PrefBlog

Bradford & Bingley is defaulting on its sub-debt:

— Bradford & Bingley Plc’s failure to pay interest on some of its subordinated bonds will trigger settlement of credit-default swaps linked to about $414 million of the nationalized mortgage lender’s debt.

Dealers and investors agreed today that the Bingley, England-based company’s decision not to pay interest on 125 million pounds ($202 million) of 6.625 percent subordinated bonds maturing 2023 was a “credit event,” the International Swaps and Derivatives Association said on its Web site.

The ruling will prompt an auction to settle credit swap contracts even though the U.K. government changed the terms of the bank’s nationalization in February, allowing it to miss coupon payments without that constituting a default. Bradford & Bingley said in May it didn’t intend to pay interest on the notes, which form part of the bank’s so-called lower Tier 2 capital.

This shows the authorities’ determination to make holders of capital paper suffer, a major factor in the DBRS revision of its rating methodology.

The more I think about the recent MLI Tier 1 Issue, the less I understand it. I have updated my discussion of the issue with some questions sent to MFC’s Investor Relations department.

S&P should be revising the TXPR index soon – but I still don’t see any announcement on their index news page. The last revision was announced 2009-1-9, while last summer’s revision was announced 2009-7-11 (which included the addition of a called issue, FAL.PR.H, which was later quietly dropped).

The Credit Crunch isn’t over yet, as evidenced by Fun ‘n’ Games regarding the pricing of senior debt of CIT, a TARP beneficiary. CIT has, for all intents and purposes, been locked out of the bond market for well over a year and has been downgraded to just above, or below, junk status by the ratings agencies (depending on which ones you listen to; Fitch has them at single B). They were able to issue a short-term TALF-eligible securitization in early June; 2Q09 results will be announced on July 23.

The Boston Fed has released another Policy Briefing (they’ve been busy this week!), this one regarding A Proposal to Help Distressed Homeowners: A Government Payment-Sharing Plan:

This public policy brief presents a proposal, originally posted on the website of the Federal Reserve Bank of Boston in January of this year, designed to help homeowners who are unable to afford mortgage payments on their principal residence because they have suffered a significant income disruption and because the balance owed on their mortgage exceeds the value of their home. These homeowners represent a subset of the population of distressed homeowners, but according to our research they face an elevated risk of default and are unlikely to be helped by current foreclosure-reduction programs. The plan is a government payment-sharing arrangement that works with the homeowner’s existing mortgage and provides a significant reduction in the homeowner’s monthly mortgage payment. The plan does not involve principal reduction. Two options are presented; both are designed to help people with negative equity and a significant income disruption, such as job loss. In one version, the assistance comes in the form of a government loan, which must be repaid when the borrower returns to financial health. The second version features government grants that do not have to be repaid. In either case, the homeowner must provide evidence of negative equity in the home and of job loss or other significant income disruption. The costs of the plan are moderate, and the benefits should help not only the participating homeowners but also the housing industry, the financial markets, and the economy more broadly.

Another strong day for preferreds, with FixedResets outperforming yet again. I’m finding the yields on those things increasingly difficult to believe! When will it end?

PerpetualDiscounts closed to yield 6.30%, equivalent to 8.82% interest at the standard equivalency factor of 1.4x. Long corporates now yield 6.4%, so the pre-tax interest-equivalent spread is now 242bp, tightening in a little from the 250bp they recorded June 30.

The New York Fed has announced:

RBC Capital Markets Corporation has been added to the list of primary dealers, effective July 8, 2009.

… and note …

Primary dealers are banks and securities broker-dealers that trade in U.S. Government securities with the Federal Reserve Bank of New York.

.
Bloomberg reports:

RBC is the first Canadian firm to join the Fed’s network since CIBC Wood Gundy in 1996. The first Canadian primary dealer was Nesbitt Burns, which was given the designation in 1995. Nesbitt Burns was renamed BMO Nesbitt Burns in 2000 and abandoned its dealership in 2002. CIBC left in February 2007, before the start of the financial crisis which led to the flight-to-quality in U.S. government securities. Royal Bank of Canada is the nation’s largest lender.

