PrefBlog

Manulife Financial has announced:

that Manulife Financial Capital Trust II (the “Trust”), a trust wholly-owned by The Manufacturers Life Insurance Company (“MLI”), will issue $1 billion of Manulife Financial Capital Trust II Notes – Series 1 due December 31, 2108 (“MaCS II – Series 1”). The MaCS II – Series 1 are expected to qualify as Tier 1 capital of MLI for regulatory purposes. The Trust intends to file a final prospectus with the Canadian securities regulators as soon as possible.

Interest on the MaCS II – Series 1 is payable semi-annually. From the date of issue to but excluding December 31, 2019, the rate of interest on the MaCS II – Series 1 will be fixed at 7.405% per annum. Starting on December 31, 2019, and on every fifth anniversary after such date, the rate of interest on the MaCS II – Series 1 will be reset as described in the prospectus filed by the Trust and MLI.
On or after December 31, 2014, the Trust may, at its option and subject to certain conditions, redeem the MaCS II – Series 1, in whole or in part.

In certain circumstances, the MaCS II – Series 1 or interest thereon may be automatically exchanged or paid by the issuance of non-cumulative Class 1 Preferred Shares of MLI.

The transaction is expected to close on July 10, 2009. An amount equivalent to the net proceeds will be used by Manulife Financial Corporation (“MFC”) to acquire liquid assets for possible future retirement of amounts outstanding under MFC’s credit facility or for general corporate purposes. The offering is not expected to initially result in an increase to MLI’s reported MCCSR ratio (Minimum Continuing Capital and Surplus Requirements for Life Insurance Companies).

The use of proceeds is not entirely clear to me, but no prospectus is yet available. MLI has “Adjusted Net Tier 1 Capital” of a little under $13.6-billion as of 1Q09, according to OSFI, and these notes, according to the press release, will add to this total. But the offering is not expected to increase MLI’s MCCSR, and proceeds may be used to pay of MFC’s debt.

So how will the money flow from MLI to its parent MFC? Share buyback? Redemption of bonds? Enormous dividend? It must be out of Tier 1 Capital somehow, but it’s just not clear.

Be that as it may, the yield of 7.405% seems about right. MFC’s preferreds are trading to yield around 6.4% (the perps) or 4.85%-5.35% for the fixed Resets. The reset mechanism of this new issue is not specified in the press release, but can probably be expected to be similar to FixedResets (check the prospectus!).

Most importantly, however, these notes are Tier 1 Capital of the operating subsidiary, not the parent, which is worth a notch or two in credit quality all by itself. DBRS rates MLI‘s prefs at Pfd-1 and sub-debt at AA(low), compared to MFC’s Pfd-1(low) and senior debt (MTNs) at AA(low).

Update 2009-7-7: From the Preliminary Prospectus (via SEDAR):

The gross proceeds to the Trust from the Offering of $

E-L Financial has released (via SEDAR, dated May 8 ) its 1Q09 Financials, so let’s have a look.

For the three months ended March 31, 2009, E-L Financial earned net operating income of $34.5 million or $9.64 per share compared with a net operating loss of $5.7 million or $2.46 per share for the first quarter of 2008.

Net loss for the quarter was $133.7 million or $41.00 per share compared with a net loss of $21.4 million or $7.20 per share for the comparable period last year.

The results were impacted by two significant events that occurred in the first quarter. The general insurance operation incurred a net loss of $148.2 million for the first quarter ($2.9 million net loss in the first quarter of 2008). An impairment provision was recorded for its common equity pooled fund units in the amount of $226.1 million, before income tax, most of which was recorded as an unrealized loss in other comprehensive income in 2008. These pooled fund units were written down since the fair value was less than cost and, early in the second quarter, they were redeemed in kind, as a result of the general insurance operation’s decision to change its third part equity investment manager.

Secondly, on March 4, 2009, proposed amendments to the Income Tax Act passed third reading causing them to become substantively enacted for accounting purposes. Under these amendments, certain capital losses have been re-characterized as income losses for tax purposes. These amendments also result in most insurance investments and policy liabilities being taxed on a fair value basis, consistent with changes in accounting rules for financial instruments adopted in 2007. The impact of these amendments using fair values as of March 4, 2009 was a one-time increase to net income of $102.4 million. Most of this increase is due to a tax recovery relating to the recognition of unused tax losses on equity investments previously classifi ed as capital losses which were not considered to be recoverable and therefore not recognized in 2008.

