PrefBlog

CIT Group has announced:

that, with the overwhelming support of its debtholders, the Board of Directors voted to proceed with the prepackaged plan of reorganization for CIT Group Inc. and a subsidiary that will restructure the Company’s debt and streamline its capital structure.

Importantly, none of CIT’s operating subsidiaries, including CIT Bank, a Utah state bank, will be included in the filings. As a result, all operating entities are expected to continue normal operations during the pendency of the cases.

All classes voted to accept the prepackaged plan and all were substantially in excess of the required thresholds for a successful vote. Approximately 85% of the Company’s eligible debt participated in the solicitation, and nearly 90% of those participating supported the prepackaged plan of reorganization.

Similarly, approximately 90% of the number of debtholders voting, both large and small, cast affirmative votes for the prepackaged plan. The conditions for consummating the exchange offers were not met.

Accordingly, CIT’s Board of Directors approved the Company to proceed with the voluntary filings for CIT Group Inc. and CIT Group Funding Company of Delaware LLC with the U.S. Bankruptcy Court for the Southern District of New York (“the Court”).

Due to the overwhelming and broad support from its debtholders, the Company is asking the Court for a quick confirmation of the approved prepackaged plan. Under the plan, CIT expects to reduce total debt by approximately $10 billion, significantly reduce its liquidity needs over the next three years, enhance its capital ratios and accelerate its return to profitability.

Note that the Maple issue, 4.72% Notes due February 10, 2011, are in Class 9, the largest class of notes with about $25-billion outstanding. According to the proxy solicitation:

Estimated Recovery: 94.4%, assuming (i) acceptance of the Plan of Reorganization by Class 7 Canadian Senior Unsecured Note Claims, Class 12 Senior Subordinated Note Claims and Class 13 Junior Subordinated Note Claims and (ii) New Common Interests valued at mid-point of Common Equity Value (as defined herein) range.

However:

CIT’s $500 million of notes due Nov. 3 fell to 68 cents on the dollar as of Oct. 29 from 80 cents at the beginning of the month, according to Trace, the bond-price reporting system of the Financial Industry Regulatory Authority.

According to the DTCC Warehouse, there are $54-billion gross and $3-billion net single name CDS outstanding on CIT, with 6,638 contracts.

In a comment on the post about HM Treasury’s musings on mandatorially convertible prefs, Assiduous Reader patc provided an introduction to what seems to be the wonderful world of Australian Hybrids.

Further investigation uncovered a Morningstar / “Huntleys’ Your Money Weekly” analytical report titled ASX Listed Hybrids:

These securities pay a regular distribution or dividend. The calculation for most instruments is similar. Start with the 90 or 180 Day Bank Bill Swap Rate (see graph below), which is the rate at which major financial institutions commonly lend money to each other. This rate often sits a little bit above the Reserve Bank cash rate, so now for instance the 90 day rate is sitting at 3.25%, above the cash rate at 3%. To this you add a margin, which differs from security to security. For instance the ANZ offering, with ASX Code ANZPB, has a margin of 2.5%, CBAPB has a margin of 1.05%, WBCPB has a margin of 3.8%.
…
The distribution may be franked and the numbers we quote include the franking credit where applicable.
…
Many bank hybrids have Mandatory Converting Conditions. There are offerings of this variety from Westpac, ANZ and CBA, as well as Macquarie and Suncorp. At the end of the term, around the Mandatory Conversion Date there are tests against the share price of the underlying security. For instance ANZPB is tested against the share price of ANZ. If the volume weighted average share price (VWAP) of the institution is above some threshold just prior to the Mandatory Conversion Date then the issuer must convert the hybrid securities into a variable number of ordinary shares – the value of the shares will be the face value of the hybrid plus a small conversion discount, typically 1%–2.5%. Often there’s a test that the price on the 25th business day before the mandatory conversion date is at least above 55–60% of the issue date VWAP, and then that the VWAP for the 20 business days prior to the conversion date is above 50–52% of the issue date VWAP.

Note that I have no idea what “franking” means!

The potential for a significant market in this asset class in Canada was discussed when the market was just about at its bottom in December 2008 in the post Convertible Preferreds? In Canada?.

