HLG.PR.B to be Delisted

July 23rd, 2008

The Toronto Stock Exchange has announced:

Pursuant to an Order issued on July 21, 2008 by the Ontario Superior Court of Justice under the Companies’ Creditors Arrangement Act, the Company and its monitor in those proceedings, Ernst & Young Inc., have been authorized to consent to the delisting of Hollinger Inc’s Retractable Common Shares (Symbol: HLG.C) and Exchangeable Non-Voting Preference Shares Series II (Symbol: HLG.PR.B) (collectively the “Securities”). Accordingly, TSX will delist the Securities at the close of market on August 22, 2008 for failure to meet the continued listing requirements of TSX. The Securities of the Company are currently halted due to the imposition of a Cease Trade Order by the Ontario Securities Commission. In addition, the Securities have been suspended from trading by TSX effective immediately.

The same press release had further details regarding the Argus delisting previously discussed.

HLG.PR.B has not been tracked by HIMIPref™.

Update, 2008-8-22: The delisting has become effective:

Hollinger Inc. (the “Company”)(TSX:HLG.C)(TSX:HLG.PR.B) announced today that the Company’s common shares and Series II preference shares (collectively, the “Shares”) were delisted from the Toronto Stock Exchange (the “TSX”) effective as of the close of business today.

The Shares have been suspended from trading since the issuance of a cease trade order by the Ontario Securities Commission on July 23, 2008. The cease trade order was issued as a result of the Company’s determination, in the interests of reducing its costs for the benefit of its stakeholders, not to prepare and file annual audited financial statements and other annual disclosure documents in respect of the Company’s financial year ended March 31, 2008. Consequently, following June 30, 2008, the Company has been in default of its continuous disclosure filing requirements under Canadian securities laws.

On July 21, 2008, the Ontario Superior Court of Justice (the “Court”) issued an order authorizing the Company and Ernst & Young Inc., the Company’s court-appointed Monitor (the “Monitor”), to consent to the issuance of the cease trade order and the delisting of the Shares. The Company and the Monitor have provided such consent.

Pursuant to proceedings under the Companies’ Creditors Arrangement Act (Canada), the Company is conducting a claims process for the Company and its subsidiaries, Sugra Ltd. and 4322525 Canada Inc. (the “Applicants”), and will also do so for its non-Applicant subsidiaries as part of their winding-up. Retired justice John D. Ground has been appointed as Litigation Trustee to administer the Company’s litigation assets, assisted by an Advisory Committee and under the supervision of the Monitor and the Court.

Preliminary estimates prepared by the Company, in conjunction with the Monitor, indicate that there is a significant risk that there will not be adequate recoveries from the Company’s assets for there to be any residual value for the Series II preference or common shareholders of the Company.

Target Capitalization of Big US Banks

July 23rd, 2008

How Do Large Banking Organizations Manage Their Capital Ratios?, a research paper from the Kansas City Fed.

The authors “find strong evidence that target capital ratios decrease with BHC [Bank Holding Company] size and increase with the volatility of BHC earnings (risk). The relationships between capital targets and BHC market value, growth strategy, and business mix are less systematic and statistically weaker.”

I note that by comparing Table 3, Panel A (regressions on leverage ratio) with Table 3, Panel B (regressions on Tier 1 Ratio) it appears that an asset size of greater than $50-billion (comprising 5.4% of the sample) had a statistically significant influence on the calculation of the targetted Tier 1 ratio, but was insignificant when calculating the targetted Leverage Ratio.

Note a 2003 Comment Letter from the State of New York Banking Department stated:

Capital ratios as well as business plans tend to be different at LCBOs [Large Complex Banking Organizations] and smaller banks. Compared to community and regional banks, LCBOs tend to have capital ratios that are closer to the well-capitalized minimums (see Table 1). All five of the New York State banks with assets over $45 billion have leverage ratios between 5.4% and 6.2%, while the range for all banks is from 5.3% to 52%.[1] (The leverage ratio is more constraining than the risk-based capital ratios.) Thus, bifurcation seems to address the concern of LCBOs to manage their capital ratios, while acknowledging that most community and regional banks are comfortable with much higher than required capital ratios.

However, the situation for large regional banks may be somewhat different: the12 New York banks with assets between $5 billion and $45 billion tend to have higher capital ratios than the largest banks, but may be feeling market pressure to manage these ratios. For these institutions, opting in to the A-IRB approach could make it possible to maintain the same risk-based capital ratios while lowering their leverage ratio close to 5%. As IRB systems and software become more developed, opting in may make more sense for these banks, especially since sophisticated credit risk modeling systems also allow more risk-sensitive pricing.

FTN.PR.A Term Extension Approved

July 23rd, 2008

Financial 15 Split Corp. has announced:

A special meeting of the shareholders of Financial 15 Split Corp. (“Financial 15”) was held on July 23, 2008.

Shareholders were asked to consider and, if thought advisable, to approve a special resolution to amend the articles of Financial 15 to extend the termination date of Financial 15 to December 1, 2015 and to provide holders of the Preferred Shares and the Class A Shares of Financial 15 with the Special Retraction Right as described in the Management Information Circular dated June 16, 2008.

Preferred Shareholders voted 79% in favour of the resolution and Class A Shareholders voted 97% in favour of the resolution, and therefore the resolution to extend the termination date to December 1, 2015 and to provide holders with the Special Retraction Right was approved at the meeting held earlier today.

The Term Extension has been previously discussed on PrefBlog.

FTN.PR.A is incorporated in the HIMIPref™ SplitShare Index. There are currently 10.175-million shares outstanding, according to the TSX, with a par value of $10.00 – so it’s a nice size and would be good to keep on the board.

July 22, 2008

July 22nd, 2008

Wachovia and Thornberg prefs were mentioned yesterday and as it happens both are in the news today.

Wachovia announced horrible results:

reported a record quarterly loss of $8.9 billion, slashed the dividend and announced 6,350 job cuts. The stock slumped as much as 10 percent in New York trading.

The stock fell $1.18, or 9 percent, to $12 at 9:55 a.m. The cost of protecting the bank’s debt rose 10 basis points to 315, according to broker Phoenix Partners Group. Fitch Ratings cut Wachovia one level to A+ from AA-, citing its mortgage business, and Moody’s downgraded the bank to A1 from Aa3.

Wachovia, whose job cuts amount to about 5 percent of the bank’s workforce, lowered the dividend to 5 cents a share from 37.5 cents and will leave 4,440 positions open, according to a presentation to analysts today.

As of noon, the prefs at issue (WBPRC – NYSE) were actually up over 5%, to $16.49. Their dividend didn’t get cut!

And there is an offer for the Thornburg prefs:

Preferred shareholders will receive $5 in cash and 3.5 common shares if two-thirds of holders tender their stakes by Sept. 30. Were the deal to close today, holders would receive cash and stock totaling $6.09 for each preferred share, which closed yesterday between $4.46 and $4.62.

In the question-and-answer session that followed, investors expressed their dismay. Those who bought preferred shares at $25 and expected a dividend must sell for $5 in cash plus stock that today is worth $1.09.

“I don’t ever think I have ever seen in my years on the Street, a $25 par being called in at $5,” said Shelley Bergman, of New York-based Morgan Stanley, who said he owned shares for himself and clients.

WaMu has announced horrible results:

Washington Mutual Inc., the biggest U.S. savings and loan, reported a $3.3 billion second-quarter loss as tumbling home prices left a record number of borrowers unable to keep up with mortgage payments. The shares surged 10 percent as the company announced it would cut costs.

The loss of $6.58 a share compared with net income of $830 million, or 92 cents a share, a year earlier, the Seattle-based company said today in a statement. The cost of uncollectible loans jumped 58 percent to $2.2 billion from the first quarter.

… and their earnings release notes:

On July 15, WaMu’s Board of Directors declared a cash dividend of $0.01 per share on the company’s common stock. Dividends on the common stock are payable on Aug. 15, 2008 to shareholders of record as of Jul. 31, 2008. In addition to declaring a dividend on the company’s common stock, the company will pay a dividend of $0.2528 per depository share of Series K Preferred Stock to be payable on Sept. 15, 2008 to holders of record on Sept. 1, 2008, a dividend of $19.8056 per share of Series R Preferred Stock to be payable on Sept. 15, 2008 to holders of record on Sept. 1, 2008.

So … as mentioned yesterday, Accrued Interest propounded the “worst of both worlds” argument … as these events show, it is also possible to propound the “best of both worlds” argument (although Thornburg pref holders might quibble at the use of the word “best”, at least they’re getting some pickings off the carcass).

