PrefBlog

There was a little pop in bond yields today:

Treasury 10-year note yields (USGG10YR) rose to the highest levels in two weeks after a gauge of U.S. manufacturing expanded at a faster pace than forecast, weakening the case for the Federal Reserve to maintain stimulus.

The benchmark securities extended the first five-day drop in three weeks as Fed Bank of St. Louis President James Bullard said labor market gains in the past year could warrant a cut in the bond buying. Fed policy makers said Oct. 30 that the economy showed signs of “underlying strength” even as they maintained their $85 billion of monthly asset purchases.

Want a raise? Go west, young man!

Data released yesterday by Statistics Canada showed the difference in average hourly wages in Alberta and the rest of the country, but for Saskatchewan, widened again in August.

“Note that hourly wages are now nearly $6 less in Atlantic Canada than in Alberta, the widest gap on record, a factor that has contributed to pushing more than 11,000 migrants out of the region in the past year – a major headache for housing markets, government finances, etc.,” said senior economist Robert Kavcic of BMO Nesbitt Burns.

“Even B.C. is seeing the wage gap approach $4/hour versus Alberta, and not coincidentally is also seeing a decade-high net outflow of workers.”

The StatsCan report indicates that a decent economy is still comfortably far away:

Click for Big

… with an implication that those who decided to earn a living filing paperwork for construction companies are getting vindicated …

Click for Big

DBRS confirmed Enbridge at Pfd-2(low):

DBRS has today confirmed the Issuer Rating of Enbridge Inc. (ENB or the Company) at A (low) and ratings on ENB’s Medium-Term Notes & Unsecured Debentures, Commercial Paper and Cumulative Redeemable Preferred Shares ratings at A (low), R-1 (low) and Pfd-2 (low), respectively, all with Stable trends. The ratings reflect (1) a relatively strong business risk profile, (2) pressure on ENB’s near-to-medium-term credit metrics and (3) results under the ten-year Competitive Tolling Settlement (CTS), effective July 1, 2011.

Enbridge is the proud issuer of ENB.PR.A, ENB.PR.B, ENB.PR.D, ENB.PR.F, ENB.PR.H, ENB.PR.N, ENB.PR.P, ENB.PR.T and ENB.PR.Y, as well as some US-Pay stuff that I don’t track.

It was a negative day for the Canadian preferred share market, with PerpetualDiscounts down 11bp, FixedResets off 3bp and DeemedRetractibles losing 18bp. The Performance Highlights table is longer than one might expect given the modest overall moves, with a preponderance of Straight losers. Volume was on the low side of average.

Nothing happened today.

It was a mixed day for the Canadian preferred share market, with PerpetualDiscounts up 37bp, FixedResets gaining 11bp and DeemedRetractibles off 3bp. The Performance Highlights table is notable on the downside for domination by BAM Floating Rate issues, while the upside has a surprisingly large population of FixedResets. Volume was high.

PerpetualDiscounts now yield 5.49%, equivalent to 7.14% interest at the standard equivalency factor of 1.3x. Long corporates now yield about 4.7%, so the pre-tax interest-equivalent spread (in this context, the “Seniority Spread”) is now about 245bp, unchanged from October 23.

And that’s it for another month!

Today’s FOMC release was ‘Steady as she goes’:

Taking into account the extent of federal fiscal retrenchment over the past year, the Committee sees the improvement in economic activity and labor market conditions since it began its asset purchase program as consistent with growing underlying strength in the broader economy. However, the Committee decided to await more evidence that progress will be sustained before adjusting the pace of its purchases. Accordingly, the Committee decided to continue purchasing additional agency mortgage-backed securities at a pace of $40 billion per month and longer-term Treasury securities at a pace of $45 billion per month. The Committee is maintaining its existing policy of reinvesting principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities and of rolling over maturing Treasury securities at auction. Taken together, these actions should maintain downward pressure on longer-term interest rates, support mortgage markets, and help to make broader financial conditions more accommodative, which in turn should promote a stronger economic recovery and help to ensure that inflation, over time, is at the rate most consistent with the Committee’s dual mandate.