Exposures:

Despite including this post in the “Regulatory Capital” category of PrefBlog, I will not discuss MCCSR. This figure is useless for analytical purposes, since:

• Corresponding US calculations are not disclosed
• As preferred share investors we are interested in the publicly issued preferred shares, at the holdco level

As noted by DBRS:

The incurrence of debt at the holding company to provide equity capital to operating subsidiaries constitutes double leverage, the use of which should be conservative. The analysis of double leverage requires a review of the unconsolidated financial statements of the holding company, which are generally not in the public domain.

Industrial Alliance has released its 1Q09 results, so we can take a quick look at their exposures.

Industrial Alliance ended the first quarter of 2009 with net income to common shareholders of $46.2 million, compared to $61.7 million for the same period in 2008. This result translates into diluted earnings per common share of $0.58 ($0.76 in the first quarter of 2008) and a return on common shareholders equity of 11.2% on an annualized basis (14.5% in the first quarter of 2008).

The results for the quarter benefited from a $7.5 million gain after taxes ($0.10 per common share) resulting from the favourable evolution of the gap between the market value of the debt instruments and that of the underlying assets. Debt instruments were classified as “held-for-trading” when the new accounting standards took effect on January 1, 2007. Hence, any difference between the variation in the market value of the debt instruments and the corresponding assets must be recognized immediately on the income statement. However, this difference should be gradually eliminated by the time the debt instruments mature, which is in the next five years.

On the other hand, the results for the quarter were affected by the current economic and financial environment, which reduced the Company’s expected income by about $9.9 million after taxes ($0.12 per common share).

Profit declined somewhat due to weaker equity & credit markets; $89-million due to lower fee income on Assets Under Management; $25-million due to increased actuarial liabilities; but mainly provisions for credit losses $138-million and other provisions, $19-million.

Exposures:

Despite including this post in the “Regulatory Capital” category of PrefBlog, I will not discuss MCCSR. This figure is useless for analytical purposes, since:

• Corresponding US calculations are not disclosed
• As preferred share investors we are interested in the publicly issued preferred shares, at the holdco level

As noted by DBRS:

The incurrence of debt at the holding company to provide equity capital to operating subsidiaries constitutes double leverage, the use of which should be conservative. The analysis of double leverage requires a review of the unconsolidated financial statements of the holding company, which are generally not in the public domain.

Great-West Lifecol has released its 1Q09 results, so we can take a quick look at their exposures.

I won’t be quoting from the earnings release. GWO considers their press release to be TOP SECRET and has encrypted the PDF: “All contents of the document are encrypted and search engines cannot access the document’s metadata … Content Copying: Not Allowed”. I asked them (or one of their affilliated companies, can’t remember which) about this some time ago but, being mere investor scum, was not favoured with a reply.

Profit declined somewhat due to weaker equity & credit markets; $89-million due to lower fee income on Assets Under Management; $25-million due to increased actuarial liabilities; but mainly provisions for credit losses $138-million and other provisions, $19-million.

Exposures:

Despite including this post in the “Regulatory Capital” category of PrefBlog, I will not discuss MCCSR. This figure is useless for analytical purposes, since:

• Corresponding US calculations are not disclosed
• As preferred share investors we are interested in the publicly issued preferred shares, at the holdco level

As noted by DBRS:

The incurrence of debt at the holding company to provide equity capital to operating subsidiaries constitutes double leverage, the use of which should be conservative. The analysis of double leverage requires a review of the unconsolidated financial statements of the holding company, which are generally not in the public domain.

Manulife Financial has released its 1Q09 results, so we can take a quick look at their exposures.

Earnings suffered with the markets:

The quarter’s net loss was primarily driven by continued declines across all equity markets, particularly in the U.S. Reserve strengthening for segregated fund guarantees resulted in an accounting charge of $1,146 million and credit impairments were $121 million. Also affecting earnings this quarter were fair value adjustments of $277 million primarily for declines in commercial real estate values, $255 million of equity related charges and $72 million related to credit downgrades. Earnings for the quarter, excluding these items, totaled $803 million and cash provided by operating activities of $2.5 billion reflected the non-cash nature of these charges.
…
In light of continued equity market volatility and sensitivity, the Company conducted a strategic review of its segregated fund product portfolio and started implementing changes to its product offerings in the quarter. In the U.S., fees were increased, deferral bonuses were reduced, additional features were withdrawn, and equity exposure was reduced in several key funds. In Canada, the hedging program for new segregated fund business was successfully implemented at the end of March, and $1.5 billion of inforce business was hedged. New business in North America is now hedged on an ongoing basis.

