheap!) jawboning that certainly had an effect on the markets today. The Fed even actively encouraged eligible institutions to take advantage of the cut.

The discount cut sent a message that the Fed will consider Fed Funds Target cuts, which was received loud and clear, although the Fed Funds Futures market seemed a little disappointed that the gesture was only symbolic (what a bunch of cowboys those guys are!). While data for today is not yet posted, the Fed maintained a rate of about 5% in the actual Fed Funds market yesterday, and the low yesterday was 2%, much more reasonable than the recent 0% nonsense. Goldman Sachs changed its prediction again:

Goldman Sachs Group Inc. said the Federal Reserve will cut the overnight target interest rate to 4.5 percent from 5.25 percent this year
…
Until June, Goldman had expected the Fed to cut rates 75 basis points this year. They changed the forecast in June saying the Fed would hold rates at 5.25 percent through year-end

The analyst’s track record was not disclosed, possibly due to confusion regarding just exactly which track record.

At any rate, this signal was considered to be a sign that the world was not about to come to an end and both American and Canadian equities soared, led by financials.

Not surprisingly, government bonds had a super day, with Treasury two-years dropping 6bp in yield and ten-years 2bp, to bring the term premium to 50bp. Canada followed:

The two-year bond added 12 Canadian cents to C$99.25 to yield 4.188 percent, while the 10-year bond gained 23 Canadian cents to C$96.76 to yield 4.411 percent.

The yield spread between the two-year and 10-year bond moved to 22.3 basis points from 17.2 at the previous close.

The 30-year bond fell 28 Canadian cents to C$109.05 to yield 4.448 percent.

Readers might not fully empathize with my joy at seeing a real-live actual term spread again, after all this time … but believe me, it’s there.

A major – and worrisome – fly in the ointment is that the market for asset-backed paper has dried up and now:

The gap between similarly rated asset-backed and direct- issued paper is 79 basis points, the most since Bloomberg began keeping the indexes in 1999.

Brad Setser explains some of characteristics of ABCP and its relevance to the current kerfuffle. Connoisseurs of the preferred share market will recognize some degree of similarity between the two basic types of commercial paper and the preferred share types of “Operating Retractible” and “Split Share”.

Retail ABCP aversion is very pronounced to the point where not having any is a competitive advantage for Canadian money-market funds.

Sadly, I must leave devotees of the preferred share market in suspense. I have a dinner engagement and prices were not available from the source until about 7:30pm. I’ll update tomorrow … but fear not! Today, while volatile, was actually a pretty good day.

Update, 2007-08-17

There were fourteen other $25-equivalent index-included issues trading over 10,000 shares today.

Well, let’s all be happy that day’s done, shall we?

Canadian equities are now down on the year, notwithstanding a monster rally that took it up almost 400 points from the lows.

A record 708.1 million shares changed hands in trading on Toronto today, surpassing the previous record of 499.8 million set on July 12, according to an e-mailed statement. The number of trades was 996,311, exceeding the 707,853 made Aug. 10.

Similarly:

NYSE Euronext (NYSE Euronext: NYX), the world’s largest and most liquid exchange group, today reported record transaction volume in its U.S. cash equities trading operations on NYSE Group exchanges with 5.73 billion shares traded, based on preliminary results.  Additionally, the NYSE also achieved new records in orders, trades and quotes.

So far this month, trading volume on NYSE Group U.S. cash equities markets in August 2007 is 110% higher than August 2006.

as US Equities plunged, then rocketted to close slightly up on the day.

Moody’s warned that a LTCM-like collapse is not entirely out of bounds, and a Wall Street type warned that Moody’s isn’t invited to his next birthday party:

“To see Moody’s make forward-looking negative statements about hedge funds, who may well be suffering in large part as a result of their reliance on Moody’s now evidently worthless ratings, is to witness the height of chutzpah.”

He’s not alone, as Sarkozy wants an investigation into Moody’s. There is, as yet, no indication as to whether Sarkozy will be investigating asset managers who underperformed their benchmarks; Sarkozy’s track record was not disclosed. I am willing to bet that Gary Jenkins will also be relieved that he will not necessarily be investigated:

“Rating agencies should be regulated and they should be paid by the investor — not by the issuer, not by the structurer,” said Gary Jenkins, a partner at London-based hedge fund Synapse Investment Management, which manages $650 million of debt assets. “It’s so obvious, so simple that it’s the one thing that probably won’t happen. They shouldn’t be paid by the people selling the bonds.”

