PrefBlog

Looks like some people think the LSE’s not a bad partner:

The biggest rally in three months for Nasdaq OMX Group Inc. (NDAQ) may be the clearest sign yet that investors expect the New York-based exchange operator to buy London Stock Exchange Group Plc. (LSE)

Nasdaq OMX gained 4.7 percent to $25.14 yesterday, climbing the most since April 1, after LSE dropped its offer for TMX Group Inc. (X), saying too few shareholders supported the C$3.32 billion ($3.4 billion) merger. The gain in Nasdaq OMX was the largest since the day it announced a plan to buy NYSE Euronext with IntercontinentalExchange Inc. (ICE), and signals speculation the company will expand with LSE, according to Capstone Holdings Group LLC and Aite Group LLC.

Julie Dickson gave a speech to to the Canadian Institute of Actuaries Annual Meeting 2011; there were two snippets of interest:

Regulators are increasingly considering the adequacy of group capital. This brings into question the risks entailed by non-regulated entities, concentration risk, fungibility of capital, liquidity risk, the impact of intra-group support measures, diversification of risk, etc. The list is lengthy. Again, the actuarial profession has the tools and expertise to consider these issues and to help provide solutions.

.. which may reflect a desire to regulate insurance companies at the holding company level. Or it may not.

The other snippet is:

One of the most troubling issues we face as a regulator is the manner of response from industry, as well as your profession, to regulatory requirements. Frequently, the response to our requirements appears to be driven only by the need to comply, rather than by using the exercise as a means of identifying and reporting on important aspects of the way in which organizations manage risks.

This response is troubling because it implies a mechanical response, which may be conducted as cost effectively as possible, but that is not connected to any real business or risk management practices employed by the organization.

Consider Enterprise Risk Management as an example. The need for sound ERM practices has never been more pressing and yet we find that our requests for demonstrations of sound risk management via Dynamic Capital Adequacy testing (DCAT), stress testing, governance practices, etc. are frequently completed as if they were just regulatory compliance exercises rather than important demonstrations of real life ERM.

In our view, this type of response is not in anyone’s best interests.

“We’re from the government and we’re here to help you!”

Preet Bannerjee writes an interesting piece in the Globe titled How is your fund manager performing?. He references a newletter from Research Affiliates:

The selection of active managers, whose philosophy and process are geared to produce market-beating results, is an exhaustive and time-consuming activity. Certainly, some can take a shortcut, relying on historical track records (such as the typical trailing five years of returns) to gauge skill but, as mutual fund advertisements proclaim, “past performance is no guarantee of future results.” Indeed, the goal of manager research is to determine if the manager and its strategy will be successful in the dark and unknowable future. And that requires separating the wheat from the chaff or, in this case, manager skill from pure luck. Unfortunately, this is easier said than done. Statistically speaking, it requires a track record of approximately 35 years to determine whether the average active manager has demonstrated skill.[footnote]

Footnote: Using a very optimistic 2% excess return at the typical 6% tracking error level, for an information ratio of 0.33. An information ratio of 0.50 would take 16 years to confirm statistical significance, while a 0.25 ratio would take 62 years!

Another paper referenced was by Fama & French, Luck Versus Skill in the Cross Section of Mutual Fund Returns:

The aggregate portfolio of U.S. equity mutual funds is close to the market portfolio, but the high costs of active management show up intact as lower returns to investors. Bootstrap simulations suggest that few funds produce benchmark adjusted expected returns sufficient to cover their costs. If we add back the costs in expense ratios, there is evidence of inferior and superior performance (non-zero true alpha) in the extreme tails of the cross section of mutual fund alpha estimates.

What happened to Yellow this week?

The Canadian preferred share market closed the half on a strong note, with PerpetualDiscounts winning 19bp, FixedResets up 16bp and DeemedRetractibles gaining 14bp. Volatility was reasonable, with BAM.PR.O continuing its slide (with a wide spread), but ELF.PR.F and ELF.PR.G reversing theirs. Volume was average-ish.

PerpetualDiscounts now yield 5.48%, equivalent to 7.12% interest at the standard equivalency factor of 1.3x. Long Corporates now yield about 5.4% (well … a little under) so the pre-tax interest-equivalent spread (also called the Seniority Spread) is now about 170bp, a significant narrowing from the 185bp reported June 29.

