PrefBlog

It was an extremely slow and boring day on the Canadian preferred share market to end the year, with PerpetualDiscounts up about half a beep and FixedResets losing 6bp.

PerpetualDiscounts now yield 5.48%, equivalent to 7.67% interest at the standard equivalency factor of 1.4x. Long Corporates now yield about 5.4%, so the pre-tax interest-equivalent spread is now about 225bp, a slight (and perhaps spurious) widening from the 220bp reported December 29

Malachite Aggressive Preferred Fund has had another good year – I’ll put a little cinnamon in my coffee tonight, to celebrate – but I’ll have the final report out on that in the near future.

It has been a great year for corporate debt issuance:

Rabobank Nederland, the world’s largest agricultural lender, and Fairfield, Connecticut-based General Electric Co.’s finance unit led $3.19 trillion of offerings, according to data compiled by Bloomberg. Ally Financial Inc., Ford Motor Credit Co. and 509 other speculative-grade companies sold $287 billion of debt in the U.S., smashing the previous record of $162.7 billion in 2009.

Signs the global economic recovery is gaining strength encouraged investors to lend money to borrowers at lower interest rates, allowing Johnson & Johnson and Wal-Mart Stores Inc. to sell bonds at what were then record-low coupons. In the U.S., bond funds took in $234.8 billion this year through October, while investors withdrew money from stock funds, according to the Investment Company Institute in Washington.
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Sales still declined 18 percent from last year’s $3.88 trillion as governments withdrew bond guarantees for financial companies trying to weather the credit crisis. Concern that Europe’s sovereign debt crisis would worsen slowed sales in the region.

BIS has released a working paper by Marc Flandreau, Norbert Gaillard and Frank Packer titled To err is human: rating agencies and the interwar foreign government debt crisis:

During the 1930s, rating agencies took up a central role in regulatory supervision that they still have today. The proximate cause for this changeover was the economic shock of the Great Depression. Exploring the performance of rating agencies in assessing the risks of sovereign debt, an important segment of the bond market, we do not find that superior forecasting capacities can explain the agencies’ growing importance.
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This paper makes a contribution to this emerging literature on the history of ratings by focusing on the assessment of foreign government debt by US rating agencies during the interwar period. There are two reasons for this focus. … Second, looking at the government debt crisis may add a useful perspective on what remains one of the most (perhaps the most) violent foreign debt disaster in financial history. Between 1931 and 1939, more than half of sovereign borrowers who had issued in New York during 1920–29 defaulted. The episode, an integral part of the catastrophic interwar financial system dislocation, has not yet been studied from this vantage point, although many other aspects of the crisis have been discussed in detail.
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We document a large degree of procyclicality of ratings over the period. Perhaps more surprisingly, rating agencies do not appear to have performed particularly well relative to financial markets in forecasting the approaching mess: when we compare the predictive power of agency ratings with that of synthetic ratings based on market yields, we find little that suggests strongly superior performance. Our results leave open the reasons for the emergence of ratings as regulators’ preferred instrument, for superior performance does not appear to have motivated the initial regulatory use of ratings.

Gee, it’s a good thing we’re so much smarter now than they were in the thirties, eh? Imagine, sovereign defaults, depression, the rise of authoritarianism … thank God that could never happen again.

Spain has cut its financing requirements:

Spain’s Treasury said it had managed to cut borrowing from markets in 2010 and would do so again in 2011 because of austerity measures adopted by the government.

For the year ahead, the Treasury estimated net financing needs of &eur;47.2-billion ($62.4-billion) — a decline of 24%from 2010.

But the figure was slightly higher than previously announced because of the country’s &eur;3.588-billion contribution to a European financial rescue for Greece.

Net bond issues in 2010 amounted to €62.1-billion, compared to the &eur;76.8-million forecast at the start of the year, the Treasury said. It was a sharp decline from the &eur;116.7-billion in net bond issues for 2009.

Financing needs declined in 2010 “because of the fiscal austerity measures put in place by the government mid-year to strengthen the stabilization of public accounts.”

PrefBlog doesn’t have a very long list of favourite politicians, but Pennsylvania Governor Ed Rendell comes close:

His latest pronouncement came on Sunday after the National Football League’s rare postponement of a game due to a forecast of snow. In Rendell’s world, real men live to make a touchdown in the snow.

“This is football. Football’s played in bad weather,” Rendell said before the storm struck his city on Sunday but after the NFL had postponed the Sunday-night game.
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“We’ve become a nation of wusses,” Rendell declared. “The Chinese are kicking our butt in everything. If this was in China do you think the Chinese would have called off the game? People would have been marching down to the stadium, they would have walked and they would have been doing calculus on the way down.”