Does a phrase involving barn doors and stolen horses come to anybody else’s mind, or is it just me?

Exposures:

Despite including this post in the “Regulatory Capital” category of PrefBlog, I will not discuss MCCSR. This figure is useless for analytical purposes, since:

• Corresponding US calculations are not disclosed
• As preferred share investors we are interested in the publicly issued preferred shares, at the holdco level

As noted by DBRS:

The incurrence of debt at the holding company to provide equity capital to operating subsidiaries constitutes double leverage, the use of which should be conservative. The analysis of double leverage requires a review of the unconsolidated financial statements of the holding company, which are generally not in the public domain.

HSBC Bank of Canada has released its 1Q09 Results but full details are not yet available.

I will update when possible.

Sunlife has released its 1Q09 results, so we can take a quick look at their exposures.

Earnings suffered with the markets:

Sun Life Financial Inc.2 reported a net loss attributable to common shareholders of $213 million for the quarter ended March 31, 2009, compared with net income of $533 million in the first quarter of 2008. The Company incurred operating losses of $186 million for the first quarter of 2009 compared with operating earnings of $533 million in the first quarter of 2008. First quarter 2009 earnings were unfavourably impacted by $65 million from changes in the value of the Canadian dollar. Results in the first quarter of 2008 include earnings of $43 million or $0.08 per share from the Company’s 37% ownership interest in CI Financial, which the Company sold in the fourth quarter of 2008. The operating loss for the first quarter of 2009 does not include after-tax charges of $27 million for restructuring costs taken as part of the Company’s efforts to reduce expense levels and improve operational efficiency.

Net losses in the first quarter of 2009 were driven primarily by reserve strengthening, net of hedging, of $325 million related to equity market declines, reserve increases of $167 million for downgrades on the Company’s investment portfolio, equity impairments of $42 million and net credit impairments of $34 million. The Company’s equity hedging program operated as planned, offsetting some of the impact of reserve strengthening related to segregated fund and variable annuity guarantees as a result of volatility in capital markets during the quarter. First quarter results were also unfavourably impacted by increases in actuarial reserves related to the very low interest rate environment reflecting current and prior period experience.

Exposures:

This bit from the Shareholders’ Report is rather interesting:

The estimated impact from these obligations of an immediate parallel increase of 1% in interest rates as at March 31, 2009, across the yield curve in all markets, would be an increase in net income in the range of $125 million to $175 million. Conversely, an immediate 1% parallel decrease in interest rates would result in an estimated decrease in net income in the range of $250 million to $325 million. Interest rate sensitivities increased from prior quarter levels as a result of a number of factors, including increases in actuarial reserves, reflecting current and prior period experience, related to the very low interest rate environment as well as changes in market levels and interest rate hedging during the quarter.

In the first place, the effect is in the opposite direction from that expected, implying that the duration of their assets is less than the duration of their offsetting liabilities. In the second place, figures for 4Q08 were +100 to +150 and -150 to -200, respectively, implying they have increased their mismatch.

Despite including this post in the “Regulatory Capital” category of PrefBlog, I will not discuss MCCSR. This figure is useless for analytical purposes, since:

• Corresponding US calculations are not disclosed
• As preferred share investors we are interested in the publicly issued preferred shares, at the holdco level

As noted by DBRS:

The incurrence of debt at the holding company to provide equity capital to operating subsidiaries constitutes double leverage, the use of which should be conservative. The analysis of double leverage requires a review of the unconsolidated financial statements of the holding company, which are generally not in the public domain.

I mentioned on May 1:

I understand that Scotia has done an Innovative Tier 1 Capital deal, described as “650 million deal June 30, 2019-2108 … at 7.804%”, but have no further details, no press release, nothing on SEDAR.