The International Monetary Fund has released its Global Financial Stability Report – Market Update, July 2009:

Financial conditions have improved, as unprecedented policy intervention has reduced the risk of systemic collapse and expectations of economic recovery have risen. Nonetheless, vulnerabilities remain and complacency must be avoided. The financial sector continues to be dependent on significant public support, resulting in an unparalleled transfer of risk from the private to the public sector. At the same time, however, work will need to begin on exit strategies from the various financial, monetary, and fiscal support policies in order to address market uncertainty. Medium-term policies need to ensure that steps taken to normalize policies and markets are consistent with establishing a lasting framework of sound financial regulation, sustainable fiscal balances, and the maintenance of price stability.

I am glad to hear that, in the opinion of the quasi-regulators at the IMF, that there is a continued need for quasi-regulators.

On July 3 I remarked on the idiocy of solemn discussions about “What Should be the World’s Reserve Currency?”. There’s a guy in China who has a better grasp of affairs than his political masters:

Huang Xinyuan, who sells mining equipment and pesticides to customers across China’s border with Vietnam, says he no longer wants payment in U.S. dollars and prefers the yuan.

Sales using the greenback at Guangxi Jinbei Group, where Huang is vice president, dropped to 30 percent of contracts in 2008 from 87 percent in 2007. The yuan, which has gained 21 percent since it was allowed to strengthen against the dollar starting in 2005, offers greater stability, he said.

That’s how reserve currency status gets decided … what people will take. Anyone who was in an Eastern Bloc country in the ’80’s, or even ’90’s, furtively exchanging greenbacks for local currency at prices bearing no relationship to the official market, knows that.

There are consultations progressing between private equity players and the FDIC regarding the failed bank buy-out rules discussed on PrefBlog on July 3.

Treasury has announced that the Legacy Securities Public-Private Investment Program and the Legacy Loan Program are moving forward. Of highest importance, of course, is making sure the lolly is distributed to appropriate parties:

Collectively, the nine pre-qualified PPIP fund managers have established 10 unique relationships with leading small-, veteran-, minority-, and women-owned financial services businesses, located in five different states, pursuant to the Legacy Securities PPIP. Moreover, as Treasury previously announced, small-, veteran-, minority-, and women-owned businesses will continue to have the opportunity to partner with selected fund managers following pre-qualification.

Continued good volume today, without much price action. FixedResets were actually down, albeit by such a marginal amount as to be meaningless. The median Yield-to-Worst on OperatingRetractibles continues to be negative.

Treasury is going to avoid voting its shares in companies that received TARP funds:

On many resolutions offered by investors — from demanding pro- environment policies to allowing domestic partner benefits to reining in executive bonuses — the Treasury plans to ask that its ballots be counted in the same proportion as the votes of other stockholders so it won’t impact the results.

An investment manager could probably go to jail for that! But Dealbreaker, bless its heart, sees the truth:

As Kenny Lewis can attest to, when it comes to the stuff that really matters, backroom waterboarding is a far more compelling tool than shareholder votes.

The Lewis affair was discussed on April 24: Lewis’ BofA was basically forced by Treasury to buy Merrill, despite “staggering deterioration” of Merrill’s balance sheet.

Looks like there will be increased regulatory control over oil & gas speculation. There is, naturally, considerable doubt as to whether speculation is harmful.

California’s having a little difficulty getting its IOUs accepted:

A group of the biggest U.S. banks said they would stop accepting California’s IOUs on Friday, adding pressure on the state to close its $26.3 billion annual budget gap.
…
Amid the budget deadlock, Fitch Ratings on Monday dropped California’s bond rating to BBB, down from A minus, the latest in a series of ratings downgrades for the state.

The group of banks included Bank of America Corp., Citigroup Inc., Wells Fargo & Co. and J.P. Morgan Chase & Co., among others. The banks had previously committed to accepting state IOUs as payment. California plans to issue more than $3 billion of IOUs in July.

BIS has released a working paper by Naohiko Baba and Frank Packer titled From turmoil to crisis: dislocations in the FX swap market before and after the failure of Lehman Brothers:

This paper investigates dislocations in the foreign exchange (FX) swap market between the US dollar and three major European currencies. After the failure of Lehman Brothers in September 2008, deviations from covered interest parity (CIP) were negatively associated with the creditworthiness of US financial institutions (as well as that of European institutions), consistent with the deepening of a dollar liquidity problem into a global phenomenon. US dollar term funding auctions by the ECB, SNB, and BoE, as well as the US Federal Reserve commitment to provide unlimited dollar swap lines are found to have ameliorated the FX swap market dislocations.