It’s a good column. Later on, the author states:

Pre-wussification, we were an economic powerhouse, and our children were the best-educated in the world, until we decided to sheathe our little princes and princesses in bubble wrap. We give them graduation ceremonies for getting through nursery school, a trophy just for showing up at soccer. We’ve removed play from the playground to keep them from scraping a knee. We intervene like lawyers in every dispute.

For sure. Look at the recent case of Greg Walsh. He was coaching a team of 16-year-olds when:

At the game in question, [black player Andrew] McCullum and a player on the opposing Austin Trophies team were sent to the penalty box after a confrontation. There, two game officials witnessed the player call McCullum “the N-word.”

The other boy’s coach benched him for the rest of the second period, but when he rejoined the ice at the beginning of the third period without anyone coming over to apologize or offer an explanation, Walsh was outraged.

The whole team agreed to forfeit the game they were winning in support of McCullum.

Walsh was suspended for a year by the OMHA, amidst controversy – the Star made this a cause celebre, canonizing the coach for ‘standing by his player’..

Think about it. These were two 16-17 year old boys, more balls than brains if my memories of adolescence can be trusted, they had been in a “confrontation” on the ice for which they had been penalized, they were jawing back and forth at each other in the penalty box … It certainly doesn’t sound like anything was either organized or premeditated. What message is the Star sending here? “If you’re involved in an activity and somebody calls you a nasty name, then what you should do is run home crying to mommy”, that’s what it sounds like to me.

Jackie Robinson wouldn’t have been able to even watch a major league game with that attitude.

It was another very slow day in the Canadian preferred share market, but the rally was hot enough, as PerpetualDiscounts gained 18bp and FixedResets were up 11bp.

There’s an interesting, albeit badly in need of editing, paper by Alessandro Fontana titled The persistent negative CDS-bond basis during the 2007/08 financial crisis:

I study the behavior of the CDS-bond basis – the difference between the CDS and the bond spread – for a sample of investment-graded US firms. I document that, since the onset of the 2007/08 financial crisis it has become persistently negative, and I investigate the role played by the cost of trading the basis and its underlying risks. To exploit the negative basis an arbitrageur must finance the purchase of the underlying bond and buy protection. The idea is that, during the crisis, because of the funding liquidity shortage and the increased risk in the financial sector, which exposes protection buyers to counter-party risk, the negative basis trade is risky. In fact, I find that basis dynamics is driven by economic variables that are proxies for funding liquidity (cost of capital and hair cuts), credit markets liquidity and risk in the inter-bank lending market such as the Libor-OIS spread, the VIX , bid-asks spreads and the OIS-T-Bill spread. Results support the evidence that during stress times asset prices depart form frictionless ideals due to funding liquidity risk faced by financial intermediaries and investors; hence, deviations from parity do not imply presence of arbitrage opportunities.

The Basel Committee continued its attempts to deflect public attention from its incompetence with the release of Pillar 3 disclosure requirements for remuneration. The financial crisis had a lot more to do with tranche retention and the lack of minimum turnover standards for securities designated Available For Sale than any compensation packages.

Econbrowser‘s James Hamilton discusses the 2010 changes in the yield curve in his post Changes in the Yield Curve:

One goal of the Fed’s second round of quantitative easing begun at the start of November was to flatten the yield curve. That obviously didn’t happen, and I discussed some of the reasons why a few weeks ago. A second goal was to increase inflationary expectations, which was achieved.

Even so, all we’ve done is moved back to about where we were a year ago. And a year ago, if you recall, things really weren’t that great.

But at least now we’re moving in the right direction.

The Globe & Mail ran a story on insurance fraud on Monday that I confess I don’t fully understand:

Again, the real money was made through a clinic, by submitting stacks of claims for false treatments under Ontario’s no-fault insurance system that averaged more than $250,000 per accident.
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For an initial fee of $500, any person – not necessarily a doctor – can register as the owner of a clinic, hire practitioners and bill insurers for claims. In order to file those claims, a doctor or registered practitioner’s name, signature, and other billing information is needed, but this is sometimes forged.

Using confidential documents obtained from U.S. investigators, which were then cross-referenced with information gathered from court and corporate searches in Canada, The Globe and Mail has learned that at least one person indicted in the biggest auto insurance crackdown ever seen in the United States has since opened a rehabilitation business in Ontario, operating under the noses of regulators and lawmakers.

I don’t get it. OK, I understand the bit about since the regulators basically allow cost-plus charging of premiums, there’s very little incentive to show any initiative in checking out possible fraud. But honestly, when a clinic you’ve never heard of sends you a bill for $250,000 … don’t you send some clerk to go check them out? Call the practitioners involved? Ask for some back-up? and flag the clinic for a higher rate of spot checks until they’ve been in business for a year? This seems to me to be such a basic part of good business practice that I am astounded it’s not standard, especially considering that cashing a $500 cheque requires a rectal probe.