Yellow Media has announced:

that the Federal Minister of Industry, under the Investment Canada Act, has approved the sale of Trader Corporation to funds advised by Apax Partners. Completion of the sale remains subject to satisfaction of other customary conditions. Yellow Media Inc. currently expects the transaction to close by the end of July 2011.

This release – or perhaps some encouragement from the company – provoked DBRS to comment:

DBRS notes that the Trader sale is expected to accelerate the Company’s de-leveraging efforts. The decision to sell Trader remains a critical component in achieving improved leverage – to around 2.0 times debt-to-EBITDA from 2.74 times currently. As stated in our March 25, 2011, press release, DBRS believes that a stronger financial profile remains prudent given the uncertainty that the Company’s business risk profile faces with its multi-year transition from print to digital.

Despite Yellow Media’s leading position in the directories business, its principal segment following the sale of Trader, DBRS notes that this division continues to face significant risks as it transforms from a print-placement and listing organization into an online/digital media and marketing service provider.

While DBRS notes that the Company has achieved reasonable results through the early stages of this transition (as of Q1 2011, more than 25% of Directories revenue is digital) including relatively steady normalized EBITDA and cash flow from operations, DBRS is increasingly concerned (and will continue to monitor) the potential for weakening in Yellow Media’s future business risk profile as the digital transition continues. As such, as the digital component becomes an ever-larger portion of the Directories segment’s business profile, more meaningful evidence that additional challenges are being dealt with successfully will be required in order to maintain the present ratings.

For some reason known only to the elect, Yellow preferreds had an excellent day, returning from +6.76% (YLO.PR.A) to +9.96% (YLO.PR.C).

They also downgraded Anglo-Irish due to the government’s ursurpation of the proper role of bankruptcy court:

DBRS Inc. (DBRS) has today downgraded the non-guaranteed senior debt and deposit ratings of Anglo Irish Bank Corporation Limited (Anglo Irish or the Bank), including its Issuer Rating, to CCC from B (low). All non-government guaranteed ratings remain Under Review with Negative Implications, where they were placed on 10 September 2010. Today’s rating action does not impact the various Government guaranteed debt and deposits rating of Anglo Irish which remain at ‘A’ with a Negative trend.

As noted in DBRS’s press release on 4 April 2011, DBRS viewed non-guaranteed senior bondholders of Anglo Irish at an increased risk of adverse actions given the state of the Irish banking system and the wind-down mode of Anglo Irish. Today’s rating action reflects the recent statements by the Minister for Finance which, in DBRS’s opinion, firmly underline the Government’s intent to pursue burden sharing by senior bondholders of what the Irish Government defines as ‘non-going concern’ banks, such as Anglo Irish. As such, DBRS sees the probability of adverse actions towards senior bondholders as significantly increased.

DBRS notes that the Irish Government has stated that it will only pursue such actions should it receive approval from the European Central Bank (ECB). However, at this time the ECB and other E.U. members have been firm in their position that no such actions be taken towards senior bondholders of banks.

The Greek austerity plan passed:

Greek Prime Minister George Papandreou clinched enough votes to pass the first part of an austerity plan aimed at meeting European Union aid requirements and staving off default for his debt-laden nation.

Papandreou won by 155 votes to 138, a wider margin than last week’s confidence ballot, as some opposition lawmakers abstained rather than oppose a package that is the condition for further rescue funds.
…
The yield on Greece’s two-year government bond dropped to 26.94 percent today from 28.54 percent yesterday. The euro traded at $1.4359 at 5:15 p.m. in Athens, compared with $1.4421 when the vote started.

Clouds of gas engulfed the square outside parliament as lawmakers voted on a package whose defeat could have led to the euro area’s first sovereign default. Greece needs to cover 6.6 billion euros of maturing bonds in August and government officials have said they may lack the money to pay wages and pensions by mid-July.

German banks are cooperating with the Greek plans:

German and French lenders are the biggest foreign holders of Greek debt and their participation is key to the European Union goal of getting banks to roll over at least 30 billion euros ($43 billion) of bonds. German firms and the finance ministry are discussing the idea of rolling over bonds maturing until 2020, and not just those running through 2014, as had been first envisaged, said the people, who declined to be identified because the talks are confidential.
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“If Greece goes into default, then we would have a disruption in Europe that could more quickly impact other countries in a way that goes far beyond what Lehman Brothers meant for us,” said [Deutsche Bank CEO Josef] Ackermann, 63.
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Ackermann, who is also chairman of the Institute of International Finance, which represents more than 400 financial companies, said they are “working around the clock” with special teams, rating companies and bodies overseeing credit- default swaps to test whether any agreement would trigger a credit event. He warned that any agreement is “highly complex” and could force investors to write down their Greek holdings by an estimated 30 percent to 45 percent if done incorrectly.