Prefs are oval pegs; no attempt should be made to fit them neatly into either square or circular holes. Investors should look at prefs for what they are, and not overweight any particular scenario for future developments.

Catching up on a little miscellaneous banking system stuff … Charles Wyplosz reviews the bank-bailout question on VoxEU; not much substance, frankly, but he did point out:

Bagehot principles can be applied when one or two banks fail, but when the whole system is under threat, this is no longer an option.

Also, it looks like the HBOS rights issue has flopped:

HBOS was facing a further period of uncertainty last night, with underwriters holding more than 60 per cent of the bank’s rights issue shares and the City waiting anxiously for the bank’s interim results next week.
As a result of the banking giant’s £4 billion rights issue flop, underwriters Morgan Stanley and Dresdner Kleinwort are likely to have the stake – worth more than £2.4bn – after this evening’s 4:30pm deadline for them to sell the shares on.

That gives them a substantial share in the Edinburgh-based company which has an estimated overall stock market value after the rights issue of about £15bn.

Accrued Interest points out that negative convexity on Agency paper is more negative than usual:

There is a large number of homeowners currently underwater on their mortgage, and an even larger number with less than 20% equity. Given that getting a mortgage with less than 20% down payment is difficult and very expensive right now, homeowners who currently have less than 20% equity would have to come up with a lot of cash in order to move to another home.

So the housing turnover element of mortgage principal payments is set to plummet. In addition, the same factors will prevent many refinancings. A borrower underwater on his current mortgage will not be able to refinance his loan just because rates fall 50bps.

This means that the average life of a mortgage is longer than is currently being assumed.

As investors come to terms with the extending average lives, prices are likely to fall rather than yield spreads contract. Holding the 271bps yield spread constant but extending the average life to 9 years causes the price to drop by over 3%.

The OSC is attempting to ensure that self-regulatory-organizations have jurisdiction over individuals’ conduct within the industry even after they have quit:

On July 15, 2008, the Ontario Superior Court of Justice, Divisional Court, allowed an appeal by Stephen Taub on the basis that the Securities Act does not authorize self-regulatory organizations (SROs) that have been recognized by the OSC to discipline former members. The Commission’s recognition of an SRO is designed to provide protection to investors from unfair, improper or fraudulent practices and to foster fair and efficient capital markets.

“The Commission is concerned that investor protection would be weakened if a registered representative could avoid the consequences of breaching SRO rules by resigning from his or her SRO member firm,” said OSC Executive Director Peggy Dowdall-Logie. “An SRO’s ability to take disciplinary action against former members, and former representatives of its member firms, is fundamental to effective investor protection and the functioning of an effective SRO.”

This has implications for the David Berry saga … RS ruled that it has jurisdiction over him (and could therefore judge whether he violated UMIR) – this ruling was, presumably, jeopardized by the Taub ruling.

Another good strong day for PerpetualDiscounts, but volume was light. Have all the sportin’ gents placed their bets? Despite the gains, the index has not yet recovered to where it was July 11 … we’re still trying to recover from the awful, awful July 14, as Louis XVI used to say. The PerpetualDiscount weighted-mean-average pre-tax yield-to-worst is now 6.46%, or 9.04% pre-tax interest-equivalent at the standard 1.4x equivalency factor. Long Corporates now yield 6.20%, so the PTIE spread now stands at 284bp, still way through the old, recently smashed, record of 250bp.

Note that these indices are experimental; the absolute and relative daily values are expected to change in the final version. In this version, index values are based at 1,000.0 on 2006-6-30
Index Mean Current Yield (at bid) Mean YTW Mean Average Trading Value Mean Mod Dur (YTW) Issues Day’s Perf. Index Value
Ratchet 4.35% 3.97% 35,024 0.08 1 +0.0000% 1,122.4
Fixed-Floater 4.68% 4.40% 69,930 16.32 6 +0.0619% 1,085.0
Floater 4.13% 4.15% 54,331 17.11 3 +0.8501% 894.0
Op. Retract 5.00% 4.71% 141,390 3.42 17 +0.0191% 1,038.9
Split-Share 5.39% 6.36% 62,923 3.94 14 +0.6225% 1,026.7
Interest Bearing 6.15% 6.10% 41,267 3.69 3 +0.0676% 1,119.2
Perpetual-Premium 6.20% 6.20% 70,585 10.58 4 -0.4451% 973.1
Perpetual-Discount 6.40% 6.46% 232,385 13.29 67 +0.4124% 828.5
Major Price Changes
Issue Index Change Notes
RY.PR.W PerpetualDiscount -2.5258% Now with a pre-tax bid-YTW of 6.28% based on a bid of 19.52 and a limitMaturity.
BAM.PR.H OpRet -2.1912% Now with a pre-tax bid-YTW of 6.46% based on a bid of 24.55 and a softMaturity 2012-3-30 at 25.00. Compare with BAM.PR.I (6.27% to 2013-12-30), BAM.PR.J (7.02% to 2018-3-30) and BAM.PR.O (6.56% to 2013-6-30).
PWF.PR.I PerpetualDiscount -2.0426% Now with a pre-tax bid-YTW of 6.55% based on a bid of 23.02 and a limitMaturity.
CU.PR.B PerpetualDiscount -1.3821% Now with a pre-tax bid-YTW of 6.28% based on a bid of 24.26 and a limitMaturity.
ELF.PR.G PerpetualDiscount -1.3333% Now with a pre-tax bid-YTW of 7.37% based on a bid of 16.28 and a limitMaturity.
BNS.PR.J PerpetualDiscount -1.2605% Now with a pre-tax bid-YTW of 6.24% based on a bid of 21.15 and a limitMaturity.
ALB.PR.A SplitShare +1.0309% Asset coverage of just under 1.6:1 as of July 17, according to Scotia Managed Companies. Now with a pre-tax bid-YTW of 5.36% based on a bid of 24.50 and a hardMaturity 2011-2-28 at 25.00.
GWO.PR.I PerpetualDiscount +1.0339% Now with a pre-tax bid-YTW of 6.48% based on a bid of 17.59 and a limitMaturity.
GWO.PR.H PerpetualDiscount +1.0695% Now with a pre-tax bid-YTW of 6.50% based on a bid of 18.90 and a limitMaturity.
TCA.PR.X PerpetualDiscount +1.1492% Now with a pre-tax bid-YTW of 6.12% based on a bid of 45.77 and a limitMaturity.
BNA.PR.A SplitShare +1.1503% Asset coverage of 3.2+:1 as of June 30, according to the company. Now with a pre-tax bid-YTW of 5.34% based on a bid of 25.50 and a call 2008-10-31 at 25.25. Compare with BNA.PR.B (8.25% to 2016-3-25) and BNA.PR.C (8.91% to 2019-1-10).
BNA.PR.B SplitShare +1.3780% See BNA.PR.A, above.
IGM.PR.A OpRet +1.3834% Now with a pre-tax bid-YTW of 5.26% based on a bid of 25.65 and a softMaturity 2013-6-29 at 25.00.
CM.PR.H PerpetualDiscount +1.3905% Now with a pre-tax bid-YTW of 6.91% based on a bid of 17.50 and a limitMaturity.
SLF.PR.D PerpetualDiscount +1.3905% Now with a pre-tax bid-YTW of 6.44% based on a bid of 17.50 and a limitMaturity.
CM.PR.D PerpetualDiscount +1.4627% Now with a pre-tax bid-YTW of 6.96% based on a bid of 20.81 and a limitMaturity.
GWO.PR.G PerpetualDiscount +1.4639% Now with a pre-tax bid-YTW of 6.55% based on a bid of 20.10 and a limitMaturity.
SLF.PR.C PerpetualDiscount +1.4663% Now with a pre-tax bid-YTW of 6.51% based on a bid of 17.30 and a limitMaturity.
NA.PR.L PerpetualDiscount +1.6465% Now with a pre-tax bid-YTW of 6.57% based on a bid of 18.52 and a limitMaturity.
POW.PR.B PerpetualDiscount +1.6782% Now with a pre-tax bid-YTW of 6.55% based on a bid of 20.60 and a limitMaturity.
PWF.PR.F PerpetualDiscount +1.7910% Now with a pre-tax bid-YTW of 6.45% based on a bid of 20.46 and a limitMaturity.
MFC.PR.C PerpetualDiscount +1.9597% Now with a pre-tax bid-YTW of 6.27% based on a bid of 18.21 and a limitMaturity.
CM.PR.J PerpetualDiscount +2.0073% Now with a pre-tax bid-YTW of 6.76% based on a bid of 16.77 and a limitMaturity.
BMO.PR.H PerpetualDiscount +2.1382% Now with a pre-tax bid-YTW of 6.58% based on a bid of 20.54 and a limitMaturity.
FFN.PR.A SplitShare +2.5559% Asset coverage of just under 1.6:1 as of July 15, according to the company … with a note: “As at the close on July 17, 2008, there have been material upward movements in the net asset values ranging from 10% to 25%.” Now with a pre-tax bid-YTW of 6.06% based on a bid of 9.63 and a hardMaturity 2014-12-01 at 10.00.
CM.PR.I PerpetualDiscount +2.5565% Now with a pre-tax bid-YTW of 6.86% based on a bid of 17.25 and a limitMaturity.
BAM.PR.B Floater +2.7382%  
POW.PR.D PerpetualDiscount +3.1568% Now with a pre-tax bid-YTW of 6.55% based on a bid of 19.28 and a limitMaturity.
Volume Highlights
Issue Index Volume Notes
NA.PR.L PerpetualDiscount 21,290 National Bank crossed 10,000 at 18.53. Now with a pre-tax bid-YTW of 6.57% based on a bid of 18.52 and a limitMaturity.
BAM.PR.O OpRet 17,500 Now with a pre-tax bid-YTW of 6.56% based on a bid of 23.51 and optionCertainty 2013-6-30 at 25.00.
BNS.PR.L PerpetualDiscount 17,220 Now with a pre-tax bid-YTW of 6.32% based on a bid of 17.91 and a limitMaturity.
CM.PR.I PerpetualDiscount 16,825 Now with a pre-tax bid-YTW of 6.86% based on a bid of 17.25 and a limitMaturity.
RY.PR.H PerpetualDiscount 16,500 Now with a pre-tax bid-YTW of 5.93% based on a bid of 23.80 and a limitMaturity.