There are others who have the maturity and personal integrity to resist the temptation to blame the rating agencies: they blame the Fed:

The result: a crisis of confidence among investors who say Bernanke must abandon his focus on inflation and prevent a deeper slide in markets that endangers economic growth.

To restore my limited faith in humanity, there is at least one other person arguing, in effect: ‘Sure, the financial markets are risky. That’s what they’re for.’

All the money the Fed has pumped in seems to be going into T-Bills, which wasn’t quite what they had in mind.

The yield on the three-month Treasury bill tumbled 0.48 percentage point today to 3.62 percent, after falling 0.54 percentage point yesterday.

The money certainly didn’t go into the Commercial Paper market, which shrank significantly. About time – have a look at the actual Fed data, particularly the “Outstandings”. It would be a mistake to draw any conclusions from data without investigating further … but boy, it sure looks as if reliance on short-term funding in the US has increased a lot over the past five years!

Amidst all the equity fear and flight to safety, Treasuries had a monster day, and the 2-10 spread widened slightly to 45bp from 44bp yesterday. Given a gappy day like today, though, a lousy beep doesn’t mean too much. Canadas were much more restrained, with more steepening, the 2-10 spread increasing from 14bp to 17bp. Actual corporate bonds are still extremely illiquid.

The Yen did well, on what is presumed to be carry-trade unwinding; outlook for the USD is still probably grim.

There was cheering in the streets early on, as banking executives from all walks of life celebrated what I think must the demise of a competitor … er, I mean, they were happy that investors aren’t being wiped out in the restructuring of the Coventry funds. The commercial paper will be converted into floating rate notes with a maturity matching that of the underlying assets; if you want to pick up a little money-market yield by investing in Asset Backed paper in the future, you are now much more likely to purchase a rock-solid security, issued by a rock-solid trust. One that’s run by, um, a bank.

Given the events of the day – corporates in general not seeing much action; stocks getting hit; retail assuming that a preferred share is simply an equity that hasn’t gone down yet – it should be no surprise that the pref market did not do very well. As has often been the case lately, the Pfd-3(high) & lower issues took a hammering [which makes more sense than the higher issues getting hurt, anyway!]: NTL.PR.G, -5.33%; DW.PR.A, -5.27%; CCS.PR.C, -4.42%; STQ.E, -4.30%; YLD.PR.B, -3.81%; WN.PR.C, -3.61%; BBD.PR.C, -3.30%; BBD.PR.B, -3.18%; WN.PR.E, -2.56%; BBD.PR.D, -2.38%; NTL.PR.F, -1.81%; CGQ.E, -1.56%; WN.PR.D, -1.53%; BPO.PR.K, -1.47%; YPG.PR.A, -1.02%.

I’m not trying to pick on the junky stuff, there are lots of investment grade issues listed below! There was one junky gainer, IQW.PR.D, +1.92%.

Lets have another look at the junky-but-not-quite-junk sampler:

There were eleven other $25-equivalent index-included issues trading over 10,000 shares today.

Not quite so many links as has been the case lately, thank heavens, but those that I am going to put up are of exceptional interest … so read carefully!

Coventree was able to roll $600-million worth of paper today, which is good news, but noted:

“This ABCP was purchased primarily by investors who elected to renew or roll over their ABCP that matured (Tuesday),” Coventree stated.

I suspect there’s something of Mexican standoff implicit in the above remarks … if Coventree had to enter CCAA Protection it would be worse for both the company and the creditors.

There was a hint that much the same thing might be happening in the States, with Countrywide Financial stock plunging when Merrill Lynch changed its recommendation from “Buy” to “Sell” based on liquidity concerns. The analyst’s track-record was not disclosed. As in many such cases, this accellerated concerns to the point of becoming a self-fulfilling prophecy:

Countrywide credit-default swaps soared 225 basis points to 600 basis points, according to broker Phoenix Partners Group. That means it costs $600,000 a year to protect $10 million of Countrywide bonds from default for five years. The contracts have risen more than sixfold in the past month.  