Sadly, these preferreds approach mandatory conversion from the wrong direction: mandatory conversion occurs when the price of the common is above some level, rather than below, which – from the point of view of market stability – is undesirable. Ideally, the fixed charges inherent in debt-like instruments will be eliminated when the company’s in trouble – by conversion to common – but in this case the implication is that the fixed charges will remain in such a case, and be eliminated if the company does well (or, at least, treads water).

Note that these Australian instruments bear a distinct resemblance to Canadian OperatingRetractibles, the major differences being:

• the discount on the common is 1% – 2.5% for these Australian issues, vs. a standard 5% discount for the Canadian issues
• the existence of a minimum price on the common for the “retraction privilege” to be effective in Australia, vs. no minimum in Canada (presumably, this minimum is the reason the issues may be included in Tier 1 Capital)

KBC Bank has announced:

tender offers in certain countries in Europe and, in respect of one security, in the United States of America to repurchase four series of outstanding hybrid Tier-1 securities with a total nominal value of approximately €1.6 billion. The securities will be purchased at 70% of their face value.

By doing so under current market conditions, KBC Bank offers bondholders an opportunity to exit by paying a premium above the market price. At the same time, KBC Bank will generate a value gain when buying back at a discounted price compared to the nominal value of the securities, which further enhances the quality of its core capital position. If all outstanding securities would be bought back, the after tax value gain would be approx. 0.2 billion euros while the impact on the core Tier-1 ratio, banking would be estimated at +0.25%.

In the past, KBC has issued several hybrid securities that were qualified as regulatory Tier-1 bank capital. Such securities are ‘hybrid’ securities that have both equity and debt features. In general terms, they pay an interest coupon, but have no final maturity and rank junior to other bonds upon bankruptcy.

KBC wishes to reiterate its stance of refraining from exercising its call options on hybrid Tier-1 securities for the remainder of the year.

The tender offers cover the following securities and are being made solely to the relevant holders of such securities:

•  EUR 280 million hybrid securities issued by KBC Bank Funding Trust II;
•  USD 600 million hybrid securities issued by KBC Bank Funding Trust III;
•  EUR 300 million hybrid securities issued by KBC Bank Funding Trust IV;
•  GBP 525 million hybrid securities issued by KBC Bank.

The last of these recently had its coupon suspended:

Having issued core capital securities to the State in order to strengthen its solvency level, KBC’s company restructuring plan needs to gain clearance from the European Commission. On 6 August, KBC communicated that KBC was advised by the European Commission to refrain, until the end of the year, from payment of “discretionary coupons” on its perpetual subordinated hybrid Tier-1 securities.

•  The restriction is expected to impact the directly issued perpetual debt securities issued by KBC Bank in a total amount of 525 million sterling (in 2003, 2004 and 2007).
•  For the KBC Bank funding Trust II 280 million euros 1999 issue, coupon payments in the second half of 2009 remain uncertain as they are subject to ongoing discussions with the European Commission.
•  For the other hybrid securities, coupon payments in the second half of 2009 are considered to be non-optional and will be paid.

…
What makes the coupon payment for the KBC Bank 525 millions sterling issue “discretionary”?

Pursuant to conditions 4(i) (“deferred coupons”) and 5(a) (“deferral notice”) of the offering memorandum, and assuming no “net asset deficiency event” occurs (as defined in the prospectus), KBC Bank NV may in its sole discretion defer the payment of interest unless such interest would or would become mandatorily due.

Pursuant to conditions 5(b) (“payment of deferred coupon”) and 6(b) (“mandatory coupons”), interest would be mandatorily due if KBC Group NV or KBC Bank NV were to pay any dividend on or redeem any junior securities or parity Securities. This would, for example, be the case if any dividend is declared on the ordinary shares of KBC Group, which fall under the definition of junior securities. Currently, there are no parity securities (as defined in the prospectus) outstanding.

As at today’s date, KBC does not anticipate to make any payment in respect of any junior securities prior to 19 December 2009. Accordingly, as a consequence of the restrictions imposed by the European Commission, KBC will, absent any such payment, be required to exercise its discretion and withhold the interest payment falling due on 19 December 2009. At this time, it remains unclear if and when KBC will make any payment in respect of junior securities in the course of 2010.