Joshua Zumbrun & Jeff Kearns of Bloomberg comment:

The consumer price index increased 0.2 percent after rising 0.1 percent the prior month, a Labor Department report showed today. The Fed’s preferred gauge of inflation, the personal consumption expenditures index, rose 1.2 percent in August and hasn’t breached 2 percent since March 2012.

The Fed removed a sentence from the previous statement that had said tighter financial conditions could slow the improvement in the economy.

Kansas City Fed President Esther George dissented for the seventh meeting in a row, citing the risk the Fed’s stimulus could create financial imbalances and cause long-term inflation expectations to rise.

Richard Vedder of Bloomberg rages against the cost of US universities’ hubris:

I have written before on how the expansion of federal student-loan programs has encouraged colleges to simply raise their costs. Students are left to pile up more debt while colleges indulge in their Edifice Complex — building luxury dorms and gyms and stadiums (all “sustainable,” of course) at the expense of poorer students. There is another, related government subsidy that also has perverse effects and needs reform: the tax-exempt debt binge by universities.

Schools are exuberantly borrowing, in some cases issuing 100-year (century) bonds. Some bond offerings are justified, even wise, as schools are taking advantage of low interest rates to reduce future debt-service obligations. But a lot of this activity is financing construction of high-end student housing, faddish “centers” and stadiums.

These perquisites appeal to the most affluent. For many students, however, the costs of college are rising relative to the perceived benefits, pushing them to consider lower-cost substitutes (online education, nondegree certificate programs).

Many bonds are tax-exempt. The more money borrowed, the more generous the exemption, creating in effect a taxpayer subsidy for rich universities. Should there be no cap on the tax exemptions private colleges can claim on their bond debt, and is it appropriate for the government to subsidize all types of projects at these schools?

And the argument regarding the cost of Too-Big-to-Fail rages on as well:

McCloskey’s confusion about the nature of the too-big-to-fail subsidy leads directly to another misconception: that regulatory compliance costs could somehow offset the subsidy. Compliance may or may not put a greater burden on larger banks (I suspect executives at small banks would disagree). In any case, the costs do nothing to reduce the taxpayer subsidy or the incentive to preserve it by becoming as big and systemically threatening as possible.

In other words, U.S. taxpayers are paying big banks to put the economy in danger, which is crazy. The best solution is to make banks less likely to fail by requiring that they finance themselves with more equity capital, which absorbs losses in bad times.

Regulators have taken a small step in that direction by proposing that bank holding companies have at least $5 in capital for every $100 in assets — a 5 percent leverage ratio that is a bit more than the global minimum of 3 percent. The proposal, to which banks are adamantly opposed, falls far short of the 20 percent that economists have argued would be best for the economy, but at least it’s a start. Let’s hope they stick to it.

Matt Levine writes a more sensible than usual piece about the so-call FX manipulation scandal, which I never-the-less disagree with:

There are two problems with this. One, while the bank is guaranteeing the client the WM/Reuters fix price, nobody’s guaranteeing the bank anything. The bank has to actually go trade and try to hit that price. The way the fix works is that it’s set by sampling trades over a 60-second window, so you have to have a certain amount of skill and luck to trade at (or better than) the official price. It’s risky.

Two — and this is important, too — banks are in the business of making money, and the trade they want is not “buy at WM/Reuters fix and sell at WM/Reuters fix” but rather “buy at less than WM/Reuters fix and sell at WM/Reuters fix.”
If your client tells you at 3:30 that they want to buy francs at the 4 p.m. price, there are fairly straightforward ways to try to ensure a profit. Like: If they’re buying a lot of francs, then you’d expect that to push the market for francs up. So what you could do is start buying francs at 3:30 when they’re trading at $1.1150 or whatever,**** and keep buying steadily until 4 p.m. when they’re trading at $1.1200, for an average price of like $1.1175, and then sell to the client at the 4 p.m. fix of $1.1200. You buy francs for $1.1175, you sell them for $1.1200, you make $0.0025 per franc, you do it a lot, boom, good business.
…
Also some things are right out:

In June, Bloomberg News reported that dealers pooled information about their positions through instant messages, executed their own trades before client orders and sought to manipulate the benchmark WM/Reuters rates by pushing through trades around the 60-second windows when the benchmarks are set.