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

AR.PR.A / AR.PR.D / AR.PR.B to be cease-traded, delisted

July 22nd, 2008

RSM Richter has announced:

that the Ontario Superior Court of Justice (Commercial List) ( the “Court”) issued an order authorizing the Receiver, on behalf of Argus, to consent to a cease trade order (the “Argus CTO”) to be issued by the Ontario Securities Commission (the “OSC”). The date upon which the Argus CTO will be issued has not yet been determined.

The Argus CTO will apply to all securities of the Company but will contain carve-outs to permit trades in the Company’s securities that are made: (i) in connection with the Company’s Companies’ Creditors Arrangement Act (Canada) proceedings or receivership proceedings and as approved by the Court; (ii) for nominal consideration for the purpose of permitting a holder to crystallize a tax loss; or (iii) by or to an entity that qualifies as an “accredited investor” as that term is defined under applicable Canadian securities laws. Provided that with respect to (ii) and (iii) a copy of the Argus CTO is provided and the seller receives an acknowledgment that the Argus securities remain subject to the Argus CTO.

The Receiver is to maintain a transfer registry for exempt trades until January 31, 2010, which is to be funded from the Argus estate account maintained by the Receiver.

The Company has also been advised by the Toronto Stock Exchange (the “TSX”) that, provided the Argus CTO is granted, the TSX will initiate a process that will lead to the delisting of the Company’s Class A Preference Shares Series $2.50, Class A Preference Shares Series $2.60 and Cumulative Class B Preference Shares Series 1962 from the TSX following the issuance of the Argus CTO.

The Argus CTO is being issued as a result of the Company’s failure to (i) file audited annual financial statements, and other financial information for years ended December 31, 2005, 2006, and 2007; (ii) interim financial statements for the fiscal periods ended March 31 and June 30, 2008; and (iii) comply with other regulatory requirements. The Receiver also announced that in the interests of reducing costs for the benefit of its stakeholders, it would be discontinuing the preparation and filing on a bi-weekly basis the status reports required under the terms of the Management Cease Trade Order issued on June 1, 2004 by the OSC.

AR.PR.B was tracked by HIMIPref™ until the low price caused mechanical problems. AR.PR.A and AR.PR.D have not been tracked by HIMIPref™.

Update, 2008-7-23: The TSX has announced:

Pursuant to an Order issued on July 21, 2008 by the Ontario Superior Court of Justice (Commercial List) (the “Court”) the Company, by its receiver and manager, interim receiver and monitor, RSM Richter Inc., has been authorized by the Court to consent to the delisting of Argus Corporation Limited’s Class A Preference Shares Series $2.50 (Symbol: AR.PR.A), Class A Preference Shares Series $2.60 (Symbol: AR.PR.D) and Cumulative Class B Preference Shares Series 1962 (Symbol: AR.PR.B) (collectively the “Securities”). Accordingly, TSX will delist the Securities at the close of market on August 22, 2008 for failure to meet the continued listing requirements of TSX. The Securities of the Company are currently halted due to the imposition of a Cease Trade Order by the Ontario Securities Commission. In addition, the Securities have been suspended from trading by TSX effective immediately.

Loan Losses: ALLL vs. EL

July 22nd, 2008

These are some notes for a forthcoming article.

The US Interagency Policy Statement on the Allowance for Loan and Lease Losses (via Deloitte’s IAS Plus, December 16, 2006.

FAS 5 requires the accrual of a loss contingency when information available prior to the issuance of the financial statements indicates it is probable that an asset has been impaired at the date of the financial statements and the amount of loss can be reasonably estimated. These conditions may be considered in relation to individual loans or in relation to groups of similar types of loans. If the conditions are met, accrual should be made even though the particular loans that are uncollectible may not be identifiable. Under FAS 114, an individual loan is impaired when, based on current information and events, it is probable that a creditor will be unable to collect all amounts due according to the contractual terms of the loan agreement. It is implicit in these conditions that it must be probable that one or more future events will occur confirming the fact of the loss. Thus, under GAAP, the purpose of the ALLL is not to absorb all of the risk in the loan portfolio, but to cover probable credit losses that have already been incurred.

Typically, institutions evaluate and estimate credit losses for off-balance sheet credit exposures at the same time that they estimate credit losses for loans. While a similar process should be followed to support loss estimates related to off-balance sheet exposures, these estimated credit losses are not recorded as part of the ALLL. When the conditions for accrual of a loss under FAS 5 are met, an institution should maintain and report as a separate liability account, an allowance that is appropriate to cover estimated credit losses on off-balance sheet loan commitments, standby letters of credit, and guarantees.

The discussion in Donald Powell’s testimony to the Senate Banking, Housing & Urban Affairs Committee (2005) states:

Some comment is also needed about the possibility of using the allowance for loan and lease losses (ALLL) as a benchmark for evaluating the conservatism of ELs. The aggregate allowance reported by the 26 companies in QIS-4 totaled about $55 billion, and exceeded their aggregate EL, and this comparison might suggest the ELs were not particularly conservative and could be expected to increase. We do not believe this would be a valid inference. The ALLL is determined based on a methodology that measures losses imbedded over a non-specific future time horizon. Basel II ELs, in contrast, are intended to represent expected one-year credit losses. Basel II in effect requires the allowance to exceed the EL (otherwise there is a dollar for dollar capital deduction to make up for any shortfall). More important, the Basel II framework contains no suggestion that if the EL is less than the ALLL, then the EL needs to be increased—on the contrary this situation is encouraged, up to a limit, with tier 2 capital credit.

Given these considerations, we regard the comparison of ELs to average charge offs as a proxy for the degree of conservatism imbedded in PD and LGD estimates. ELs that are in excess of loss experience in effect imbed a cushion into QIS-4 capital requirement, and suggest that when the system goes live, lower capital requirements could be supported consistent with the standards prescribed by the framework.

A defense of Future Margin Income as an offset to EL – Future Margin Income and the EL Charge for Credit Cards in Basel II:

Specifically, while regulators view the ALLL as serving the purpose of “covering” EL, practitioners disagree and say that loan yields must at least cover EL so that all of the ALLL is available to serve a capital purpose. Specifically, practitioners say that yields must be at least enough to cover interest expenses, all net noninterest expenses, all expected credit losses, and a market return to economic capital. If this is not the case, the bank has
priced the loan too low and the loan is not generating any added value to the bank’s shareholders.

Risk Management Association comment letter (2003)

Basel staff apparently believes that, since Total Capital is defined to include the ALLL, and since some supervisors and some bankers have stated that “the ALLL covers EL”, required Total Capital should therefore be measured as LCI inclusive of EL, not net of EL.