Finally, coupon payments on the sterling hybrid securities do not rank pari passu with coupon payments to holders of other KBC hybrid securities (see condition 3(a) (“Status of the securities”)). Therefore, coupon payments to holders of other KBC hybrid securities in 2009 (whether in the first or second half of the year) do not trigger a coupon payment to the holders of the sterling hybrid securities.

I haven’t drawn any diagrams of the KBC’s capital structure, but it sounds pretty intricate!

PrefLetter is sponsoring Happy Capitalism on AM640 for a limited time as a test-marketting effort.

My thirty second spot will be heard every weekday for the next four weeks, just before 9am.

To listen, click here.

The Financial Post has reported:

Ten weeks back, David Berry, former head of preferred-share trading at Scotia Capital, won a victory in the Ontario Superior Court of Justice when Justice Andra Pollak dismissed a so-called partial-summary judgment brought by his former employer. In effect, Justice Pollak determined Berry’s $100-million lawsuit, filed in November 2006, “for constructive dismissal and damages for loss of competitive advantage” should proceed because … Scotia has not met the burden of proving that there is no genuine issue for trial and that partial summary judgment will shorten the trial in any way.”

Because Berry, who was fired from Scotia Capital in June 2005, won that action, Scotiabank became responsible for Berry’s costs, or at least part of them. Recently Scotia received the bill: It is required to pay almost $350,000 –a hefty amount, and, from all reports, a multiple of what Justice Pollak has ordered in the past for similar matters. Scotia has sought leave to appeal the amount.

The David Berry saga has been reported on PrefBlog previously, with the most notable revelation that:

One is Andrew Cumming, who, until 2002, was Berry’s direct supervisor under Jim Mountain in his role as managing director and head of equity-related products at Scotia, and today is a consultant to a money management firm. Last summer, Cumming swore an affidavit in support of Berry’s lawsuit, claiming that he saw nothing wrong with how Berry was ticketing new issue shares.

Cumming is willing to testify that senior executives at Scotia had divulged the bank’s desire to catch Berry in “something like a securities violation so Scotia could use it against him”, to either severely reduce his compensation package or fire him.

Scotia spent, I believe, several million dollars going through Berry’s tickets and managed to come up with some picayune technical breaches. Readers are invited to explain to me why traders employed by banks should agree to deferred compensation for trading profits.

DBRS has announced that it:

has today released its updated criteria “Preferred Share and Hybrid Criteria for Corporate Issuers (Excluding Financial Institutions)”. The publication of this updated criteria is part of DBRS’s ongoing efforts to provide greater transparency as to how DBRS assesses the “equity weighting” that is given to a hybrid or preferred security in terms of adjusting certain key ratios. This update has not resulted in any outstanding rating or rating trend changes.

The criteria includes discussion on: (1) the four factors DBRS considers in assessing equity weighting, (2) an overview of the base requirements that must be dealt with before any equity weighting is considered, (3) a list of High, Medium and Low considerations employed in the assessment, (4) an outline of the six categories of equity weighting used by DBRS, and (5) comments related to ratings on the instruments themselves.

The published methodology seeks to formalize a methodology for adjusting debt/equity ratios, etc., when preferreds and other hybrids are in the capital structure.