The sharing client data among dealers seems self-evidently bad. The “executed their own trades before client orders and sought to manipulate the benchmark” is either bad, or just legit hedging that looks bad, or something in between, or some combination thereof, it is hard to know.

This shows a fundamental misconception of the order.

The bank has not agreed to act as agent, with fiduciary responsibility, for the client. What the bank has done is sold a very short-term (intra-day) forward contract to the client. When the dealers talk to each other, they’re not sharing information about client orders, they’re sharing information about their own orders, which they will be placing as principal in order to cover their position.

The big problem with the market is that there are too many fools and charlatans in charge of too much client money. Dealers are not your friends. Dealers are counterparties, just like Loblaws is my counterparty when I buy groceries. Loblaws and I get on well and have a mutually beneficial relationship – but they’re always trying to make it a little more beneficial for them and I’m always trying to make it a little more beneficial for me. Sadly, this fundamental truth escapes the Boo-hoo-hoo brigade.

The industry is staffed with MBAs, which stands for Minimal Brain Activity. There is nothing the dealers do that a large client – large enough to matter, large enough to be asked their intentions – cannot do himself. Trades can be sampled over a given period, whether it’s the period of the fix, or the run-up to it, or the aftermath … but, unfortunately, that involves actual work, which MBAs are fundamentally incapable of doing, or even understanding. Why, one might have to write, or commission, an algorithmic programme to buy your USD 100-million in million dollar chunks! Computer programmes? Those are for geeks! Daddy didn’t pay for a good school so I could write computer programmes! It might take more than one ‘phone call to execute the trade! More than one call? How are you going to discuss the analysis of Warren Buffet’s pronouncement on Yellen’s approach to the Fed if you have to make more than one call. Can’t be done. Call a dealer, just like Daddy calls his stockbroker.

It may be ugly and awful, but US sequestration might be working anyway:

Senator Jeff Sessions of Alabama, the top Republican on the Budget Committee, said today in an interview such an accord could be a way to replace for a year or two the automatic spending cuts, known as sequestration, that both parties decry.

“A great number of entitlement programs, mandatory programs, are not Social Security and Medicare,” Sessions said. “There are a whole bunch of programs that are mandatory in nature and have never been looked at” and weren’t in the law setting up the automatic cuts, he said, citing farm subsidies and food stamps.

Asked if such a deal is a fallback to a broader deal, he said. “I would hope so.”

BAM closed a big deal:

If you have a railroad or a port for sale, there’s a big new buyer as Brookfield Asset Management just closed a massive $7-billion (U.S.) infrastructure fund that will invest in such things as transportation and energy assets. The new money has the potential to bump up Brookfield’s fee income markedly.

Brookfield blew right through the $5-billion target. There are more than 60 investors, including sovereign wealth funds, insurers, and public and private pension plans. Brookfield is putting in $2.8-billion of its own money (through its Brookfield Infrastructure Partners and Brookfield Renewable Energy Partners LP subsidiaries), meaning $4.2-billion is coming from outside investors. Brookfield said half the investors are rookies at putting money into Brookfield funds.

The new fund will surely significantly boost Brookfield’s fee income.

At a 1.5 per cent management fee, which is in the ballpark for funds of that size, the new outside assets would represent about $63-million a year in additional income for Brookfield. That would be before any performance fees.