This supervisory view is in sharp contrast to the view of the risk practitioner. In our view, the ALLL is an accounting item that has nothing to do with covering EL and, in fact, has nothing to do with measuring required risk-adjusted or economic capital. There is a quite separate question, of course, as to whether the ALLL should be among those balance sheet items that constitute actual capital for purposes of deciding whether such balance sheet capital is at least as high as measured Economic Capital (EC). If such a balance sheet test is not met that is, if the bank’s balance sheet analogue to mark-to-market capital (mark to market net asset value) is not at least equal to EC then the bank is undercapitalized by its own standards. The bank cannot be meeting its particular debt-rating target (soundness target) unless it has real capital at least equal to measured EC. Until Basel’s authors separate these two issues a) how to measure required capital (EC) versus b) how to define the balance sheet items that should be included within a measurement of actual capital it will continue to have difficulty aligning the Pillar 1 requirements with best-practice economic capital procedures. In the market’s view, capital is not needed to cover EL because the essential risk pricing and shareholder value-added relationships require that EL be at least covered by expected future margins. Note that we do not say that EL is covered by actual future margins, only that expected losses are at least covered by expected margins. Business practice has always required that prices cover expected losses, other expenses, and a return to capital even before the advent of Economic Capital.

Not only should required capital be measured net of EL, but also, as indicated above, actual mark-to-market capital is best approximated by including the ALLL in Tier 1 capital. It is Tier 1 capital that is the true, expensive form of capital, and including the ALLL in Tier 1 would reduce, if not eliminate, inequitable capital treatment across nations associated with differences in the accounting treatment of the ALLL. That is, abstracting from tax and dividend effects, any mandated high levels of ALLL (in a conservative ALLL country) would correspondingly reduce retained earnings, while any leniency in accounting for ALLL (in liberal ALLL countries) would result in increased retained earnings.

Competitive Effects of Basel II on US Bank Credit Card Lending (2007)

We analyze the potential competitive effects of the proposed Basel II capital regulations on U.S. bank credit card lending. We find that bank issuers operating under Basel II will face higher regulatory capital minimums than Basel I banks, with differences due to the way the two regulations treat reserves and gain-on-sale of securitized assets. During periods of normal economic conditions, this is not likely to have a competitive effect; however, during periods of substantial stress in credit card portfolios, Basel II banks could face a significant competitive disadvantage relative to Basel I banks and nonbank issuers.

There are several important differences between the Basel II rules and Basel I rules with respect to the measurement of regulatory capital. The Basel II regime defines capital as a cushion against unexpected losses and not against all losses as in Basel I. Thus, under Basel II, expected losses (calculated as PD × EAD × LGD) are deducted from total capital. This change in the concept of capital is particularly important for credit cards, since expected losses on credit cards are approximately 10 times higher than those on other bank loan products. Thus, a large component of the impact of Basel II on effective capital requirements comes from the deduction of expected loss from total regulatory capital and the treatment of the allowance for loan and lease losses (ALLL), which is meant to offset the bank’s expected losses.

The ALLL and expected losses also affect the definition of tier 1 capital under Basel II but not under Basel I. If eligible reserves are less than expected losses, then half of the reserve shortfall is deducted from tier 1 capital. This shortfall is calculated based on a bank’s entire portfolio and not product by product. Whereas bank reserves allocated to credit card loans are typically less than expected losses, reserves often exceed expected losses for many other bank products. Thus, Basel II monoline credit card banks would typically have a substantial tier 1 capital deduction due to the reserve shortfall, while most diversified banking institutions would not have a tier 1 deduction, since the surplus reserves in other portfolios will offset the reserve shortfall in the credit card portfolio. Thus, under Basel II, monolines benefit with respect to total capital because of the reserve cap provision but issuers within diversified banking organizations benefit with respect to tier 1 capital because of the treatment of the reserve shortfall.

Risk Management Assoc., 2004:

The Framework’s limit on the amount of the ALLL that can count as Tier 2 capital. In the U.S. (and possibly in some other Basel countries), single-family residential (“SFR”) lending and credit card lending could be handicapped by the Framework’s treatment of the [ALLL minus EL] test. Reserves for SFRs, as is the case for other business lines, are accounted for roughly in proportion to current expected loss rates on the SFR portfolio. Over the last several years, even with the recent recession, such expected loss rates have been low. As a result, mortgage businesses have tended to hold their economic capital in the form of real equity, not in the form of high reserves. Basel LGDs, however, would likely be a multiple of current economic LGDs, which, under the Framework, could lead to a “shortfall” in the ALLL minus EL calculation. Fifty percent of this shortfall must be deducted from Tier 1 capital and 50% from Tier 2 capital, for regulatory capital purposes. Even though the market views the sum of Tier 1 plus the ALLL to be a cushion against unexpected losses, the mortgage business lines would be penalized for holding their capital in the form of equity rather than reserves.
In credit card lending, accounting practices also do not permit high reserves. footnote 3 In particular, U.S. banks are not permitted to establish a loan loss reserve for the undrawn portion of lines. Moreover, some banks do not reserve for accounts held for securitization (which are carried at fair value or LOCOM). Most importantly, auditors may require that the ALLL for outstanding card balances be computed over a shorter horizon than the one-year horizon associated with EL. As a consequence, [ALLL – EL] may be in a shortfall for banks engaged in the card business — especially, for those banks securitizing some portion of their card accounts. Banks that engage in the card business therefore may hold capital in the form of equity, not reserves, against the risk of such products — and the market does not distinguish between these two forms of capital. Similar problems may arise within other retail lines of business such as HELOCs and home equity term loans.
We suggest that the inequities associated with the [ALLL-EL] test may be alleviated through country-specific treatment of the ALLL-EL computation. That is, where GAAP does not permit there to be a positive ALLL-EL computation, the supervisor might first make a determination as to the sufficiency of overall bank capital. Where no capital deficiency exists, the supervisor could then treat the ALLL for capital purposes as if it equaled EL. Still another method to treat the problem would be for supervisors to permit an EL calculation (only for purposes of the ALLL-EL test) in which the EL calculation uses the same horizon and assumptions as are built into the accounting treatment of the ALLL.

Note: footnote 3 Although accounting practices do not permit high reserves, the bank still has a market capital requirement that must be met with another form of equity. Thus, the ratios of Tier 1 to Total Capital at the large mortgage and card specialists in the RMA group are significantly higher than for large full-line banks. It would be inequitable to reduce the amount of recognized Tier 1 at these institutions because of accounting procedures.

footnote 4 There are at least three types of differences in assumptions that exist between the GAAP treatment of provisions and the EL computation as required by Basel: a) GAAP may require a shorter time horizon; b) GAAP may not include all of the economic expenses associated with default and recovery, such as certain foreclosure and REO expenses, and the time value of money; and c) GAAP provisioning incorporates current expectations regarding LGDs, not stressed LGDs.

Repullo & Suarez examined the procyclicity of Basel II and estimated:

Under realistic parameterisations, Basel II leads banks to hold buffers that range from about 2% of assets in recessions to about 5% in expansions. The procyclicality of these buffers reflects the fact that banks are concerned about the upsurge in capital requirements that takes place when the economy goes into a recession. We find, however, that these equilibrium buffers are insufficient to neutralise the effects of the arrival of a recession, which may cause a very significant reduction in the supply of credit – ranging from 2.5% to 12% in our simulations, depending on the assumed cyclical variation of the default rates.

Bank of Canada Financial System Review, June 2003:

Update, 2008-07-23: See also What Constrains Banks?

Update, 2008-07-23: Basel II and the Scope for Prompt Corrective Action in Europe:

The Quantitative Impact Studies conducted by the Basel Committee regarding the effects of implementing the Internal Ratings standard indicate that many banks will be able to lower their required capital as much as 25 percent while other similar banks will not be able to reduce their required capital at all. The variation in capital requirements across banks that seem to be similar in terms of risk-taking can become very large. This sensitivity of banks’ required capital to their choice of assets could lead to distortions of banks’ investments in risky assets. Banks will favour some assets over others in spite of similar risk and return because they can reduce the required capital without reducing the return on assets. One remedy for such distortions is to use PCA trigger ratios to introduce definitions that do not depend on Basel II risk weights. One possibility is to use simple leverage ratios (equity to non-weighted assets) as trigger ratios. Another is to use the standardized risk-weights in Basel II based on evaluations of borrowers by external rating agencies.

See also Bank Regulation: The Assets to Capital Multiple.

WaMu Letter, 2004:

As a final point, the U.S. applies an even more arbitrary “Tier 1 leverage” ratio of 5% (defined as the ratio of Tier 1 capital to total assets) in order for a bank to be deemed “well-capitalized”. As we have noted in our prior responses, the leverage requirement forces banks with the least risky portfolios (those for which best-practice Economic Capital requirements and Basel minimum Tier 1 requirements are less than 5% of un-risk-weighted assets) either to engage in costly securitization to reduce reported asset levels or give up their lowest risk business lines. These perverse effects were not envisioned by the authors of the U.S. “well-capitalized” rules, but some other Basel countries have adopted these rules and still others might be contemplating doing the same.

