PrefBlog

Across the Curve notes some dealer research that claims:

The NY Fed data released yesterday afternoon shows another huge reduction in Agency debt and MBS held for overseas investors. Of the $1.7tn in GSE debt and MBS held by overseas accounts, $885bn is held in these accounts. The decline in holdings for the week ending Nov 19th was $11.7bn, which is the 3rd largest drop on record, second only to Oct 15th (-18.6bn) and Oct 8th (-24.4bn).

I can’t find the NY Fed Release, but I do have a piece by Brad Setser:

At the end of July, China stopped buying Agencies and corporate bonds and started to pile into Treasuries. Over the last three months of data (i.e. the third quarter), the US data indicates that China has bought $81.1 billion in Treasuries ($45 billion short-term) and added $17.4 billion to its bank accounts — that is a flow of nearly $100 billion into the safest US assets China can find. Conversely, China sold $16 billion of Agencies, $1.8 billion of corporate bonds and a bit less than a billion of equity.

In the second quarter, by contrast, China bought only $13 billion of Treasuries and added only $2 billion to its US bank account while buying $17 billion of Agencies and $20 billion of corporate bonds.

That is a huge swing — and frankly a destabilizing swing. The notion that sovereign investors are always and at all times a stabilizing force in the market should be put to rest. China has clearly kept the RMB dollar stable — and been a big source of demand for Treasuries. But it has been a seller of other assets in a time of stress.

I noted in an update to the most recent post on Effective Fed Funds that the FDIC has finalized the new rule on debt guarantees – Accrued Interest predicts a flood of new US Bank paper – with Goldman Sachs first to go.

There’s a short piece in the WSJ Deal Blog regarding preferred share issuance by SEC regulated companies –

BDCs believe that there may be a substantial opportunity to issue preferred stock either in privately negotiated transactions or otherwise because preferred stock can be customized to some extent to the needs of potential investors. The 1940 act limits the ability of BDCs to issue senior securities, including preferred stock, by imposing a requirement that they maintain a ratio of assets to senior securities of 200%, or 2 to 1. Therefore, if a BDC, for example, has $10 in assets, it cannot have a total of borrowing or outstanding preferred stock of more than $5. If a BDC is already close to its asset coverage limit, it would be limited in its ability to issue preferred stock.

We finally get a decent inflation number and Bang! there are deflation fears. This is a completely crazy market.

Falling car prices and cheaper women’s clothing weighed on the consumer price index. Gasoline was still higher than a year ago, but was rising at a slower pace than in previous months, also bringing the annual inflation rate down, the agency said.

Core inflation, which excludes the most volatile items such as energy and some food, was 1.7 per cent higher on the year – the same as in September, and close to analysts’ expectations. On a month-over-month seasonally adjusted basis, core inflation showed no growth.

I think Econbrowser‘s James Hamilton has the anti-deflation recipe about right:

If the U.S. were ever to arrive at such a situation, here’s what I’d recommend. First, have the Federal Reserve buy up the entire outstanding debt of the U.S. Treasury, which it can do easily enough by just creating new dollars to pay for the Treasury securities. No need to worry about those burdens on future taxpayers now! Then buy up all the commercial paper anybody cares to issue. Bye-bye credit crunch! In fact, you might as well buy up all the equities on the Tokyo Stock Exchange. Fix that nasty trade deficit while we’re at it! Print an arbitrarily large quantity of money with which you’re allowed to buy whatever you like at fixed nominal prices, and the sky’s the limit on what you might set out to do.

Of course, the reason I don’t advocate such policies is that they would cause a wee bit of inflation. It’s ridiculous to think that people would continue to sell these claims against real assets at a fixed exchange rate against dollar bills when we’re flooding the market with a tsunami of newly created dollars. But if inflation is what you want, put me in charge of the Federal Reserve and believe me, I can give you some inflation.

The New York Times reports (to no-one’s great surprise) that Citibank is talking earnestly to Treasury & the Fed. A Sunday Night Special is widely anticipated.

Devastation. After another appalling day, PerpetualDiscounts now yield 8.22% pre-tax dividend, equivalent to 11.51% pre-tax interest at the standard equivalency factor of 1.4x. Long Corporates still yield 7.50% and are still up on the month … the pre-tax interest-equivalent spread is now 401bp.

There are complaints from retail that the preferred share market is way, way too exciting.

There were fifty-two other index-included $25-pv-equivalent issues trading over 10,000 shares today.