The rout intensified after CNBC reported that Countrywide’s 30-day asset-backed commercial paper was being quoted by dealers at a 12.54 percent yield. The company previously borrowed at 15 basis points, or 0.15 percentage point, over the London interbank offered rate, which currently is about 5.57 percent for 30-day borrowings, the cable-television network reported

Even one of the bond market’s golden boys is affected, though admittedly the damage is largely self-inflicted: Nestle lost its triple-A status:

Nestle’s was cut one level to AA+ by Fitch and to Aa1 by Moody’s after the Vevey, Switzerland-based company said it plans to repurchase 25 billion Swiss francs ($21 billion) of stock, its biggest-ever share buyback. The downgrade leaves only Johnson & Johnson, Toyota Motor Corp. and Exxon Mobil Corp. holding AAA ratings from both Moody’s and Standard & Poor’s as well as Fitch.

In late news that might broil the markets tomorrow:

Australia’s Rams Home Loans Group Ltd. has been unable to refinance A$6.17 billion ($5 billion) of short-term U.S. loans because of a “lack of market liquidity” caused by the global credit rout.

Rams cited the “tightening of the global credit markets” for failing to sell the so-called extendable commercial paper, the company’s largest source of funding for its loans, it said in a statement today.

The lender has been given temporary funding of A$1 billion by two of its providers, Rams said.

In turn, both American and Canadian equities tanked. Today’s fearless prediction: pundits in tomorrow’s paper will note that the Canadian index is now more than 10% off its peak, meeting the generally accepted definition of a “correction”.

Reminds me of my back-office days back in 1987. I was asked quite seriously if I thought the 502-point drop in the Dow was a “crash” or a “correction”. I said I thought it meant the Dow was down 502 points, which wasn’t considered a particularly penetrating answer.

All the angst got the central banks moving. The Bank of Canada lowered its standards for repurchase agreements and the current month Fed Futures are now showing an expectation of an average Fed Funds rate for August (this month! August!) of 4.99%, twenty-six bps below target. This follows disclosure that the dollar-weighted average of actual Fed Funds transactions yesterday was 4.54%, with a low of half a point. We can be thankful that inflation numbers were benign and were met with cheers. A Fed governor, Poole, reminded the markets not to take anything for granted – the Fed cares about the real economy, not bit of Wall Street paper.

Given the de facto easing, it is not surpising that Treasuries had a really good day, with the two-year yield declining six basis points, although the spoil-sports trading ten-years took yield up 1bp, for a marked steeping. Canadas did not behave in anywhere near so dramatic a fashion, but 2-10 still steepened 2.3bp.

Rotten day in the preferred market, with all but one of the indices down on the day – and that one (FixFloat) was due to exceptional performance by BCE.PR.T, which accomplished this feat on zero volume. It’s very tempting to try to read something into this performance; but then again, in such a retail dominated market, strange things can happen.

Again, lack of interest in the lower rated credits was noticable, with the following performance stand-outs: YLD.PR.B, -4.55%; IQW.PR.D, -4.43%; HPF.PR.B, -4.26%; STQ.E, -3.01%; IQW.PR.C, -2.83%; DC.PR.A, -2.29%; GT.PR.A, -2.15%; NTL.PR.F, -2.07%; BBD.PR.C, -1.40%; BBD.PR.B, -1.32%; BPO.PR.J, -1.22%; and YPG.PR.A, -1.09%. Some of the lower rated credits bounced, but not many: WN.PR.C, +1.06%; WN.PR.D, +1.41%.

Just for fun, I’ll update the ‘Junky but not quite junk’ list (and remember, this is not representative! While the selections were not entirely random, they’re not entirely representative, either!).

There were fifteen other $25-equivalent index-included issues trading over 10,000 shares today.

I have another barrage of links for you today, so brace yourselves.

First, the obligatory Canadian news: Peter MacKay is no longer the Minister in Charge of Signing Agreements and is now the Minister in Charge of Shooting Off. What his dog thinks of the change was not disclosed.