ALLL should continue to be included in a bank’s actual capital irrespective of EL. As we and other sources [footnotes] have noted, it is our profit margins net the cost of holding (economic) capital that must more than cover EL. As a member of the Risk Management Association’s (RMA) Capital Working Group, we refer the reader to a previously published detailed discussion of this issue that we have participated with other RMA members in developingfootnote 4. This issue is also addressed at length in RMA’s pending response to this same Oct. 11, 2003 proposal.

A Bridge too Far, Peter J. Wallison, 2006

Furthermore, the Basel formulas do not take into account a bank’s portfolio as a whole; they operate solely by adding up the assessments of each individual exposure and thus do not consider concentration risk.

[Footnote] The BCBS notes: “The model should be portfolio invariant, i.e. the capital required for any given loan should only depend on the risk of that loan and must not depend on the portfolio it is added to. This characteristic has been deemed vital in order to make the new IRB framework applicable to a wider range of countries and institutions. Taking into account the actual portfolio composition when determining capital for each loan — as is done in more advanced credit portfolio models — would have been a too complex task for most banks and supervisors alike.” (BCBS, An Explanatory Note, 4.)

To compensate for Basel II’s deficiencies, U.S. regulators (under Congressional pressure) have decided to keep the leverage ratio as an element of the capital tests that would be applied to banks even if Basel II is ultimately adopted. This seems sensible. The leverage ratio — tier 1 capital divided by total assets — is not a formula, nor is it risk-based; it is simply a measurement of the size of the ultimate capital cushion that a bank has available in the event of severe losses. It is an important fail-safe measure because it will become the binding element of the capital requirements for banks using Basel II if their risk-based capital levels — as measured by the IRB approach — fall too low. In a sense, no harm can come from the deficiencies of Basel II as long as the leverage ratio — at its current level — remains in place.

Heavyweights clash over “meaningless” ratios :

But the FDIC is the first to explicitly identify a possible conflict between this existing US approach to bank safety and possible outcomes under Basel II – and to marshal a strong defence of the leverage ratio.

This is because bank capital is divided into Tier 1 and Tier 2 categories. Yet, only Tier 1 capital really counts, because that is real equity. Tier 2 capital consists of subordinated debt. An increase in subordinated debt does not decrease a bank’s probability of insolvency. In fact, it is the failure of that debt that constitutes insolvency, says [independent consultant, and advisor to the Philadelphia-based Risk Management Association (RMA), John] Mingo.

So, it is only Tier 1 capital that determines insolvency probability. “The Basel Committee, being political, was obliged to adopt total capital as its standard – including subordinated debt – because the Japanese banks don’t have any equity,” he adds. The decision to make Tier 1 capital a minimum of half total capital, as well as the choice of a 99.9% confidence interval for total capital, were also arbitrary, in Mingo’s view.

Everything Old is New Again – The Return of the Leverage Ratio:

On June 19, 2008, Peter Thal Larsen of the Financial Times reported that, “Philipp Hildebrand, vice-chairman of the Swiss National Bank, called for the introduction of a “leverage ratio”, which would place a limit on the extent to which a bank’s assets could exceed its capital base.” (“Swiss banker calls for ‘leverage ratio’”, Peter Thal Larsen, June 19 2008) The idea now is that while adjusting the leverage ratio for risk is a laudable goal, the models that facilitate the adjustment are necessarily flawed to one extent or another and cannot be adequately relied upon, in isolation.

Good background piece: The Basel Accords: The Implementation of II and the Modification of I – Congressional Research Service, 2006

IIF, ISDA, LIBA comment letter, 2007:

The Agencies have publicly indicated their intention to retain the leverage ratio in conjunction with the new international framework capital requirements. We believe that the leverage ratio should be reviewed for phase-out upon completion of the introduction of the international framework. This device not only lacks risk sensitivity but ignores fundamental principles by which modern financial institutions manage their portfolios and risks. In particular, the application of the leverage ratio is inconsistent with the fundamental Basel II principle by which banks can improve their risk profiles either by holding additional capital or by holding less risk in their portfolios. In essence, a regulatory capital tool that limits itself to a crude comparison of assets in the balance sheet against capital is inconsistent with the way financial institutions currently operate.
For certain banks subject to the international framework, the leverage ratio will become a binding constraint because of its lack of risk sensitivity. Banks that accumulate low credit risk assets on their balance sheets will be penalized for adopting such a strategy, because the leverage ratio is not dependent on how conservatively banks operate. This will have the counter-prudential effect of encouraging those banks that find themselves constrained by the leverage ratio to change strategy, possibly by acquiring riskier assets until their regulatory risk-based capital and leverage capital requirements are equalized, or by reducing their willingness to provide credit services vital to the health of the economy.
Even banks that have very strong capital structures, with substantial Tier 1 capital against RWA, may be caught by the rigidity of the leverage ratio. The leverage ratio requirement thus can distort market perceptions and improperly interfere with management strategy, because it is a constraint inconsistent with the objective of introducing more risk-sensitive capital requirements, as agreed through the international framework. Continuation of the leverage ratio undermines many of the purposes the regulatory community – including the US regulators – sought to accomplish when they saw the need to replace Basel I.
Moreover, to the extent that the leverage ratio results in a higher minimum capital requirement than justified by the risk presented by banks’ activities, the regulatory requirement will have the effect of reducing the flow of credit to the economy. We therefore believe that the permanent retention of the leverage ratio is not appropriate from an economic perspective. It may be unavoidable to retain a leverage ratio during the capital-floor periods to manage the transition from Basel I to Basel II, but this should be a temporary expedient, subject to regulatory review within a reasonable period of time. It should be stressed that this is a comment on the lack of risk sensitivity, risk-management disincentives, and negative international competitive effects of the leverage ratio. It is not a comment on the general concept of prompt corrective action (PCA). We support the principle of prompt corrective action properly linked with the more appropriate risk-sensitive requirements of Basel II, which in turn will strengthen PCA’s effectiveness.

Update, 2008-7-24: See also

July 21, 2008

July 21st, 2008

Accrued Interest has deprecated US Preferreds as an investment, using what I call the ‘worst of both worlds’ argument; that the upside is limited compared to common and the downside is much greater (or at least more probable) than senior bonds.

I have written a short post with some background on US TruPS.

As I noted on FWF on the weekend:

I find – when having conversations such as this with stockbrokers – that it is very useful to look at actual numbers. In my article A Vale of Tiers, I looked at various Royal Bank investment vehicles and compared their expected returns to their degree of subordination.

Perhaps this thread could be profitably employed to update and expand the “Table 1” of my article.

Preferred shares represent a range on the risk/return spectrum that will be of interest to many investors. I will note that despite some alarmist stockbroker talk very few issues actually default. There are nine defaulted issues on the NYSE, according to Quantum Online; four of which are from Thornburg Mortgage. As counterexamples, one may consider Citibank and Fortis Bank, both of which have massively diluted their common shareholders and cut the common dividend (the latter to zero) without inconveniencing the preferred shareholders. For many battered companies, issuance of preferred stock is the only palatable option; they are not going to cut their own throats by cutting the dividend with gay abandon.

For investors in Canadian bank preferreds, it should be noted that preferred stock and innovative tier 1 capital are capped at a limit of 30% of total Tier 1 Equity. If they were to slowly drift into bankruptcy, they would be taken over by OFSI and the CDIC when their Tier 1 ratio declined below 4% (possibly at the 5% level). At these levels, there will still be some common equity left; preferred capital will not be impaired.

Therefore, the most realistic nightmare scenario is a jump to default; investors may assign their own probabilities to this.

Diversify!

I would have been much more impressed with the Accrued Interest post had he used actual numbers and made some effort to quantify risk. Yes, you can lose every dime investing in preferreds – you can lose every dime investing in any corporate security. But what are the odds? Let’s see an attempt to quantify risk whenever we quantify return.