It’s a black day for Canadian capital market participants:

The proposed merger of TMX Group Inc. (X-T44.611.052.41%) with London Stock Exchange Group PLC is dead.

TMX said a majority of the votes cast by proxy before Wednesday’s deadline in fact supported the deal, but it was clear the two exchange operators wouldn’t get the two-thirds required in a vote scheduled for Thursday.

TMX Group chief executive officer Tom Kloet said the company will now focus on other alternatives, including a rival bid from Maple Group Acquisition Corp., a collection of Canadian financial institutions and pension funds. The bid by Maple, worth about $50 a share, had been conditional on the defeat of the TMX-LSE merger.

The oligarchs are again triumphant; I had been hoping for a little bit of competition in Canada. However, I can still cling to the hope that the Competition Bureau will take the obvious step of killing the Maple bid, leaving the TMX to have to scramble for a partner.

We learnt during the Panic of 2007 just how important US-domiciled Money Market Funds were to European bank financing. So this is interesting:

Institutions pulled out of U.S. prime money-market funds at the fastest pace in 15 months, shifting to funds that invest only in U.S. government-backed securities out of concern the European debt crisis would worsen.

Institutional funds eligible to buy corporate debt lost $39 billion to net withdrawals in the week ended June 28 and $75 billion in the past two weeks, falling to $1.04 trillion, according to data from research firm iMoneyNet in Westborough, Massachusetts. Institutional money funds that buy only U.S. government-backed securities gathered $27 billion in net deposits, rising to $599 billion.

Dan Hallett has a nice piece in the Globe titled Distribution rate does not equal yield.

Canadian inflation popped up:

Canadian inflation gave economists an unpleasant surprise Wednesday when data from May showed it shot up to its highest level in more than eight years, putting all eyes on the Bank of Canada ahead of its July interest-rate decision.

Annual inflation hit a higher-than-expected 3.7% for the month, and while gasoline was the main culprit, core inflation also jumped, from 1.6% in April to 1.8% in May. The core figure, which factors out volatile items like food and gas, came in well above the Bank of Canada’s 1.4% target for the second quarter.

There’s some criticism of Mayor Ford over his refusal to walk over and say hello at the Pride ceremonies … at the same time, Mayor Bloomberg is rubbing his hands with glee at the business that’s going to come with New York’s gay marriage law. Mayor Bloomberg seems to understand that cities are all about doing business – and is gunning for New York to grab market share away from Toronto.

It was a downish day in the Canadian preferred share market, with PerpetualDiscounts losing 19bp, FixedResets up 1bp and DeemedRetractibles down 5bp. Volatility picked up, all to the downside. Volume was fair-to-good.

PerpetualDiscounts now yield 5.52%, equivalent to 7.18% interest at the standard equivalency factor of 1.3x. Long Corporates now yield about 5.35%, having had a rough couple of days, and so the pre-tax interest-equivalent spread (also called the Seniority Spread) is now about 185bp, a narrowing from the 195bp reported June 22 due to the move in long-term corporate yields.

Singapore is trying to use bank capitalization as a competitive tool:

Singapore said it will set capital levels for local lenders above the global minimum to solidify the city’s reputation as a financial hub after regulators tightened norms for the world’s largest banks.

Lenders incorporated in Singapore will need to meet a minimum common equity Tier 1 capital adequacy ratio of 6.5 percent from Jan. 1, 2015, the Monetary Authority of Singapore said in a statement yesterday. That’s 2 percentage points more than the so-called Basel III rules announced last year.
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The more stringent standard “underlines Singapore’s status as a very solid and prudently managed financial center,” Gupta said. “Nevertheless, we hope the global regulators will continue to monitor transition arrangements across countries to ensure a level playing field and avoid regulatory arbitrage.”
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Singapore plans to raise the Tier 1 capital adequacy ratio to 8 percent from 6 percent and introduce a capital conservation buffer of 2.5 percentage points.