It’s very encouraging to see business trying to take back control of the Republican party:

The U.S. Chamber of Commerce fired an opening salvo yesterday in the battle for control of the Republican Party, endorsing a self-described “pro-business” candidate in a special U.S. House race whose opponent is backed by Tea Party groups and is vowing to “be like Ted Cruz.”

The endorsement in the Alabama contest is the chamber’s first political move since the 16-day partial U.S. government shutdown and debt-ceiling battle, which exposed a rift between the Republican establishment wing and the smaller-government movement. Cruz, a Republican senator from Texas, was the chief proponent of the ill-fated plan to link defunding Obamacare to lifting the debt ceiling and passing a government spending bill.

In reaction to the shutdown, which Standard & Poor’s estimated cost the U.S. economy $24 billion, the chamber and other business groups said they will engage in elections — including Republican primaries — to help candidates aligned with their economic goals.

It would be nice to see that in Canada, too.

It was a strong day for the Canadian preferred share market, with PerpetualDiscounts up 34bp, FixedResets gaining 10bp and DeemedRetractibles winning 59bp. The Floating Rate sector got whacked, perhaps in response to the FOMC release and those issues figured prominently on the wrong side of the Performance Highlights table. BAM issues were notable on the winning side. Volume was very high.

Nothing happened today.

It was a good strong day for the Canadian preferred share market, with PerpetualDiscounts up 17bp, FixedResets gaining 10bp and DeemedRetractibles winning 39bp. The Performance Highlights table is dominated by winning insurance-sector DeemedRetractibles. Volume was very high.

Singapore is is seeking to encourage HFT:

Singapore Exchange Ltd. (SGX), Southeast Asia’s biggest bourse operator, wants to lure more high-speed traders onto its stock market as it grapples with lower volume.

Computerized trading firms, which execute transactions in fractions of a second, account for a negligible share of volume on Singapore Exchange’s cash equities market, according to bourse spokeswoman Loh Wei Ling, while they contribute 30 percent of revenue from derivatives. Singapore Exchange will seek to change that once it introduces safeguards, Chief Executive Officer Magnus Bocker said at a briefing this month.

“We will pursue high-frequency trading once we have circuit breakers and other policies in place,” he said. “That will enhance the liquidity and quality of the Singapore market.”

It’s nice to know that they’re not beholden to the Old Boys Club.

I understand that the SplitShare new issue, Prime US Banking Sector Split Corp. discussed on October 2, has been withdrawn. However, there is no confirmation of this as yet on the Quadravest website, the fund’s website or SEDAR. It’s a shame – new issues of this nature that get so far can cost the sponsor a great deal of money.

A gushing article about Raymond James brokerage makes a good point about the effects of bank regulation in Canada:

For instance, Raymond is looking to expand its corporate lending arm after acquiring the Canadian assets of Allied Irish Banks in 2011, and lending spreads are much more attractive here because there is less competition for loans. South of the border, everyone from banks to shadow banks to hedge funds are willing to lend money, and that hurts loan margins and covenant quality.

The Bank of Canada is very frightened of shadow banking, as are other regulators who want to work for banks eventually.

Seth Carpenter, Jane Ihrig, Elizabeth Klee, Daniel Quinn, and Alexander Boote of the Federal Reserve have written a paper titled The Federal Reserve’s Balance Sheet and Earnings: A primer and projections:

Over the past few years, the Federal Reserve’s use of unconventional monetary policy tools has received a vast amount of public attention, from discussing how these asset purchases have put downward pressure on longer-term interest rates and thus supported economic activity to evaluating the implications for Federal Reserve remittances to the Treasury and the effect on monetary and fiscal policy. As the economic recovery has gained some momentum of late, the focus has turned to issues associated with the normalization of monetary policy. In this paper, we consider a variety of scenarios consistent with statements by Federal Reserve officials about how the FOMC will normalize policy, including whether to sell mortgage-backed securities and the timing of lifting the federal funds rate off from the zero lower bound. In addition, we analyze the potential costs associated with using reserve-draining tools, which could become an important expense during the years of normalization. In each of these scenarios, we discuss the implications of these normalization policies on the size and composition of Federal Reserve asset holdings, which provides some indicate the length of time unconventional monetary policy will be in place, and on remittances of earnings to the Treasury, which capture the interest rate risk of these normalization policies.