That being said, it should be noted that Wachovia had a Tier 1 Ratio of 7.35% (well below the Canadian average of about 9.5%) and a Total Capital ratio of 11.82% (about the Canadian median). Determining the effective subordination of the issue highlighted by Accrued Interest is made a little more difficult by the prospectus note for the issue highlighted (NYSE: WBPRC):

Wachovia receives a significant portion of its revenue from dividends from its subsidiaries. Because it is a holding company, its right to participate in any distribution of the assets of its banking or nonbanking subsidiaries, upon a subsidiary’s dissolution, winding-up, liquidation or reorganization or otherwise, and thus your ability to benefit indirectly from such distribution, is subject to the prior claims of creditors of any such subsidiary, except to the extent that Wachovia may be a creditor of that subsidiary and its claims are recognized. There are legal limitations on the extent to which some of its subsidiaries may extend credit, pay dividends or otherwise supply funds to, or engage in transactions with, it or some of its other subsidiaries. Wachovia’s subsidiaries are separate and distinct legal entities and have no obligation, contingent or otherwise, to pay amounts due under Wachovia’s contracts or otherwise to make any funds available to it. Accordingly, the payments on the LoTSSM, and therefore the Trust Preferred Securities, effectively will be subordinated to all existing and future liabilities of Wachovia’s subsidiaries. At December 31, 2006, Wachovia’s subsidiaries’ direct borrowings and deposit liabilities was $730 billion.

… and I ain’t gonna do it! I will say, however, that before opining on the merits or lack thereof on an investment in these TruPS, it should be done!

Incidentally, further down in the FWF thread where I made my comment, there was another post:

We were talking upthread about corporate versus preferred rates. While the IShares corporate bond ETF has not moved much, I noticed on the Waterhouse Fixed Income site that virtually all corporate banks now have a significant spread against their provincial same-rated counterparts. The spread approaches 1% starting three years out. Just a couple of years ago, that spread would have been maybe 0.2-0.3% (as I recall). So, it would appear that bank corporates have definitely been hit by the credit crisis.

See my note about the BoC Review of June 2008 … financials used to be 40-ish bp tight to industrials … now they’re even-ish.

Here’s another strangeness in which unitholders in the fund have an interest:

BMO Perpetuals
Issue Dividend Quote
7/21
Pre-Tax
Bid-YTW
7/21
BMO.PR.J 1.1250 18.11-30 6.33%
BMO.PR.K 1.3125 20.90-00 6.40%
BMO.PR.H 1.3250 20.11-26 6.72%
BMO.PR.L 1.4500 23.05-40 6.48%

One of these things is not like the others! One of these things is not quite the same! This is a very sloppy market. I have noted the volatility of the BMO.PR.H / BMO.PR.J spread previously. BMO.PR.H has – just now – been deleted from the TXPR index, so that might – might! – have something to do with it.

Sloppiness aside, PerpetualDiscounts moved up again … but are still below the levels they were at on July 11 and are still down 5.94% on the month.

Note that these indices are experimental; the absolute and relative daily values are expected to change in the final version. In this version, index values are based at 1,000.0 on 2006-6-30
Index Mean Current Yield (at bid) Mean YTW Mean Average Trading Value Mean Mod Dur (YTW) Issues Day’s Perf. Index Value
Ratchet 4.34% 3.96% 36,460 0.08 1 +0.0000% 1,122.4
Fixed-Floater 4.68% 4.41% 71,453 16.31 6 +0.2993% 1,084.3
Floater 4.16% 4.19% 54,301 17.04 3 -0.7064% 886.4
Op. Retract 5.00% 4.75% 143,332 3.57 17 -0.0920% 1,038.7
Split-Share 5.42% 6.61% 63,024 4.01 14 +0.3773% 1,020.3
Interest Bearing 6.16% 6.16% 41,965 3.69 3 -0.1677% 1,118.4
Perpetual-Premium 6.17% 6.17% 71,221 10.63 4 -0.4322% 977.4
Perpetual-Discount 6.42% 6.48% 235,521 13.24 67 +0.4173% 825.1
Major Price Changes
Issue Index Change Notes
PWF.PR.I PerpetualDiscount -3.0928% Now with a pre-tax bid-YTW of 6.41% based on a bid of 16.52 and a limitMaturity.
BAM.PR.B Floater -2.9240%  
TCA.PR.X PerpetualDiscount -2.8970% Now with a pre-tax bid-YTW of 6.19% based on a bid of 45.25 and a limitMaturity.
RY.PR.B PerpetualDiscount -2.4066% Now with a pre-tax bid-YTW of 6.29% based on a bid of 19.06 and a limitMaturity.
IGM.PR.A OpRet -2.0519% Now with a pre-tax bid-YTW of 5.59% based on a bid of 25.30 and a softMaturity 2013-6-29 at 25.00.
BMO.PR.L PerpetualDiscount -1.9149% Now with a pre-tax bid-YTW of 6.48% based on a bid of 23.05 and a limitMaturity.
POW.PR.D PerpetualDiscount +1.8898% Now with a pre-tax bid-YTW of 6.75% based on a bid of 18.69 and a limitMaturity.
HSB.PR.C PerpetualDiscount -1.5707% Now with a pre-tax bid-YTW of 6.87% based on a bid of 18.80 and a limitMaturity.
RY.PR.F PerpetualDiscount -1.3691% Now with a pre-tax bid-YTW of 6.30% based on a bid of 18.01 and a limitMaturity.
BNA.PR.C SplitShare -1.3521% Asset coverage of 3.2+:1 as of June 30, according to the company. Now with a pre-tax bid-YTW of 8.94% based on a bid of 17.51 and a hardMaturity 2019-1-10. Compare with BNA.PR.B (8.48% to 2016-3-25) and BNA.PR.A (6.22% to 2009-10-31).
TD.PR.P PerpetualDiscount -1.1905% Now with a pre-tax bid-YTW of 6.10% based on a bid of 21.58 and a limitMaturity.
RY.PR.A PerpetualDiscount -1.0805% Now with a pre-tax bid-YTW of 6.20% based on a bid of 18.31 and a limitMaturity.
GWO.PR.H PerpetualDiscount +1.0811% Now with a pre-tax bid-YTW of 6.56% based on a bid of 18.70 and a limitMaturity.
CIU.PR.A PerpetualDiscount +1.1170% Now with a pre-tax bid-YTW of 6.16% based on a bid of 19.01 and a limitMaturity.
SLF.PR.C PerpetualDiscount +1.1869% Now with a pre-tax bid-YTW of 6.61% based on a bid of 17.05 and a limitMaturity.
POW.PR.B PerpetualDiscount +1.1988% Now with a pre-tax bid-YTW of 6.66% based on a bid of 20.26 and a limitMaturity.
BAM.PR.M PerpetualDiscount +1.2232% Now with a pre-tax bid-YTW of 7.27% based on a bid of 16.55 and a limitMaturity.
BNS.PR.J PerpetualDiscount +1.2287% Now with a pre-tax bid-YTW of 6.16% based on a bid of 21.42 and a limitMaturity.
PWF.PR.E PerpetualDiscount +1.2315% Now with a pre-tax bid-YTW of 6.73% based on a bid of 20.55 and a limitMaturity.
CM.PR.D PerpetualDiscount +1.2840% Now with a pre-tax bid-YTW of 7.06% based on a bid of 20.51 and a limitMaturity.
CM.PR.J PerpetualDiscount +1.2939% Now with a pre-tax bid-YTW of 6.89% based on a bid of 16.44 and a limitMaturity.
SLF.PR.B PerpetualDiscount +1.3609% Now with a pre-tax bid-YTW of 6.52% based on a bid of 18.62 and a limitMaturity.
WFS.PR.A SplitShare +1.3636% Asset coverage of just under 1.6:1 as of July 10, according to Mulvihill. Now with a pre-tax bid-YTW of 9.75% based on a bid of 8.92 and a hardMaturity 2011-6-30 at 10.00.
BCE.PR.C FixFloat +1.4577%  
ALB.PR.A SplitShare +1.5414% Asset coverage of just under 1.6:1 as of July 17, according to ScotiaManagedCompanies. Now with a pre-tax bid-YTW of 5.78% based on a bid of 24.25 and a hardMaturity 2011-2-28 at 25.00.
CU.PR.A PerpetualDiscount +1.7204% Now with a pre-tax bid-YTW of 6.23% based on a bid of 23.65 and a limitMaturity.
CM.PR.P PerpetualDiscount +1.7551% Now with a pre-tax bid-YTW of 7.03% based on a bid of 19.69 and a limitMaturity.
BNS.PR.N PerpetualDiscount +1.8771% Now with a pre-tax bid-YTW of 6.06% based on a bid of 21.71 and a limitMaturity.
CM.PR.E PerpetualDiscount +1.8782% Now with a pre-tax bid-YTW of 7.02% based on a bid of 20.07 and a limitMaturity.
SLF.PR.A PerpetualDiscount +2.1358% Now with a pre-tax bid-YTW of 6.45% based on a bid of 18.65 and a limitMaturity.
BAM.PR.H OpRet +2.2403% Now with a pre-tax bid-YTW of 5.77% based on a bid of 25.10 and a softMaturity 2012-3-30 at 25.00. Compare with BAM.PR.I (6.31% to 2013-12-30), BAM.PR.J (7.04% to 2018-3-30) and BAM.PR.O (6.47% to 2013-6-30).
ELF.PR.G PerpetualDiscount +2.3573% Now with a pre-tax bid-YTW of 7.27% based on a bid of 16.50 and a limitMaturity.
CM.PR.H PerpetualDiscount +2.4332% Now with a pre-tax bid-YTW of 7.00% based on a bid of 17.26 and a limitMaturity.
PWF.PR.F PerpetualDiscount +2.9186% Now with a pre-tax bid-YTW of 6.57% based on a bid of 20.10 and a limitMaturity.
DF.PR.A SplitShare +3.4375% Asset coverage of just under 1.8:1 as of July 15, according to the company. Now with a pre-tax bid-YTW of 5.47% based on a bid of 9.93 and a hardMaturity 2014-12-1.
POW.PR.A PerpetualDiscount +3.9652% Now with a pre-tax bid-YTW of 6.57% based on a bid of 21.50 and a limitMaturity.
Volume Highlights
Issue Index Volume Notes
TD.PR.O PerpetualDiscount 74,800 (Three different?) Anonymous (es?) bought from Nesbitt 2 blocks of 10,000 each at 20.60, and one block of 12,900 at 20.75. Now with a pre-tax bid-YTW of 5.90% based on a bid of 20.65 and a limitMaturity.
PWF.PR.I PerpetualDiscount 42,750 Nesbitt crossed 38,700 at 24.01. Now with a pre-tax bid-YTW of 6.41% based on a bid of 23.50 and a limitMaturity.
CL.PR.B PerpetualPremium 40,900 Nesbitt crossed 40,000 at 25.26. Now with a pre-tax bid-YTW of 6.02% based on a bid of 25.25 and a call 2011-1-30 at 25.00.
BNS.PR.J PerpetualPremium 39,210 Anonymous bought 10,000 from Nesbitt at 21.35. Now with a pre-tax bid-YTW of 6.16% based on a bid of 21.42 and a limitMaturity.
RY.PR.H PerpetualDiscount 32,800 National Bank crossed 25,000 at 24.10. Now with a pre-tax bid-YTW of 5.95% based on a bid of 24.10 and a limitMaturity.

