PrefBlog

Boyd Erman’s piece in the Globe today, Risk factors weaken attraction of Ontario’s bonds (in the print edition, the headline was “Budget-challenged Ontario pays the price with its bonds) does a disservice to those investors who wish to understand the bond market:

Ontario is being treated more and more like the increasingly risky borrower that it is.

As the Ontario government focuses on finding ways in Tuesday’s budget to eliminate the persistent annual deficit, the bond market is exacting a steadily bigger toll for financing the government’s growing debt.
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But stand back and look at a chart of the spreads over five years and there’s no doubt the general move is to wider spreads. Ontario is simply paying more, relative to Ottawa, than in the past.
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When the bull market in government bonds ends and yields start to rise, as some observers believe is already happening, what will happen to Ontario then?

He attaches the requisite Cool Chart:

Click for Big

Without saying so in so many words, Mr. Erman appears to be ascribing the entire widening of the spread to credit risk – and the world is a lot more complicated than that. There is a liquidity premium – the Canada bond market is a lot bigger than the Ontario bond market, as are issue sizes and idiosyncratic measures of tradeability and hedgeability with futures. There is also a segmentation issue: many international investors will buy only sovereigns and not even consider subnationals. I am not sure, but there may be pledging issues with the Bank of Canada – if I had more time I would check, but I’m not sure if there are any eligibility or haircut differences between Canadas and Ontarios.

And … if we just glance at the chart, we can see that the shape seems to be reasonably well correlated with corporate spreads – which widened during the crisis not so much out of credit fears, but out of liquidity issues.

How much is liquidity and how much is credit? I don’t know. You could spend your lifetime studying provincial spreads and still have to guess! But to ascribe the entire widening to credit risk is a bold and audacious analysis that is treated in the column as a matter of basic fact.

Be that as it may, Ontarios are basically steady today:

Ontario bond yields didn’t make any drastic moves the morning after Canada’s largest province released its annual budget, but there was enough activity to suggest investors were a bit surprised by the provincial government’s steps to rein in spending.

Although yields for Ontario’s 5-year and 10-year bonds haven’t moved much, there was enough of a dip in early morning trading to make observers speculate that some investors are covering their short positions. These bets were initially made because investors assumed the budget wouldn’t be bold enough to tackle the province’s massive debt load.

Back in the old days at Greydanus Boeckh, I was notorious for refusing to allow staff to install any software beyond the bare-bones system we needed – we continued to use DOS, for instance, until Windows NT came out, skipping the whole Windows Crash-dot-Incompatible mess. Staff would tell me how wonderful and cheap the software was, and I would carefully explain to them that taking the software out of the shrink-wrap was when your costs started. I believe opinion was divided as to whetherr I was just saying no to demonstrate my awesome power and be mean to them, or whether I was just an idiotic technophobe.

However, we have now reached a new level of cost calculation. I bought a new laptop on the weekend for $565 (it’s incredible how cheap these things are!) and have now spent about two hours alone and about two hours on the ‘phone with tech support just trying to get the internet connection to work. So never mind the labour cost of new software – the labour cost of tranferring programmes and data to a new machine now outweighs the cost of the machine itself!

To make things worse, the new machine would not work with the old modem, and in attempting to jam the square machine into the round modem, my ISP eliminated internet access for the old machine, which is why this report is so late Ain’t life grand! But things seem to be back to normal now – and I have a shiny new modem!

It was a mixed day for the Canadian preferred share market, with PerpetualPremiums gaining 5bp, FixedResets down 11bp and DeemedRetractibles losing 17bp. Volatility was quite good. Volume was below average.

PerpetualDiscounts (all seven of them!) now yield 5.33%, equivalent to 6.93% interest at the standard equivalency factor of 1.3x. Long corporates now yield about 4.55%, so the pre-tax interest-equivalent spread (in this context, the Seniority Spread) is now about 240bp, a sharp widening from the 205bp reported March 21.

US house prices continue to drop:

Home prices in 20 U.S. cities dropped at a slower pace in January, pointing to stabilization in the real estate market.

The S&P/Case-Shiller index (SPX) of property values in 20 cities fell 3.8 percent from a year earlier, matching the median forecast of 32 economists surveyed by Bloomberg News, after decreasing 4.1 percent in December, a report from the group showed today in New York. Prices were little changed in January from the prior month, the best performance since July.