Lasse Heje Pedersen writes a good review piece on VoxEU, Liquidity risk and the current crisis:

the meaning of liquidity risk is clear.

• Market liquidity risk is the risk that the market liquidity worsens when you need to trade.
• Funding liquidity risk is the risk that a trader cannot fund his position and is forced to unwind.

For instance, a levered hedge fund may lose its access to borrowing from its bank and must sell its securities as a result. Or, from the bank’s perspective, depositors may withdraw their funds, the bank may lose its ability to borrow from other banks, or raise funds via debt issues.
…
If we have learned one thing from the current crisis, it is that trading through organised exchanges with centralised clearing is better than trading over-the-counter derivatives because trading derivatives increases co-dependence, complexity, counterparty risk, and reduces transparency. Said simply, when you buy a stock, your ownership does not depend on who you bought it from. If you buy a “synthetic stock” through a derivative, on the other hand, your ownership does depends on who you bought it from – and that dependence may prevail even after you sell the stock (if you sell through another bank). Hence, when people start losing confidence in the bank with which they trade, they may start to unwind their derivatives positions and this hurts the bank’s funding, and a liquidity spiral unfolds.
…
Banning short selling is a bad idea
…
Tobin taxes are a bad idea

TD Bank pre-announced some losses that will show up in the fourth quarter:

Credit trading losses of approximately $350 million (after-tax) for the quarter in Wholesale Banking, leading to a net loss of $228 million on an adjusted basis for that segment
…
The first significant item relates to the credit trading business in TDBFG’s Wholesale Banking segment. As previously disclosed, due to global liquidity issues, the widening in the pricing relationship between asset and credit protection markets (basis) has negatively impacted credit trading-related revenues for the first three quarters of 2008. The dramatic absence of liquidity in global credit markets in September and October has produced an unprecedented widening of the basis, causing larger losses in Wholesale Banking in the fourth quarter.

Hmmm … basis widening? It sounds like the Credit Default Swap Basis they’re talking about. So – I think – what happened is this:

• TD has a large corporate bond inventory (that they trade)
• The hedge it by buying protection (via Credit Default Swaps) … not necessarily on each individual name, it might be, f’rinstance IG 11)
• TD might even have deliberately put on a big negative basis trade
• Funding cash bonds has become a chancy thing. Liquidity is NIL (or close enough). The CDS basis becomes even more negative.
• On a mark-to-market basis, TD Bank loses money

Like I said, maybe. There’s not a lot of detail in the press release.

Teck Cominco eliminated its dividend. The market wasn’t very happy.

Preferred share investors shaken by the carnage can console themselves that they have a front-row seat on history while avoiding the brunt of the unwind. I will lift two quotes from the excellent Across the Curve today … Treasuries & Swaps:

The Long Bond is trading at a yield of 3.43 percent and the dollar price has exploded 9 points today. I have done this for nearly 30 years. I have never witnessed this before. Even more incredible is the 30 year swap spread and swap rate. The 30 year swap rate is 2.84. It has dropped about 80 basis points on the day and is about 60 basis points rich to the 30 year Treasury.I just spoke with an options trader about this historic move. He said that there structured product trades buried in trading books all over the world which are melting. There is a massive short in the 30 year sector (in Treasury paper and in the swap market) which resulted from sales of cheap volatility. Some of these positions have been on the books of various entities for years and it is only recently that the chickens have come home to roost. Each time the spread turns more negative, that movement forces some one to receive in swaps to hedge there position. There are short the long end trades in every permutation and combination along the curve. The receiving creates a self fulfilling prophecy which compels someone else to receive. He had no opinion on when this would end.

… and CMBS:

Cash AAAs widened 325 basis points. The email author wanted to put the recent carnage into stark relief for the non aficionados in the room. He noted that GSMS 07-GG 10- A4 is a benchmark deal. Two weeks ago it traded at 83. Today it traded at 48.

CMBX AAAs wider by 130 basis points.

Look at the CMBS basis move! Cash moved 325bp … the CDS index moved by 130. The basis moved nearly 200bp! While I am not a specialist in the field, I would suggest that a move of 2 (two) basis points in the basis would be a pretty good day … in normal times.

The longer term moves? Bloomberg reports:

Yields on the safest category of AAA rated commercial- mortgage bonds rose 3.34 percentage points, the biggest gain ever, to a record 15.29 percentage points more than interest- rate swaps, according to Bank of America Corp. data.
…
The spread on the AAA commercial-mortgage securities, which entered this year at 0.82 percentage point, has climbed from 5.88 percentage points on Nov. 4.