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

SBN.PR.A Announces Normal Course Issuer Bid

July 21st, 2008

This is unlikely to be a major event, but … they did purchase some last year and they are trading at a discount to NAV so …

Mulvihill has announced:

that today, the Toronto Stock Exchange has accepted its Notice of Intention to make a normal course issuer bid. The Corporation will have the right to purchase under the bid up to a maximum of 458,470 Class A Shares and 458,470 Preferred Shares (representing approximately 10% of the Corporation’s public float), together in Units (each consisting of one Class A Share and one Preferred Share), commencing July 23, 2008. The Corporation may not purchase more than 91,694 of its Units (representing approximately 2% of the Corporation’s 4,584,700 issued and outstanding Class A Shares and approximately 2% of the Corporation’s 4,584,700 issued and outstanding Preferred Shares, both as of July 17, 2008) in any 30-day period under the bid. Purchases made pursuant to the normal course issuer bid will be made in the open market through the facilities of the Toronto Stock Exchange. The normal course issuer bid will remain in effect until the earlier of July 22, 2009, the termination of the bid by the Corporation or the Corporation purchasing the maximum number of Units permitted under the bid.

Class A Shares and Preferred Shares purchased by the Corporation pursuant to the issuer bid will be cancelled. During the previous year, the Corporation purchased 5,700 Class A Shares and 5,700 Preferred Shares at a weighted average price of $20.1899 per Unit pursuant to an issuer bid.

The units are currently trading at a discount of approximately 10% to NAV, according to Mulvihill’s July 10 NAV and current prices of SBN, SBN.PR.A and BNS closing price history.

SBN.PR.A is tracked by HIMIPref™. PrefBlog’s last comment was regarding the DBRS rating of Pfd-2(low).

FTU.PR.A Provides 11-Sigma Update … but remember WFS.PR.A

July 18th, 2008

11-Sigma? As reported on July 17, it has been claimed that US Financials recently experienced an eleven-standard-deviation price move; not just a black swan, but a black-hole swan!

Perhaps not surprisingly, US Financial 15 Split Corp has made a slight adjustment to their standard valuation page, namely a Fund Update dated July 18:

A myriad of issues have affected the financial markets and have had a dramatic impact on the Company’s portfolio. Overall financial markets continue to be adversely impacted by the confluence of record high commodity prices and the continuing credit related problems originating from the US sub prime lending market. These conditions have caused economic growth to slow considerably in both Canada and the United States while at the same time high commodity prices are beginning to lead to a marked increase in inflationary pressures. In particular, the dramatic increase in oil prices has become a large obstacle for economic recovery. The US Financial Services sector is down approx. 34% year to date and in the last month closed at its lowest level since 1997 (over 11 years).

The combined effect of the market declines and the monthly distributions paid since inception has resulted in a decline in the net asset value of the Company to $9.25 as at July 15, 2008. The recent two day rally in the market has improved the net asset value of the Company by approximately 25% as at July 17, 2008.

One of their core holdings is Merrill Lynch, which got whacked today because of their writedowns, but let’s assume that the portfolio as a whole performed equally to the US S&P 500 Financials index, which is up another 3.05%

So, we’ll estimate the current net asset value of FTU units as 9.25 * 1.28 = $11.84.

Now, this asset coverage of slightly under 1.2:1 isn’t going to reverse the recent downgrade to Pfd-3. But just for fun, suppose we don’t need no stinking credit ratings. The prefs, FTU.PR.A, closed at 7.55-75, 15×10 today, after trading 800 – count ’em, 800 – shares in a range of 7.51-52.

So, say we can put on a huge position at $8.00. Our investment has asset coverage of just under 1.5:1 – not particularly good, but it’s not too long ago that issues were routinely given Pfd-2 credit ratings with this level of coverage – and it pays $0.525 annually until maturity 2012-12-1. That’s a yield of 6.56% on 4.5-year paper with asset coverage of 1.5-ish to 1. Which ain’t bad. And there’s the possibility of a bonus 25% being paid at the end of these 4.5-years if the units can avoid losing more than ~15% of their value over this time.

Which is kind of cool.

On the other hand, there’s some competition … the very ominously named “Mulvihill World Financial Split Corp” had asset coverage of just under 1.6:1 as of July 10, with no jiggery-pokery about market-value / par-value. It was downgraded recently to Pfd-2(low). It closed today at 8.80-85, 20×5, after trading 10,100 shares in a range of 8.77-87. At the closing bid, it yields 10.24%, way more than the Split Share Index … but remember, there is no bonus here – the yield calculation assumes full repayment of the $10 principal at maturity on 2011-6-30. Over 10% as a dividend on three-year paper is normally considered a good deal … but careful investors might wish to check the quarterly list of holdings to see if there have been any little accidents.

Update, 2010-08-05: See also Why Banks Failed the Stress Test.

July 18, 2008

July 18th, 2008

Naked Capitalism reports that the auction of Cheyne Finance’s assets, mentioned July 15 realized forty-four cents on the dollar. It remains to be seen how many of these assets will actually change hands, as Cheyne’s investors can elect to receive the securities rather than the cash.

The week ended well, but we’re still down from last Friday’s close. PerpetualDiscounts now yield 6.50% dividend, equivalent to 9.00% interest; long corporates … oh, call it 6.20, that’s close enough … PTIE spread of 280bp.

So now all you guys can spend the weekend worrying about whether this is a real rally or a sucker rally. My suggestion is that half of you engage in panic buying of the stuff I’m looking to sell, while the other half dump the stuff I want to buy at whatever price you can get.

