PrefBlog

James Hamilton of Econbrowser passes on a debunking of Shadowstats … I confess, I have not examined the issues raised very closely, but this is the sort of thing I like to see. The internet has offered looney-tunes a pulpit, which is generally a bad thing; on the other hand, it makes this kind of thinking more visible and susceptible to criticism.

You can tell where my sympathies lie, despite my professed ignorance regarding this particular issue! Assiduous Readers will remember the forecast of the end of the world last February, narrowly averted when it was shown that Armageddonists can’t read balance sheets or do arithmetic.

Accrued Interest reviews the GSE situation and sets up a straw-man proposal:

What if the Treasury agreed to guaranty the principal (not the interest) on a preferred stock offering.
…
The preferreds would be callable after 5 years, with the call becoming automatic if the GSEs share price reaches some milestone. The idea would be that if the GSEs are able to issue common equity, then they would be forced to call the tax-payer backed preferred and issue their own securities of some variety.

The Treasury could charge some fee in exchange for the guaranty.
…
Here are the advantages of such a plan. First, it could be implemented right away, allowing for stability in the mortgage market and likely a decline in mortgage lending rates. Second, its probably a cheaper plan for tax payers when compared with other options.
…
Unfortunately, this kind of solution has a number of problems. First, it creates all kinds of moral hazard, as common equity holders wind up benefiting from the tax payers risk.
…
Second, this plan doesn’t move us any closer to a more permanent solution to the problem of macro risk and the GSEs.

Well, I don’t like the plan either! I continue to feel that nothing should happen until the GSEs either fall below their regulatory minimum capital (a la IndyMac), or become unable to finance themselves in a normal commercial manner (a la Bear Stearns). Then Treasury steps in and backstops a rights issue of senior preferred shares convertible into common at a dollar, possibly with a provision that no dividend be paid on the existing and suddenly junior preferreds until some specified capital ratios are met.

Any GSE bail-out will be politically divisive enough; to take action before the last minute will simply exacerbate the attention paid to side issues while increasing the potential for future moral hazard without providing a solution that is necessarily any more effective.

And what to do now? Start drafting legislation that turns the GSEs into regular banks. And start weaning the American mortgage market off fully open mortgages with a 30-year term. That’s the root of the problem.

But stay tuned! After the markets closed, the WSJ said Treasury is Close to Finalizing Plan to Backstop Fannie, Freddie. There are no details, but speculation is rampant on, for instance, Accrued Interest, Bloomberg and Dealbreaker.

Jian Wang of the Dallas Fed writes an interesting review on VoxEU: Understanding exchange rates as asset prices and comes to a conclusion that is consistent with my understanding of the FX markets and markets in general:

In a seminal paper, Richard Meese and Kenneth Rogoff (1983) found that economic fundamentals – such as the money supply, trade balance and national income – were of little use in forecasting exchange rates, at least over short to medium time horizons. They compared existing models to an alternative in which fundamentals are excluded and any exchange rate changes are purely random. They found the “random walk” model to be just as good.
…
We argue that exchange rate movements may be driven by both a permanent long-term trend and some transitory noise. These noisy terms can drive exchange rates away from their long-run levels in the short run. As time passes, exchange rates gradually move back to their long-run levels, exhibiting long-horizon predictability. In several models, such as the monetary model and the Taylor rule model in Engel and West (2005), the short-term noise is related to a fundamental that isn’t observable – the risk premium for holding a currency, for example.

Not much price action today, on reasonable volume. All eyes were on the stock market!

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

I posted a little while ago about Central Banks and the Eligibility Premium … today there was a dramatic illustration (maybe!) about the suddenly enormous importance of access to central bank lending facilities in a Bloomberg story on European bank risk:

The Frankfurt-based central bank will cut 12 percent from the value of asset-backed securities it accepts as collateral, ECB President Jean-Claude Trichet said at a press conference today, an increase from as little as 2 percent previously. Hard- to-value assets will have an additional premium of 5 percent, Trichet said. Unsecured bank bonds will have a 5 percent haircut. The new rules apply from Feb. 1, 2009.
…
Credit-default swaps on the Markit iTraxx Financial index of subordinated debt of 25 European banks and insurers climbed 9 basis points to 174, the highest since April 1, according to JPMorgan Chase & Co. prices at 3:02 p.m. in London.

I am by no means convinced that this is direct cause and effect; and I am by no means convinced that the CDS market has any connection with reality; but both possibilities are subject to discussion!

Moody’s has discovered another CPDO programming error:

Moody’s Investors Service said it may cut the ratings of 854 million euros ($1.2 billion) of constant proportion debt obligations after disclosing a second error in the way it assesses the securities.

Moody’s review was “prompted by the identification of a coding error in a model used for monitoring CPDOs,” the New York-based firm said in a statement today. Moody’s will probably downgrade the affected CPDOs by one or two levels, it said.

Their last whoopsee was discussed on PrefBlog on May 21. CPDOs in general have been introduced to Assiduous Readers in connection with disputes over credit quality.

Pity poor Lehman! I confess I haven’t been following the story very closely as it twists in the wind, but given that its Price/Book Ratio is reported as 0.49 with an Enterprise Value of NEGATIVE 210-billion [a misprint?], my suspicion is that it has a lot of highly illiquid assets that investors are assigning a value far below the value management thinks they’re worth. So … they’re going to try to spin them off:

Lehman Brothers Holdings Inc. may shift about $32 billion of commercial mortgages and real estate to a new company that will be spun off in a move similar to the good-bank-bad-bank model used in the 1980s banking crisis, two people briefed on the discussions said.