The move in basis is indicative that even those who are willing to take some risk and lever up a position in CMBS … can’t get, or can’t trust, funding. So they have to take a synthetic position by selling protection. Lots of money to be made there, buying cash bonds and protecting them … if you can trust your financing … and your counterparties.

So, after a horrible day that was the fourth horrible day in a row (defining “horrible” as a loss of more than 1%), PerpetualDiscounts yield 7.95% as pre-tax dividends, equivalent to 11.13% pre-tax interest. Long Corporates are still at 7.50% so the Pre-Tax Interest-Equivalent Spread is … (drum-roll, please) … 363bp. Incredible.

Holy smokes. On a day like this, what would I do without Dealbreaker?

There were fifty-seven other index-included $25-pv-equivalent issues trading over 10,000 shares today.

Accrued Interest leads off with some thoughts on the collapsing CMBS market. CMBS opened 40bp wider this morning – panic is the only appropriate word.

Meanwhile, US CPI is normalizing:

Consumer prices plunged 1 percent last month, more than forecast and the most since records began in 1947, after being unchanged the prior month, the Labor Department said in Washington. Excluding food and energy, so-called core prices unexpectedly fell for the first time since 1982.
…
Prices increased 3.7 percent in the 12 months to October, the smallest year-over-year gain since October 2007. They were forecast to climb 4 percent from a year earlier, according to the survey median.

The core rate increased 2.2 percent from October 2007, after a 2.5 percent year-over-year increase the prior month.

Citigroup is taking on a whack of SIV assets:

Citigroup Inc., the fourth-biggest U.S. bank by market value, agreed to acquire $17.4 billion of assets held by structured investment vehicles advised by the company.

Citigroup said today in a statement that the value fell from $21.5 billion as of Sept. 30, reflecting market declines of $1.1 billion and $3 billion in debt that matured or was sold.

This continues the re-intermediation process that has culminated in this cycle with the Fed grossing up its balance sheet and is also hitting the leveraged loans market:

The price of the average actively traded leveraged loan fell 2.6 cents to 71.2 cents on the dollar since Nov. 13, according to Standard & Poor’s LCD. Prices have slumped 4.4 cents since Nov. 4, reversing a rally of more than 8 cents on the dollar since the all-time low last month.

This is not a good sign for consumation of the BCE deal – even if the banks like the deal (even when properly risk-adjusted!) they might not have room for it.

There’s a report (h/t: Financial Webring Forum) from the Globe & Mail that the BCE buying consortium is issuing capital calls:

That means the two funds are asking institutional investors to pony up cash that was previously committed to each group, in order to pay for BCE.

These calls are routine in buyouts, and speak to the fact that the private equity funds are doing what’s needed to close the long-delayed transaction by Dec. 11. The move follows on BCE’s push last week to buy back some of its outstanding bonds.
…
Capital calls are to be expected at this stage in the BCE buyout. The issue is whether the limited partners -typically pension funds – will step up with cash. Under certain circumstances, backers can refuse to fund a deal that the private equity fund has agreed to.The penalty for pulling out is typically 8 per cent of the value of the contribution that was requested.

Well, maybe I’m a cynic, but I don’t see this as meaning anything one way or another. Of course everybody’s pretending the deal will go through and making sure they go through all the motions, carefully vetted by an expensive team of lawyers. The last thing you want is to be on the hook for the break-up fee! Any speculation as to whether the deal will actually close or not remains speculative.

Assiduous Reader MP – who, I think, makes something of a hobby of SEDAR’s New Prospectus Page – alerts me to some massive, massive shelf prospectuses, including $4.5-billion in debt and preferreds from National Bank. There’s also some very hopeful filings for proposed Brompton Group Split Share corporations … whethere anything comes of them is another matter!

Triple A CMBS widened another 100bp today. US Corporates have reached an all-time wide, with continued term inversion for credit product.

What can I say? It was a lousy day. It was a sloppy day. Long Corporates in Canada have come back in to 7.50%; PerpetualDiscounts now yield 7.56% pre-tax dividend, equivalent to 10.58% pre-tax interest … which means spreads have rocketted out to 308bp. All in the blink of an eye.

There were forty-four other index-included $25-pv-equivalent issues trading over 10,000 shares today.