BCE has filed its proxy statement and disclosed that financing for the takeover is coming from Citigroup, Deutsche Bank, The Royal Bank of Scotland and the Toronto-Dominion Bank. Now, it’s very nice to have financing committments, but they don’t necessarily mean anything. The Sallie Mae takeover is in trouble, with the borrowing buyers attempting to use an escape clause and the salivating sellers trying to slam it shut. Years of litigation ahead on that one, I’ll bet.

One of the financing consortium, Citigroup was in the news today.

Citigroup Inc., the biggest U.S. bank by assets, may forfeit as much as $1 billion of third- quarter profit because of the credit crunch in mortgages and high-yield debt, according to analysts at Sanford C. Bernstein & Co. LLC.
…
“The key question is how the market absorbs deals coming in September, when spreads may widen out to July levels or worse, or may renormalize, with spreads coming in to June levels,” the analysts wrote.

Mason and Howard said mark-to-market losses on leveraged loans in July could have been 15 percent to 20 percent. Lending spreads have tightened so far in August, they said.

Citigroup is the third-ranked provider of leveraged loans in the U.S. this year, behind JPMorgan Chase & Co. and Bank of America Corp., according to data compiled by Bloomberg.

Conventree is claiming that back-up liquidity providers for its commercial paper programme are refusing to provide back-up liquidity … lawsuits ahead there!

European Central Bank intervention eased off amid hopes that conditions are adjusting. Robert Eisenbeis thinks the ECB was too easy on the market.

It is being argued that central banks should actually make markets in instruments that have suddenly become illiquid … I don’t buy it. That’s the private sector’s job … central banks, as I said yesterday, can and should ensure that the biggest, best capitalized financial market intermediaries can make their decisions without having to get particularly nervous about their financing.

I also don’t buy recommendations that the ceiling on mortgage insurance be increased. The maximum mortgage that the agencies can buy is USD 417,000. Sorry! Anybody who’s taking out a mortgage in excess of USD 417,000 doesn’t need government help, implicit or otherwise. Insuring or providing loans of that size to individuals should be strictly private sector.

There was a comment reported by Bloomberg:

“Something that’s triple-A clearly shouldn’t be this volatile,” David Watts, an analyst at bond research firm CreditSights Inc. in London, said.

It may be that the Bloomberg reporter wrote the story to imply deprecation of the AAA ratings, but I hope the explanation for that remark is that he was deprecating the market. I agree with the other guy:

Ratings are “a measure of risk on a buy-and-hold basis and say nothing about the pricing volatility of an investment,” said Gareth Levington, a senior analyst at Moody’s in London. “The market level isn’t hugely relevant for the rating.”

Now for the really interesting stuff: Fed Funds. Truly one of the wildest and interesting sectors of the market, but not usually. Today Fed Funds Futures for the current month closed at 94.96, indicating that the market feels the average rate on Fed Funds for August will be 5.04%. Given that the Fed Funds target rate is 5.25%, this seems very strange indeed. But there are rumours that an emergency cut is imminent and there are more than just rumours. Federal Reserve Data indicates that the actual average rate so far in August has been about 5.17%; on 8/10 the Effective Rate was 4.68% and on 8/13 the ER was 4.81%. On both those days, the low for the day was 0%. So roll that up and smoke it … the interventions have had some effect! I found another primer on how this works, for those who are interested.

Potential cuts in the Fed Funds rate got a boost from mild US Inflation data which is projected by many to come inside the Fed’s comfort zone. Exports are up, which is logical since emerging nations are the only ones who have any money.

Sub-prime is even affecting national currencies … the Kiwi/Yen carry trade is losing popularity and funds are pouring into the US dollar.

With all this going on, Walmart’s profit warning ushered in every-day discounts on US Equities and financials led the crap-out in Canada.

There was continued flight to quality and curve-steepening in both Treasuries and Canadas. US Investment-Grade corporates narrowed in a little.

A lot of lower grade credits in the preferred share market got hit today: WN.PR.D, -3.49%; DW.PR.A, -2.46%; WN.PR.C, -1.72%; DC.PR.A, -1.55%; YPG.PR.B, -1.53%; STR.E, -1.35%; IQW.PR.D, -1.19%. This illustrates my theme of minimizing exposure to the Pfd-3-type credits!

Just for fun, I’ll update my recent comparable list:

There were six other $25-equivalent index-included issues trading over 10,000 shares today.