The Globe published my letter regarding the Mordecai Richler tempest.

The Canadian preferred share market rally continued today on unsurprisingly very low volume, with PerpetualDiscounts gaining 15bp and FixedResets up 3bp.

PerpetualDiscounts now yield 5.43%, equivalent to 7.60% interest at the standard equivalency factor of 1.4x. Long Corporates now yield about 5.4%, so the pre-tax interest-equivalent spread is now about 220bp, with all figures basically unchanged from December 22.

There’s less room at the trough for wind and solar lobbyists:

Investors pulled 931 million euros ($1.2 billion) in the first 10 months, already eclipsing the full-year withdrawals in 2008 when the global financial crisis spooked investors, according to data compiled by Lipper Inc. Last year clean-energy funds captured 1.3 billion euros of new money, Lipper said.
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“The new-energy market and related stocks were significantly impacted by the credit crisis,” Robin Batchelor, manager of the $2.9 billion BlackRock New Energy Fund, said in an e-mail. Reduced demand for energy and “the fact that governments were perceived to have many new worries on their agenda combined to create a difficult environment,” he said. New York-based BlackRock is the world’s largest money manager.
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U.S. investment slumped this year amid investor doubt about government energy policy, while the sovereign debt crisis has limited prospects for economic growth in Europe. Governments in Germany, Spain and Italy cut subsidies for photovoltaic panels.

China continues to push offshore yuan trading:

Hong Kong banks will be allowed to tap the 20 billion yuan ($3 billion) fund from next month should the city’s yuan clearing bank run out of funds set under a quarterly quota.

The Hong Kong Monetary Authority made 10 billion yuan available in October using a swap agreement with China’s central bank after an 8 billion yuan quota proved insufficient. Chinese Premier Wen Jiabao is allowing the currency to become more readily available beyond China’s borders to reduce reliance on U.S. dollars in trade and finance.

“They’re hurtling toward this now,” said Gavin Parry, managing director of Hong Kong-based Parry International Trading Ltd. “They’re really using Hong Kong as the settlement and clearing hub for offshore deposit and transactions” in yuan, he said.

Hong Kong aims to grow as an offshore center for yuan trading and HKMA Chief Executive Norman Chan said yesterday deposits totaled 280 billion yuan at the end of November, up from 220 billion yuan a month earlier. The city received 130 billion yuan in net trade payments from China in the first 11 months, he told reporters in Hong Kong.

That’s a lot more useful than whimpering about global resolutions to develop a new currency!

Together with the above, dim sum bond issuance is booming:

HSBC Holdings Plc and Standard Chartered Plc, the biggest foreign underwriters of yuan bonds sold in Hong Kong, say sales will double in 2011 as demand outstrips supply and the yuan appreciates.

New issues may increase to a record 80 billion yuan ($12 billion) next year, with as much as 30 billion yuan of sales in the first quarter, according to HSBC, the No. 2 underwriter of so-called dim sum bonds. Standard Chartered, the fourth largest this year, says sales could top as much as 100 billion yuan as Moscow-based United Co. Rusal and BP Plc plan issues. Offerings in 2010 total 40.7 billion yuan, data compiled by Bloomberg show.

The Bank of Canada has released a working paper by Kimberly Beaton, René Lalonde and Stephen Snudden titled The Propagation of U.S. Shocks to Canada: Understanding the Role of Real-Financial Linkages:

This paper examines the transmission of U.S. real and financial shocks to Canada and, in particular, the role of financial frictions in affecting the transmission of these shocks. These questions are addressed within the Bank of Canada’s Global Economy Model (de Resende et al. forthcoming), a dynamic stochastic general-equilibrium model with an active banking sector and a detailed role for financial frictions. We find that U.S. financial shocks, as well as real shocks, have important effects on the Canadian economy. Moreover, financial frictions on both the demand and supply sides of credit amplify the first round impact of all types of U.S. shocks on the U.S. economy, as well as the second round impact on Canada. Real-financial linkages also increase the persistence of the Canadian response to U.S. shocks. We find that the interaction between the endogenous response of commodity prices and U.S. financial frictions plays an important role in the propagation of U.S. shocks to the Canadian economy. Finally, real-financial linkages also help to generate the positive cross correlation between domestic demand in the United States and Canada observed in the data, which is difficult to explain with a model where the transmission of shocks between countries is only based only on trade.

Unsurprisingly enough, it was a sleepy foreshortened day on the Canadian preferred share market, but the rally managed to sputter along, with PerpetualDiscounts gaining 9bp and FixedResets basically flat.