But some straws in the wind suggest a bottom:

Bidding wars, absent from most parts of the U.S. residential market since its peak in 2006, are erupting from Seattle and Silicon Valley to Miami and Washington, D.C. The inventory of homes hovers close to a six-year low, while an increase in jobs and record affordability are tempting more buyers. The number of contracts to buy previously owned homes jumped 14 percent in February from a year earlier, the National Association of Realtors reported yesterday.

There wasn’t much of interest in today’s Ontario budget. As usual, the politicians are all excited about targetting a balanced budget, and couldn’t care less about repaying today’s borrowings – nor are they interested in making a realistic projection of a business cycle and providing estimates and targets for the budget balance through the cycle.

It was a positive day for the Canadian preferred share market,with PerpetualPremiums gaining 14bp, FixedResets up 3bp and DeemedRetractibles winning 15bp. Volatility was moderate. Volume was average.

Here’s a cheerful prediction from Italy:

Italy’s Prime Minister Mario Monti warned that Spain could reignite the European debt crisis as euro-area ministers this week prepare a deal to strengthen the region’s financial firewall.

Monti pointed to Spain’s struggle to control its finances ahead of a finance ministers meeting in Copenhagen starting on March 30, where officials will seek agreement to raise a 500 billion-euro ($664 billion) ceiling on bailout funding.

.“It doesn’t take much to recreate risks of contagion,” Monti said during the weekend at a conference in Cernobbio, Italy. Days after his Cabinet approved a bill to overhaul Italy’s labor laws, Monti praised Spain’s efforts to loosen work regulations while advising it to focus on cutting the national budget. Spain “hasn’t paid enough attention to its public accounts,” he said.

There are rumours that the acronym “HST” will soon stand for Hot Sex Tax.

It was a positive day overall for the Canadian preferred share market, with PerpetualPremiums down 6bp, FixedResets up 14bp and DeemedRetractibles winning 20bp. Sun Life and Manulife dominated the positive side of a relatively lengthy Performance Highlights table. Volume was almost average.

There may indeed have been some naughtiness at MF Global:

Jon S. Corzine, MF Global Holding Ltd. (MFGLQ)’s chief executive officer, gave “direct instructions” to transfer $200 million from a customer fund account to meet an overdraft in one of the brokerage’s JPMorgan Chase & Co. (JPM) accounts in London, according to an e-mail sent by a firm executive.

Edith O’Brien, a treasurer for the firm, said in an e-mail sent the afternoon of Oct. 28, three days before the company collapsed, that the transfer of the funds was “Per JC’s direct instructions,” according to a copy of a memo drafted by congressional investigators and obtained by Bloomberg News.

There’s some kind of wierd scam going on. Twice in two days, I’ve received a call from somebody (different somebodies!) who asked – right off the bat – whether “you guys accept American Express”. The first time I wanted to know who he was and why he wanted to know – since he claimed to be from California and was only curious, I told him not to call again. The second time I asked who “Leah” worked for; she didn’t work for anybody, she was just curious.

So – a scam. But I can’t figure out how it works!

It was a day of modest gains in the Canadian preferred share market, with PerpetualPremiums gaining 4bp, FixedResets winning 11bp and DeemedRetractibles up 5bp. Considering the overall averages, the Performance Highlights table is relatively lengthy. Volume was very low.

Moody’s has a good idea:

Governments, which have been criticizing credit-rating companies over sovereign-debt downgrades, should start a competing firm, according to Moody’s Corp. (MCO) Chief Executive Officer Ray McDaniel.

“Public institutions that have both the expertise and credibility among market participants should provide credit views on sovereigns,” McDaniel wrote today in a paper called “A Solution for the Credit Rating Agency Debate” that was posted on the New York-based company’s website.

European lawmakers have blamed Moody’s, Standard & Poor’s and Fitch Ratings for complicating efforts to resolve the region’s debt crisis by cutting countries’ ratings, leading the European Union to adopt tougher regulations. While some have considered prohibiting the companies from publishing their opinions, that won’t stop investors from speculating on creditworthiness, McDaniel said.

Looking to see how much credibility and influence a government-run CRA would have would be a hoot!

Spend-Every-Penny said something sensible today:

“I find it a bit odd that some of the bank executives are taking the position that the minister of finance or the government somehow should tell them how to run their business,” Flaherty said during an appearance in Stittsville, Ont., just west of Ottawa.

“We have bank executives in Canada going and saying ‘really, the rules on insured mortgages should be tightened up.’ They must forget that they are actually the ones that issue the mortgages. It’s their market. It’s not my market. They decide what they want to charge in interest rates.