(1) Exceptional – Potential to receive equity treatment of 100% It is exceptionally diffi cult for a security to totally replicate the strengths of common equity and receive completely equal status. Practically, however, DBRS would consider certain preferred share securities to be very close to common equity based on consideration of the four key factors. While common equity is still preferable, the gap is narrow enough that it is not necessary to differentiate these preferred shares from 100% equity treatment under limited circumstances. All things being equal, DBRS views preferred shares as preferable to a debt hybrid.
EXAMPLES
• Perpetual Non-Cumulative Preferred Shares
• Preferred Shares with mandatory conversion to Common Equity < three years • Traditional Preferred Shares where no call/redemption concerns exist
…
(4) Medium – Potential for equity treatment of 50%. Equity treatment at this level is very common for debt hybrids as there is more fl exibility in the P, L, S and I considerations, so the Hybrid is viewed as equally debt- and equity-like. Some hybrid instruments that only just miss meeting the standards necessary for 65% will by defi nition be relegated to this 50% level for equity treatment.
EXAMPLES
• 30-year Subordinate Debt with the ability to defer payments for at least fi ve years, a best-efforts capital replacement covenant, the ability to repay principal with a fi xed amount of common shares and written goals to use best efforts to sell common equity to deal with any deferred interest.
• Five-year Subordinate Debt with a mandatory conversion to common equity at maturity and the ability to either defer or pay interest in common equity through the life of the instrument.
• 50-year Subordinate Debt with the ability to repay interest and principal with common equity and a
best-efforts capital replacement covenant.
…
Relationship between rating and equity weighting There is no direct correlation between the rating of a hybrid instrument and the level of equity weighting that it is assigned. This is because DBRS views the embedded terms within a hybrid as non-credit risks and does not penalize the rating of the hybrid for such. By defi nition, hybrids are instruments that combine certain characteristics of debt and equity, yet these characteristics do not normally cause any change in the likelihood of default. Investors should be aware that these covenants could lead to a variety of scenarios that have an impact on performance and add risk outside of credit, but DBRS does not see these considerations as part of credit risk and, as such, DBRS ratings are not affected by hybrid covenants and provide no opinion on them. As such, hybrids and preferred share instruments will be rated based on notching from the Issuer Rating (or if none, the senior debt rating) of the Company. Notching reflects ranking, subordination and default considerations.

Manulife has announced:

that Manulife has signed an agreement to acquire AIC’s Canadian retail investment fund business.

Under the agreement, Manulife Mutual Funds would manage all AIC funds in Canada and AIC would continue to act as a fund sub-advisor for Manulife Mutual Funds.

Further:

Once complete, the acquisition of AIC Limited’s retail investment fund business by Manulife Financial will create significant scale and presence for Manulife’s individual wealth management business across Canada.

At AIC Limited, key members of its portfolio management team will return to their asset management roots by creating a sub-advisory business focused on high net-worth individuals, plus will continue to act as a sub-advisor for Manulife Mutual Funds.

The businesses based in Burlington and Toronto, Ontario currently have almost $13.7 billion* in combined investment funds assets under management across Canada.

“plus will continue to act …”? Oh, well, the doctors say I have to learn to let these things go.

AIC provides further details:

Investment management for the following AIC-managed and sub-advised funds will remain in place for the time-being, but Manulife Mutual Funds will review the line-up to determine the most appropriate next steps. The result of this review should be available shortly:

AIC Trust Funds:

• …
• AIC Preferred Income Fund
• …

AIC Preferred Income Fund is rather interesting. Their promotional material states:

Why a preferred income fund?

Preferred shares are safer than common stocks not simply because they typically rank higher up the capital structure but also because traditionally only Canada’s largest public companies can earn access to the preferred market. AIC’s familiarity with all of those issuers increases the chances that AIC Preferred Income Fund will come to own the best of those issues.

A diversified portfolio of preferred shares and other attractive income-producing investments is a prudent choice for many investors. But choices are many and attention to the detailed terms, nuances and credit ratings of each issue/issuer is absolutely required. Ownership of the AIC Preferred Income Fund is simply an easier alternative … let us do the management and monitoring of the portfolio for you.

AIC Preferred Income Fund offers tax-advantaged income at a high current yield with relative safety in a single decision purchase. With an emphasis on dividend-paying preferred shares, AIC Preferred Income Fund delivers a steady stream of monthly income subject to lower tax rates relative to fixed income instruments (held outside a registered account). For investors at the highest marginal tax rates, in all provinces, after–tax returns on dividends exceed after–tax income returns from bonds or bond funds of similar current yield (held outside a registered account). And for many investors in lower tax brackets dividend income (held outside a registered account) can actually be completely free of tax. Distributions from the Fund may consist of dividends, capital gains, interest and/or return of capital.

AIC Preferred Income Fund provides you attractive current yield and tax efficiency.

… which is all very good, although more details supporting the statement AIC’s familiarity with all of those issuers increases the chances that AIC Preferred Income Fund will come to own the best of those issues. would have been most interesting.