The Ontario Securities Commission has released its 2009 Annual Report. To my mind, the most interesting sentence was:

The OSC, Quebec’s Autorité des marchés financiers and the Investment Industry Regulatory Organization of Canada (IIROC) are reviewing complaints received in connection with the organization, sale or distribution of non-bank sponsored ABCP products.

Not much price action today, but the PerpetualDiscount and FixedReset sectors both posted gains, with yields on FixedResets continuing what seems like an inexorable march downwards.

Willem Buiter wants to clamp down on CDS trading:

CDS provide an example. Just as short selling equity is potentially efficiency enhancing but naked short selling is just gambling, so insuring credit default risk is potentially efficiency enhancing when the buyer has an insurable interest and the writer of the CDS is sufficiently capitalised. Current arrangements permit ‘naked’ CDS buying (buying CDS on a security in excess of the face value of your holdings of that security).

I would not follow George Soros and ban CDS outright. I would require that any writer of CDS or other forms of credit risk insurance be properly capitalised and post additional collateral immediately when his creditworthiness is adversely affected. In addition, I would stipulate that it is only possible to buy CDS when you have an insurable interest in the security it is written on, and that you cannot make good, following default on a security, any claim under a CDS written on that security unless you can present to the writer of the CDS an amount of that security with the same face value as your claim.

The reference to George Soros links to a column by Ed Hammond:

George Soros, the billionaire financier, this week called for the scrapping of CDS contracts. He used the example of the bankruptcy of General Motors as a reason for outlawing these contracts. This, he said, was because it was in the interest of some bondholders to see the company go under as they were also in possession of CDS contracts, which paid out on the carmaker’s default.

… which is just the old debt-decoupling problem that has so many people (not me!) so upset.

I fail to understand Mr. Buiter’s equation of naked-shorting (protection buying) with gambling. The exposure to the shorting party is the same; there may well be risk to the counterparty that is not disclosed in a naked short; and this potential counter-party risk may well be destabilizing and therefore Bad; but I don’t understand why it should be deprecated as gambling and thus distinguished from the price-discovery process assisted by shorting.

I do try to stay away from politics in this blog – except where they explicitly impinge on the financial world, but this Toronto Star article is too good to pass by: Green Bins: A wasted effort:

The City of Toronto boasts that its green bin program diverts a third of our garbage and turns it into “black gold” compost. But a Star investigation shows that the program – although nobly conceived – is a sham.

There are two problems. First, the city’s claim of how much waste the program diverts from landfill is inflated. Second, some of the compost that is being produced will kill your plants because of its high salt content, according to laboratory tests.

The Star’s headline is incorrect: the Green Bin programme is serving its purpose perfectly. It is enabling earnest feel-gooders to feel good about themselves. If the purpose was actually to accomplish something useful, we’d just incinerate it all. But that’s regulation for you!

UK CMBS are not feeling very happy:

Investor Simon Halabi’s real-estate companies failed to remedy a default on 1.15 billion pounds ($1.9 billion) of commercial mortgage bonds at a time when, according to Fitch Ratings, “pretty much” all such European deals would breach loan-to-value conditions if they were tested.
…
“With capital values having fallen on average by 43 percent, pretty much any loan that has a loan-to-value covenant if tested today would be in breach,” said Andrew Currie, head of Europe commercial mortgage-backed securities at Fitch Ratings in London. Most servicers of commercial mortgage bonds haven’t tested these conditions, “storing up trouble” for the future, he said before today’s announcement.

White Tower is the largest commercial mortgage bond sold by a single borrower to default this year in Britain, which is Europe’s largest market and accounts for about 50 percent of issuance, according to Fitch. Banks that financed a real-estate buying spree at the top of the market are weighed down with about 230 billion pounds of commercial property loans, data compiled by De Montford University show, making them unwilling to refinance existing deals when they come due.

FixedResets continued to roar ahead (as well as hogging up all the spots on the volume highlights table) and are now more than two points through perpetuals, a price that sounds really, really extreme. At current spreads, of course, redemption at first call looks more likely than not, but there is still a significant amount of extension risk in the structure … we will see how it turns out. My bet? It ends in tears.