“They’re the ones that make the profits out of this business, so I do find it a bit much when some of the bank executives turn to the government … and say ‘you ought to change the rules and make it tighter.’ It’s very interesting commentary from them.”

Downtown members of Toronto Shitty Council were able to record a political victory today over Mayor Rob Ford. All they had to do was throw Scarborough under the bus streetcar LRT and destroy city finances! Bargain! In related news, daredevil Star reporter Kate Allen was able to drive 6.5 km along St. Clair in only twenty minutes! I’m surprised she didn’t get a ticket!

It was another down day for the Canadian preferred share market, with PerpetualPremiums losing 19bp, FixedResets off 1bp and DeemedRetractibles down 9bp. However, the Performance Highlights table is fairly short. Volume was on the low side of average.

Who will be the next domino? Willem Buiter thinks Spain:

Spain has never been so close to default and Greece, Ireland and Portugal may need further bailouts, Citigroup Inc. chief economist Willem Buiter said.

“Spain is the key country about which I’m most worried,” Buiter, a former Bank of England policy maker, said in a radio interview today on “Bloomberg Surveillance” with Tom Keene and Ken Prewitt. “It’s really moved to the wrong side of the spectrum and is now at greater risk of sovereign restructuring than ever before.”
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Spanish bonds fell, pushing 10-year yields to the highest level in more than a month at 5.388 percent at 5 p.m. Madrid time, widening the spread over similar German maturities to 3.4 percentage points, 20 basis points more than yesterday.

Bottom-fishers are in the US housing market:

Waypoint, a private-equity real-estate fund with $150 million in assets, is pioneering a new approach to making money from the housing crash. Since 2007, investors have been trolling the cratered suburbs stretching from California to Florida (SPCSMIA) for cheap houses to flip. And firms such as PennyMac Mortgage Investment Trust have sought value in subprime-mortgage-backed securities.

Waypoint, which owns 1,100 houses and is buying five more a day, is betting that converting foreclosures into rentals is a better way to make a profit. Other firms, such as Landsmith LP in San Francisco, are now cropping up and pursuing the same strategy in Arizona, California and Nevada.

With many suburban homes selling for half their peak values and demand for rentals from prospective tenants climbing, Waypoint was earning an 8 to 9 percent return on its capital as of Dec. 31, according to a quarterly report it sends to clients. That beats the 6.3 percent gain in the BI NA Multifamily REIT (BRFREITC) Index, which tracks the performance of 27 apartment building operators.

The cost of renting in the U.S. reached an all-time high compared with that of buying a home at the end of last year, indicating it’s a good time for investors to purchase, Deutsche Bank AG (DBK) analysts said in a note today.

There’s a grim outlook for airlines:

Emirates, the biggest airline by international traffic, said more carriers will go bust this year as fuel costs and sluggish economies undermine profitability.
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Airline profits will plunge 62 percent in 2012 to $3 billion, equal to a 0.5 percent margin on sales, as oil prices rise, the International Air Transport Association said this week. Emirates’s fuel bill accounts for 45 percent of costs and may jump by an “incredibly challenging” $1.7 billion in the year ending March 31, according to Clark, who says he’s sticking with a no-hedging strategy rather than risking a losing bet.
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AMR Corp. (AMR1)’s American Airlines is restructuring after filing for Chapter 11 bankruptcy and India’s Kingfisher Airlines Ltd. (KAIR) may lose its license as it struggles with cash shortages and losses. That’s after Barcelona-based Spanair SA collapsed Jan. 27, followed that week by Hungarian national carrier Malev Zrt. (MALEV)

Air Canada will do all right, since competing with them is illegal, as is negotiating labour contracts.

Toronto Shitty Council debated Sheppard Avenue transit today. My favourite question was:

Cllr Minnan-Wong asks Andy Byford why TTC did not have ready figures on operating costs of LRTs v subways. He says wk now done. #TOcouncil

Glad the work’s been done now! Now I want to know: is there anybody, anybody at all in TTC management who deserves to keep their job?

The Canadian preferred share market got smacked again today, with PerpetualPremiums down 20bp, FixedResets off 11bp and DeemedRetractibles losing 27bp. The Performance Highlights table is suitably long. Volume was average.

PerpetualDiscounts (all seven of them!) now yield 5.19%, equivalent to 6.75% 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 205bp, unchanged from that reported on March 14.