Of additional interest is their statement of holdings reported by Morningstar:

Zeus Receivables Trust 8.7
Diversified Trust 6.8
Ridge Trust 5.8
Darwin Receivables Trust 5.8
Sun Life Finl 4.9
Canadian Master Trust 4.8
TORONTO DOMINION BK ONT 4.8
Bk Montreal Que Pfd 4.8
BANK N S HALIFAX 4.8
CANADIAN IMPERIAL BK COMM TORONTO ONT 4.8

Zeus Receivables is bank sponsored ABCP.

Diversified Trust is bank sponsored ABCP.

Ridge Trust is bank sponsored ABCP.

Darwin Receivables Trust is bank sponsored ABCP.

Canadian Master Trust is bank sponsored ABCP.

The US Department of the Treasury has announced:

The balance of our financing requirements will be met with weekly bills; monthly 52-week bills; monthly 2-year, 3-year, 5-year, and 7-year notes; the September and October 10-year note and 30-year bond reopenings; and the October 5-year and 10-year TIPS reopenings.
…
Currently we believe our existing suite of nominal securities is sufficient to address our borrowing needs; however, market participants should expect auction sizes to continue to rise in a gradual manner over the medium term. In addition, to increase our flexibility, issuance of Treasury inflation-indexed securities will also increase gradually.

Nevertheless, Treasury will continue to monitor projected financing needs and make adjustments to the auction calendar, if necessary. These include, but are not limited to, the reintroduction or establishment of other benchmark securities or other changes to the auction calendar for existing nominal and inflation-indexed securities.

Treasury is committed to issuing TIPS in a regular and predictable manner across the yield curve. These securities are an important part of our overall debt management strategy, and market participants can expect issuance to gradually increase in FY 2010.

Additionally, to potentially improve liquidity in the TIPS program and better capture the premium associated with inflation protection, Treasury will consider replacing 20-year TIPS with 30-year TIPS.

Any potential changes to the TIPS program will be announced at the November 2009 refunding.

Across the Curve comments that in typical market fashion, this announcement resulted in an increase to TIPS prices:

TIPS bonds are besting their nominal rivals. In announcing that it would tinker with TIPS issuance the Treasury averred that increased offerings would not occur until 2010.

The widening of breakevens represents the howls of the shorts who had planned for an increase in issuance at this instant. Thirty year breakevens have moved to 227 basis points from 220 late yesterday.

The Wall Street Journal reports that increases to TIPS sizes is due to pressure from China:

China, the largest holder of U.S. government debt, is among investors that have indicated to the Treasury that they want to buy more of the securities, which offer protection against rising inflation, the people said.

Officials from the U.S. and China discussed TIPS issuance at high-level talks in Washington last week.

China is getting assertive! They roiled the market a while ago when they decreased their holdings of Agencies and now they’re demanding inflation protection. Well, he who pays the piper … I have always thought that America’s fiscal profligacy will not reverse until it sinks in on Joe Sixpack’s political thoughts that the rate he pays on his mortgage is set in Beijing.

Really, I don’t have much to say beyond the headline … but tune in and tell me what you think!

Moody’s has announced:

In Canada, proposed changes to the methodology used by Moody’s Investors Service to rate bank subordinated capital (i.e., subordinated debt, preferred shares, and other hybrid securities) could lead to ratings being lowered by an average of two to three notches on $65 billion of rated instruments.
Neither bank financial strength nor deposit ratings would change as a result of implementing Moody’s bank subordinated capital ratings proposal, the rating agency said. “These potential rating actions do not reflect on the underlying financial strength of the Canadian banking system, which Moody’s views as one of the soundest globally,” said Moody’s Senior Vice President, Peter Routledge. “Rather, they would capture the risk that subordinated capital generally does not benefit from systemic support and take into consideration the risk posed by each instrument’s features.”
…
Before the current financial crisis, Moody’s had assumed that any support provided by national governments and central banks to shore up a troubled bank and restore investor confidence would not just benefit the bank’s senior creditors but, at least to some extent, investors in its subordinated capital.

The rating agency notes that with recent government interventions oustide Canada, investors in certain types of subordinated capital have been left to absorb losses. In some cases, support packages have been contingent upon the banks’ suspension of coupon payments on these instruments as a means to preserve capital.

In other words, this is the same rationale as that used by DBRS when it mass-downgraded bank preferreds and IT1C.