What I find of interest is that Treasury remittances are affected only by realized capital losses on the sales – unrealized capital losses are a mere bagatelle, as higlighted by Joshua Zumbrun of Bloomberg. Mark-to-market is for suckers, losers and the private sector regulated by the Fed.

James Hamilton of Econbrowser comments:

The hot debate among Fed watchers– when will the Fed announce a “tapering” of its large-scale purchases– concerns a change in the stock of Treasuries and mortgage-backed securities that the Fed ends up holding that comes to only a fraction of that $600 B reference point. For example, I noted earlier that if the Fed had (as some market observers once anticipated) announced at its September FOMC meeting that it would begin to reduce its net purchases of Treasury securities by $2.5 B per month beginning in October, the result as of the end of 2014 would be that the Fed would be holding about $100 B less in Treasury securities by the end of 2014 than if it waits to begin tapering until January. Using the above table as a guide, that suggests a difference of perhaps 2.5-5 basis points (that is, less than 0.05 percentage points difference in the annual yield) on a 10-year Treasury. Even if you double or triple that by adding in the consequences of MBS purchases, it’s hard to see this as the #1 news event with which financial markets should be gripped.

Matthew Klein of Bloomberg has some interesting commentary on cat bonds:

While we shouldn’t cry for the reinsurers just yet, some pension funds may end up buying these high-yielding assets before they fully understand how to model their risks, just as some loaded up on subprime mortgage securities during the mid-2000s. (On the bright side, investors won’t have to worry about fraud when calculating the probability of another Hurricane Sandy.)

Initially, this would depress the cost of disaster insurance, which might lead to overbuilding in risky areas and laxer enforcement of building safety codes. It could also push the insurers and reinsurers to underwrite new risks they are less familiar with in an effort to prop up margins, a danger that was highlighted by the UK’s Prudential Regulation Authority last month. The Bank for International Settlements, based in Basel, Switzerland, has also been looking into the impact of the reinsurance business on financial stability.

In the event of disaster, outside investors who didn’t appreciate what they had been buying might get so spooked by losses that they would cut their allocation to the entire sector. Small shifts from the perspective of pensions could have big effects on insurers’ ability to protect against future catastrophes. The result would be much greater volatility in the cost of insurance, to say nothing of the impact on pension beneficiaries. Plan sponsors and regulators should be careful.

It was a positive day for the Canadian preferred share market, with PerpetualDiscounts gaining 2bp, FixedResets winning 16bp and DeemedRetractibles up 10bp. A surprisingly lengthy Performance Highlights table is dominated by winners. Volume was above average.

The BoC has released a paper by Bo Young Chang and Bruno Feunou titled Measuring Uncertainty in Monetary Policy Using Implied Volatility and Realized Volatility:

We measure uncertainty surrounding the central bank’s future policy rates using implied volatility computed from interest rate option prices and realized volatility computed from intraday prices of interest rate futures. Both volatility measures show that uncertainty decreased following the most important policy actions taken by the Bank of Canada as a response to the financial crisis of 2007–08, such as the conditional commitment of 2009–10, the unscheduled cut in the target rate coordinated with other major central banks, and the introduction of term purchase and resale agreements. We also find that, on average, uncertainty decreases following the Bank of Canada’s policy rate announcements. Furthermore, our measures of policy rate uncertainty improve the estimation of policy rate expectations from overnight index swap (OIS) rates by predicting the risk premium in the OIS market.

It was a mixed day for the Canadian preferred share market, with PerpetualDiscounts off 1bp, FixedResets down 5bp and DeemedRetractibles gaining 9bp. Volatility was high, but without obvious patterns. Volume was high.