“Each of the Singapore-incorporated banks is systemically important in Singapore and has a substantial retail presence,” the city-state’s central bank said in the statement. “The higher capital requirements will further strengthen their ability to operate under stress conditions.”

One wonders whether OSFI will deem the Canadian-incorporated banks to be systemically important in Canada.

Morgan Stanley has, apparently, lost some change on a TIPS / nominals box trade:

The bank’s interest-rates trading group lost at least tens of millions of dollars on the trade, which the firm has been unwinding, two of the people said, declining to be identified because the transaction isn’t public. Mary Claire Delaney, a Morgan Stanley spokeswoman, declined to comment.

Traders at the bank bet that inflation expectations for the next five years would rise in Treasury markets, while forecasts for the next 30 years would fall, according to two of the people. Such wagers on so-called breakeven rates involve paired purchases and short sales of Treasuries and Treasury Inflation Protected Securities, or TIPS, in both maturities.
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Declining crude oil prices disproportionately hurt the value of TIPS maturing within five years because they have fewer remaining interest payments that can benefit from a rebound in prices. The five-year breakeven rate dropped to 1.88 percent yesterday from 2.04 percent at the end of May, indicating underperformance by five-year TIPS relative to nominals.

The 30-year breakeven rate climbed to 2.57 percent yesterday from 2.42 percent at the end of May, indicating outperformance by the 30-year TIPS relative to nominals.

Another unpleasant day for the Yellow preferreds, with the worst, YLO.PR.D, down 8.56% and the best, YLO.PR.A, down a mere 1.66%.

It was a mixed day for the Canadian preferred share market, with PerpetualDiscounts gaining 23bp, FixedResets down 10bp and DeemedRetractibles losing 13bp. Volatility picked up – but it was all on the downside. Volume was average.

A deal on Greece may have been reached:

Greek creditors may be headed toward an agreement to roll over 70 percent of their bonds into longer maturity debt to prevent a default and meet politicians’ calls that they contribute to Greece’s second rescue in as many years.
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Under the French plan, 50 percent of the Greek debt held would be rolled over into 30-year bonds. The remaining 20 percent would go into a special purpose vehicle used to guarantee the 30-year debt, a person familiar with the plan said yesterday.

Thirty years will allow banks to slowly take reserves against their inevitable losses, while the current crop of politicians will have all retired by the time the bill comes due. Win-win!

A bit of good news on the TMX-LSE front:

TMX Group (X-T44.46-0.74-1.64%) and London Stock Exchange Group PLC got a big endorsement for their merger plan as a group of senior Canadian financial executives gave their support, saying the rival Maple Group plan to buy TMX would leave the capital markets too concentrated.

The 11-member group includes representatives of some large TMX shareholders, including Bill Holland, chairman of mutual fund company CI Financial Corp., as well as the heads of independent brokerages including Raymond James’ Canadian operations and Haywood Securities.

How ’bout that Yellow Media, eh?:

Yellow Media Inc. (YLO-T2.30-0.69-23.08%) was again being lambasted in trading, falling nearly 19 per cent in late morning trading on Monday. The stock has been suffering a lot recently, and this recent downturn seems connected to a change of opinion by Credit Suisse. Analysts there cut their recommendation to “underperform” from “neutral”, with a $2 price target, down from $5 previously.

18.2-million shares as of 2pm! Wow! Further details came available later:

“Our analysis suggests that print declines are accelerating while print conversion to digital remains gradual,” [Credit Suisse Canada analyst] Mr. [Colin] Moore wrote in the Monday note, titled “Raising a Yellow Flag”.
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“We believe investors want to see a ‘de-risking’ of the story with respect to debt repayment and levels of [free cash flow] available after dividends,” analyst Drew McReynolds of RBC Dominion Securities said in a June 26 note to clients.

“We would not disagree, and we believe a more conservative capital structure and payout policy that provides greater financial flexibility and more certainty during the business transformation would go a long way toward achieving this end and ‘reflating’ both equity and debt values.”

The YLO prefs got hammmered again; losing between 8.21% at best (YLO.PR.B) and 14.21% at worst (YLO.PR.C).

It was a mixed day on the Canadian preferred share market, with PerpetualDiscounts gaining 14bp, FixedResets down 1bp and DeemedRetractibles up 2bp. Not much volatility (surprisingly, confined to bad days for BAM and related issues) and volume was average.