Well, still no press release, but the prospectus is on SEDAR, dated May 1, 2009:

From the date of issue to, but excluding, June 30, 2019 the interest rate on the Scotia BaTS III Series 2009-1 will be fixed at 7.802% per annum. Starting on June 30, 2019 and on every fifth anniversary of such date thereafter until June 30, 2104 (each such date, an “Interest Reset Date”), the interest rate on the Scotia BaTS III Series 2009-1 will be reset at an interest rate per annum equal to the Government of Canada Yield (as defined herein) plus 7.05%. The Scotia BaTS III Series 2009-1 will mature on June 30, 2108. Holders of Scotia BaTS III Series 2009-1 may, in certain circumstances, be required to invest interest paid on the Scotia BaTS III Series 2009-1 in a series of newly-issued preferred shares of the Bank with non-cumulative dividends (each such series is referred to as “Bank Deferral Preferred Shares). See “Description of the Trust Securities — Scotia BaTS III Series 2009-1 — Deferral Right”.
…
The Bank will covenant for the benefit of holders of Scotia BaTS III Series 2009-1 (the “Dividend Stopper Undertaking”) that, in the event of an Other Deferral Event (as defined herein), the Bank will not declare dividends of any kind on any preferred shares of the Bank (“Bank Preferred Shares”) or, failing any Bank Preferred Shares being outstanding, on all of the outstanding common shares of the Bank (“Bank Common Shares” and, collectively with the Bank Preferred Shares, the “Dividend Restricted Shares”) until the 6th month (the “Dividend Declaration Resumption Month”) following the relevant Deferral Date (as defined herein).
…
On or after June 30, 2014 the Trust may, at its option, with the prior approval of the Superintendent, on giving not more than 60 nor less than 30 days’ notice to the holders of the Scotia BaTS III Series 2009-1, redeem the Scotia BaTS III Series 2009-1, in whole or in part. The redemption price per $1,000 principal amount of Scotia BaTS III Series 2009-1 redeemed on any day that is not an Interest Reset Date will be equal to the greater of par and the Canada Yield Price, and the redemption price per $1,000 principal amount of Scotia BaTS III Series 2009-1 redeemed on any Interest Reset Date will be par, together in either case with accrued and unpaid interest to but excluding the date fixed for redemption, subject to any applicable withholding tax. The redemption price payable by the Trust will be paid in cash.
…
It is expected that the closing date will be on or about May 7, 2009 (the “Closing Date”)
…
On or after June 30, 2014 the Trust may, at its option, with the prior approval of the Superintendent, on giving not more than 60 nor less than 30 days’ notice to the holders of the Scotia BaTS III Series 2009-1, redeem the Scotia BaTS III Series 2009-1, in whole or in part. The redemption price per $1,000 principal amount of Scotia BaTS III Series 2009-1 redeemed on any day that is not an Interest Reset Date will be equal to the greater of par and the Canada Yield Price, and the redemption price per $1,000 principal amount of Scotia BaTS III Series 2009-1 redeemed on any Interest Reset Date will be par, together in either case with accrued and unpaid interest to but excluding the date fixed for redemption.
…
Canada Yield Price means the price per $1,000 principal amount of Scotia BaTS III Series 2009-1 calculated by the Bank to provide an annual yield thereon from the applicable date of redemption to, but excluding, the next Interest Reset Date equal to the GOC Redemption Yield plus (i) 1.17% if the redemption date is any time prior to June 30, 2019 or (ii) 2.35% if the redemption date is any time on or after June 30, 2019.
…
GOC Redemption Yield means, on any date, the average of the annual yields at 12:00 p.m. (Eastern time) on the Business Day immediately preceding the date on which the Trust gives notice of the redemption of the Scotia BaTS III Series 2009-1 as determined by two Canadian registered investment dealers, each of which will be selected by, and must be independent of, the Bank, as being the annual yield from the applicable date of redemption to, but excluding, the next Interest Reset Date which a non-callable Government of Canada bond would carry, assuming semi-annual compounding, if issued in Canadian dollars at 100% of its principal amount on the date of redemption and maturing on the next Interest Reset Date.
…
Government of Canada Yield means, on any Interest Reset Date, the average of the annual yields as at 12:00 p.m. (Eastern time) on the third Business Day prior to the applicable Interest Reset Date as determined by two Canadian registered investment dealers, each of which will be selected by, and must be independent of, the Bank, as being the annual yield to maturity on such date which a non-callable Government of Canada bond would carry, assuming semiannual compounding, if issued in Canadian dollars in Canada at 100% of its principal amount on such date with a term to maturity of five years.
…
Interest Reset Date means June 30, 2019 and every fifth anniversary of such date thereafter until June 30, 2104 on which dates the interest rate on the Scotia BaTS III Series 2009-1 will be reset as described in this prospectus.