The bad bank, nicknamed Spinco for now, would have about $8 billion of equity coming from Lehman, the people said, speaking on condition of anonymity because the plan is one of several under consideration. Spinco would borrow the remaining $24 billion from Lehman or outside investors.
…
Korea Development Bank has been in discussions to buy a 25 percent stake in Lehman for $6 billion, according to the people familiar with the talks. That would replace most of the capital Lehman would put into the bad bank.

The OSC has a survey on product suitability (hat tip: Financial Webring Forum). Assiduous Readers now have their long desired chance to tell the regulators that investments should be sold to the public only if they go up. The committee has indicated that anonymous submissions will not only be read, but actually be taken seriously.

Sadly, there is no corresponding survey regarding Advisor Suitability. Force publication of composite performance – publish it on the regulatory website, disk storage of all that data is cheap enough – and most problems disappear instantly.

On a happier note, I’ve decided I like commodity crashes better than financial crises:

The Standard & Poor’s/TSX Composite Index fell 2.5 percent to 12,814.14 in Toronto. Canada’s equity benchmark, which derives about two-thirds of its value from energy, materials and financial stocks, has fallen 7 percent in three days and is 15 percent below its June 18 record.

Even after today’s slight loss, PerpetualDiscounts are up 25bp on the month-to-date, a lack of correlation much more to my tastes than was the case during the dark days of July.

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

The Bank of Canada held the overnight rate steady at 3.00%:

Global inflationary pressures remain elevated, with potential implications for import prices and the dynamics of inflation in Canada. While total CPI inflation has moved above 3 per cent, core inflation has stayed at 1.5 per cent as expected. The temporary factors affecting both of these measures should dissipate over the coming quarters, and the Bank continues to expect that total and core inflation will converge on 2 per cent in the second half of 2009. However, the recent decline in both spot and futures prices for energy means that the spike in total CPI inflation expected between now and the first quarter of 2009 will be lower than projected in July.

Although an argument can be made for a rate cut, it is not clear and compelling. Most of the world’s central banks are tightening or are thinking about it – just today, there are updates on the Fed, the BoE and Indonesia); I don’t think the BoC will swim against the tide without a clear and compelling reason.

The collapse of Ospraie’s flagship hedge fund was mentioned yesterday; there are some rumours that natural gas brought it down while others finger copper.

The Clear Channel LBO debt might be clearing:

Banks led by Deutsche Bank AG are seeking to sell $980 million of Clear Channel Communications Inc. bonds in the biggest sale of leveraged buyout debt since March.

The 10.75 percent, eight-year notes are scheduled to price early next week, said a person familiar with the transaction, who declined to be identified because terms aren’t set. The debt helped to finance the radio-station operator’s buyout by Bain Capital Partners LLC and Thomas H. Lee Partners LP.

… and, perhaps not entirely coincidentally, Blackrock is setting up another vulture fund:

BlackRock Inc., the biggest publicly traded U.S. asset manager, is seeking as much as $3 billion for a fund to buy loans that banks are selling for losses, said two investors with knowledge of the matter.

BlackRock Credit Investors II will invest in leveraged- buyout loans that banks are trying to unload after the collapse of the subprime-mortgage market drove investors away from all but the safest securities, the investors said. Last year, New York- based BlackRock raised $3 billion for its first such fund.

As all Assiduous Readers know, one of my macro-economic fears is that regulators will make all but the most plain-vanilla securities too risky to sell to the usual recipients of their back-dated largesse. This may be happening with municipalities and interest rate swaps:

JPMorgan Chase & Co., under investigation in a federal antitrust probe of derivative sales in the $2.6 trillion municipal bond market, will stop marketing products such as interest-rate swaps to municipalities, a spokeswoman said.

The bank will still arrange derivatives for non-profit organizations and sell commodity derivatives to municipalities, said JPMorgan spokeswoman Kristin Lemkau. Derivatives are contracts whose value is derived from tradeable securities, or linked to future changes in lending costs.

Geez, when the rules change on a backdated basis, people don’t want to play anymore, eh?

Another solid up-day for the PerpetualDiscounts.

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

The most interesting news items of the day got their own posts (TD Capital to Issue Asset-Backed Tier 1 Paper, Swiss Bank Regulator to Impose Assets-to-Capital Multiple Cap, New Issue: TD Fixed-Reset 5.00%+196bp) so there ain’t much left to report!

Ambac got permission to set up a new bond insurer. After all, you can’t just let Buffet get his own way all the time!

PrefBlog’s “Whoopsee!” Department reminds me to link to a Bloomberg story about a hedge fund:

Ospraie Management LLC, the investment firm run by Dwight Anderson, will close its biggest hedge fund after it fell 38.6 percent this year because of losing wagers on commodity stocks, according to a letter to investors.

The Ospraie Fund lost 26.7 percent in August, after a “substantial sell-off in a number of our energy, mining and resource equity holdings,” Anderson, 41, wrote in the letter today.

I don’t know, particularly, why so many of these things are called “Hedge” funds … most of the ones I’ve seen are really “highly leveraged macro-bet” funds. But perhaps I’m just bitter, what with not being able to find funding for my own idea … a hedge fund, really hedge, trading preferred shares could, I am quite confident, make good money for non-taxable investors.

PerpetualDiscounts performed well on a slow day.

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