Note that these indices are experimental; the absolute and relative daily values are expected to change in the final version. In this version, index values are based at 1,000.0 on 2006-6-30
Index Mean Current Yield (at bid) Mean YTW Mean Average Trading Value Mean Mod Dur (YTW) Issues Day’s Perf. Index Value
Ratchet 4.34% 3.96% 37,955 0.08 1 +0.0000% 1,122.4
Fixed-Floater 4.70% 4.42% 72,946 16.29 6 -0.1607% 1,081.1
Floater 4.14% 4.15% 53,944 17.11 3 +0.7969% 892.7
Op. Retract 4.99% 4.58% 147,484 3.13 17 -0.0854% 1,039.7
Split-Share 5.44% 6.71% 63,443 4.02 14 +0.0067% 1,016.5
Interest Bearing 6.15% 6.04% 42,084 3.71 3 -0.2004% 1,120.3
Perpetual-Premium 6.14% 6.13% 68,188 10.70 4 +0.8028% 981.7
Perpetual-Discount 6.44% 6.50% 236,930 13.21 67 +0.9341% 821.7
Major Price Changes
Issue Index Change Notes
IAG.PR.A PerpetualDiscount -2.8807% Now with a pre-tax bid-YTW of 7.05% based on a bid of 16.52 and a limitMaturity.
BCE.PR.C FixFloat -2.3984%  
PWF.PR.K PerpetualDiscount -1.2276% Now with a pre-tax bid-YTW of 6.72% based on a bid of 18.52 and a limitMaturity.
CIU.PR.A PerpetualDiscount -1.0526% Now with a pre-tax bid-YTW of 6.22% based on a bid of 18.80 and a limitMaturity.
RY.PR.G PerpetualDiscount +1.0515% Now with a pre-tax bid-YTW of 6.28% based on a bid of 18.26 and a limitMaturity.
BMO.PR.J PerpetualDiscount +1.0615% Now with a pre-tax bid-YTW of 6.33% based on a bid of 18.09 and a limitMaturity.
CU.PR.A PerpetualDiscount +1.0870% Now with a pre-tax bid-YTW of 6.33% based on a bid of 23.25 and a limitMaturity.
RY.PR.A PerpetualDiscount +1.0923% Now with a pre-tax bid-YTW of 6.12% based on a bid of 18.51 and a limitMaturity.
POW.PR.B PerpetualDiscount +1.1111% Now with a pre-tax bid-YTW of 6.74% based on a bid of 20.02 and a limitMaturity.
BNS.PR.N PerpetualDiscount +1.1391% Now with a pre-tax bid-YTW of 6.19% based on a bid of 21.31 and a limitMaturity.
GWO.PR.I PerpetualDiscount +1.1594% Now with a pre-tax bid-YTW of 6.52% based on a bid of 17.45 and a limitMaturity.
TD.PR.Q PerpetualDiscount +1.2864% Now with a pre-tax bid-YTW of 5.95% based on a bid of 23.62 and a limitMaturity.
HSB.PR.C PerpetualDiscount +1.3263% Now with a pre-tax bid-YTW of 6.76% based on a bid of 19.10 and a limitMaturity.
RY.PR.H PerpetualDiscount +1.3276% Now with a pre-tax bid-YTW of 6.10% based on a bid of 23.66 and a limitMaturity.
LBS.PR.A SplitShare +1.3374% Asset coverage of 1.9+:1 as of July 17, according to Brompton Group. Now with a pre-tax bid-YTW of 5.62% based on a bid of 9.85 and a hardMaturity 2013-11-29.
GWO.PR.H PerpetualDiscount +1.3699% Now with a pre-tax bid-YTW of 6.63% based on a bid of 18.50 and a limitMaturity.
SLF.PR.A PerpetualDiscount +1.3881% Now with a pre-tax bid-YTW of 6.58% based on a bid of 18.26 and a limitMaturity.
RY.PR.F PerpetualDiscount +1.3881% Now with a pre-tax bid-YTW of 6.21% based on a bid of 18.26 and a limitMaturity.
MFC.PR.C PerpetualDiscount +1.4085% Now with a pre-tax bid-YTW of 6.34% based on a bid of 18.00 and a limitMaturity.
SLF.PR.B PerpetualDiscount +1.4917% Now with a pre-tax bid-YTW of 6.61% based on a bid of 18.37 and a limitMaturity.
TD.PR.R PerpetualDiscount +1.5424% Now with a pre-tax bid-YTW of 5.93% based on a bid of 23.70 and a limitMaturity.
GWO.PR.G PerpetualDiscount +1.5808% Now with a pre-tax bid-YTW of 6.60% based on a bid of 19.92 and a limitMaturity.
RY.PR.W PerpetualDiscount +1.6550% Now with a pre-tax bid-YTW of 6.16% based on a bid of 20.27 and a limitMaturity.
BMO.PR.K PerpetualDiscount +1.6577% Now with a pre-tax bid-YTW of 6.41% based on a bid of 20.85 and a limitMaturity.
POW.PR.A PerpetualDiscount +1.6716% Now with a pre-tax bid-YTW of 6.83% based on a bid of 20.68 and a limitMaturity.
CM.PR.E PerpetualDiscount +1.8088% Now with a pre-tax bid-YTW of 7.15% based on a bid of 19.70 and a limitMaturity.
PWF.PR.L PerpetualDiscount +1.8221% Now with a pre-tax bid-YTW of 6.75% based on a bid of 19.00 and a limitMaturity.
BNS.PR.O PerpetualDiscount +1.90% Now with a pre-tax bid-YTW of 5.95% based on a bid of 23.61 and a limitMaturity.
CM.PR.D PerpetualDiscount +1.9637% Now with a pre-tax bid-YTW of 7.15% based on a bid of 20.25 and a limitMaturity.
CM.PR.H PerpetualDiscount +2.0594% Now with a pre-tax bid-YTW of 7.17% based on a bid of 16.85 and a limitMaturity.
PWF.PR.L PerpetualDiscount +2.0623% Now with a pre-tax bid-YTW of 6.20% based on a bid of 24.25 and a limitMaturity.
W.PR.J PerpetualDiscount +2.1337% Now with a pre-tax bid-YTW of 6.54% based on a bid of 21.54 and a limitMaturity.
CM.PR.P PerpetualDiscount +2.1647% Now with a pre-tax bid-YTW of 7.15% based on a bid of 19.35 and a limitMaturity.
POW.PR.D PerpetualDiscount +2.1996% Now with a pre-tax bid-YTW of 6.62% based on a bid of 19.05 and a limitMaturity.
CM.PR.J PerpetualDiscount +2.3975% Now with a pre-tax bid-YTW of 6.98% based on a bid of 16.23 and a limitMaturity.
BAM.PR.K Floater +2.4147%  
BMO.PR.L PerpetualDiscount +2.6201% Now with a pre-tax bid-YTW of 6.35% based on a bid of 23.50 and a limitMaturity.
RY.PR.C PerpetualDiscount +2.6761% Now with a pre-tax bid-YTW of 6.23% based on a bid of 18.80 and a limitMaturity.
CU.PR.B PerpetualDiscount +2.7311% Now with a pre-tax bid-YTW of 6.23% based on a bid of 24.45 and a limitMaturity.
ELF.PR.F PerpetualDiscount +3.0491% Now with a pre-tax bid-YTW of 7.33% based on a bid of 18.25 and a limitMaturity.
CM.PR.I PerpetualDiscount +3.1559% Now with a pre-tax bid-YTW of 7.09% based on a bid of 16.67 and a limitMaturity.
POW.PR.B PerpetualDiscount +4.0462% Now with a pre-tax bid-YTW of 6.81% based on a bid of 19.80 and a limitMaturity.
CM.PR.G PerpetualDiscount +4.5030% Now with a pre-tax bid-YTW of 7.14% based on a bid of 19.03 and a limitMaturity.
Volume Highlights
Issue Index Volume Notes
NSI.PR.C Scraps (Would be OpRet but there are volume concerns) 249,000 CIBC crossed 248,800 in two tranches at 25.00. Now with a pre-tax bid-YTW of 4.93% based on a bid of 25.00 and a limitMaturity. This … is an interesting issue. It’s redeemable at 25.00 commencing 2009-4-1 and retractible at 24.75 commencing 2009-7-1. So, although it’s an OpRet kind of issue, in this particular case the potential calls will yield more and the potential puts will yield less than the limitMaturity. My various methods of calculating duration and convexity don’t agree very well for this issue!
RY.PR.C PerpetualDiscount 129,300 Nesbitt crossed 100,000 at 18.50, then RBC crossed 25,000 at the same price. Now with a pre-tax bid-YTW of 6.23% based on a bid of 18.80 and a limitMaturity.
SLF.PR.A PerpetualDiscount 115,930 National crossed 97,500 at 18.30, then CIBC crossed 10,000 at the same price. Now with a pre-tax bid-YTW of 6.58% based on a bid of 18.26 and a limitMaturity.
SLF.PR.C PerpetualDiscount 105,655 National crossed 92,100 at 17.00. Now with a pre-tax bid-YTW of 6.68% based on a bid of 16.85 and a limitMaturity.
BAM.PR.K Floater 78,000 TD bought 24,700 from RBC at 19.50; RBC crossed 25,000 at the same price.
PIC.PR.A SplitShare 106,498 CIBC bought 54,600 from (three different?) “Anonymous” at 14.25 in three tranches. Asset coverage of just under 1.4:1 as of July 10, according to Mulvihill. Now with a pre-tax bid-YTW of 8.28% based on a bid of 14.21 and a hardMaturity 2010-11-1 at 15.00.

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