There hasn’t been a new BNS Fixed-Reset since January and the market has changed a lot since then, so let’s do a quick comparison with the more recent RY.PR.Y 6.10%+413:

• The preferred dividend is equivalent to 8.54% interest, so there’s a give up of about 75bp to move to the Tier 1 issue. Mind you, RY.PR.Y closed last night with a 25.90 bid to yield 5.40% until its first call at the end of 2014, which eliminates the yield differential quite handily
• The Tier 1 issue does not reset the rate for 10 years
• If the Tier 1 issue is called prior to 2019-6-30, holders get a whacking great premium
• The Tier 1 issue is slightly senior to Preferreds

It would appear that this issue is greatly superior to equivalent bank preferred issues.

I’m sure I’ve referenced this somewhere in this blog, but I can’t find it!

Page 768 of the enormous Commercial Bank Examination Manual states:

For risk-based capital purposes, total-rate-ofreturn swaps and credit-default swaps generally should be treated as off-balance-sheet direct credit substitutes. The notional amount of a contract should be converted at 100 percent to determine the credit-equivalent amount to be included in the risk-weighted assets of a guarantor. A bank that provides a guarantee through a credit derivative transaction should assign its credit exposure to the risk category appropriate to the obligor of the reference asset or any collateral. On the other hand, a bank that owns the underlying asset upon which effective credit protection has been acquired through a credit derivative may, under certain circumstances, assign the unamortized portion of the underlying asset to the risk category appropriate to the guarantor (for example, the 20 percent risk category if the guarantor is an OECD bank).

Whether the credit derivative is considered an eligible guarantee for purposes of risk-based capital depends on the actual degree of credit protection. The amount of credit protection actually provided by a credit derivative may be limited depending on the terms of the arrangement. In this regard, for example, a relatively restrictive definition of a default event or a materiality threshold that requires a comparably high percentage of loss to occur before the guarantor is obliged to pay could effectively limit the amount of credit risk actually transferred
in the transaction. If the terms of the credit derivative arrangement significantly limit the degree of risk transference, then the beneficiary bank cannot reduce the risk weight of the ‘‘protected’’ asset to that of the guarantor bank. On the other hand, even if the transfer of credit risk is limited, a bank providing limited credit protection through a credit derivative should
hold appropriate capital against the underlying exposure while it is exposed to the credit risk of the reference asset.

It should be noted, however, that in the States the notional value of the swaps does not affect the Leverage Ratio.

The Risk-Weighting is the same in Canada, according to the Capital Adequacy Guidelines:

The face amount (notional principal amount) of off-balance sheet instruments does not always reflect the amount of credit risk in the instrument. To approximate the potential credit exposure of non-derivative instruments, the notional amount is multiplied by the appropriate credit conversion factor (CCF) to derive a credit equivalent amount25. The credit equivalent amount is treated in a manner similar to an on-balance sheet instrument and is assigned the risk weight appropriate to the counterparty or, if relevant, the guarantor or collateral. The categories of credit conversion factors are outlined below.
100% Conversion factor
• Direct credit substitutes (general guarantees of indebtedness and guarantee-type instruments, including standby letters of credit serving as financial guarantees for, or supporting, loans and securities),

However, off-balance-sheet instruments such as CDSs do count towards assets in the calculation of the Assets to Capital multiple.

The deductions from Tier 1 Capital for Securitization, Substantial Investments, etc., are deducted from Shareholders’ Equity as well; in other words, the equity reported here is equal to the Net Adjusted Tier 1 Capital less preferreds and less Innovative Tier 1 Capital.

RWA is Risk-Weighted-Assets.

Equity / RWA is … well, you figure it out.

Tier 1 Rat is the Tier 1 Capital Ratio, as reported.

CapRat is the Total Capital Ratio as reported

ACM is the Assets to Capital Multiple, usually as reported, but estimated for those banks who did not make this disclosure.