Issue Comments

ENB.PR.A : DBRS Puts Ratings on "Negative Trend"

DBRS has announced:

DBRS has confirmed the ratings on the Medium-Term Notes & Unsecured Debentures (long-term debt) and Cumulative Redeemable Preferred Shares (preferred shares) of Enbridge Inc. (Enbridge or the Company) at “A” and Pfd-2 (low), respectively, with the trends changed to Negative from Stable.
…
The rating confirmations and trend changes to Negative on the long-term debt and preferred share ratings reflect the following:

(1) The Company’s ongoing capital expenditure program (including $6.5 billion of committed and $2.5 billion of “in development” liquids pipelines projects over the 2007 to 2011 period, and the potential for additional projects that would raise the total to $12.2 billion) continues to increase, reflecting principally higher costs than originally anticipated and the addition of new projects. This will require substantial external funding, including debt issuance, potential asset monetization and equity financing over the medium term.
…

The preferreds continue to be rated P-2 by S&P.

The bonds are at A (negative trend) by DBRS, A- by S&P. Moody’s doesn’t rate the prefs, but downgraded the bonds from A3 to Baa1 in March 2007. Fitch rates neither.

Update: ENB.PR.A has been previously noted as an issue occasionally trading at a negative Yield-to-Worst. At its current quote of 24.96-08, this isn’t a major concern – but it is callable at par commencing December 2, so there’s not much upside to the issue.

Sub-Prime!

Canadian ABCP : Massive Downgrade for Apsley Trust

On October 17, DBRS placed Apsley Trust under Credit Review Negative:

Approximately 7% ($1.8 billion by funding amount) of the CDO transactions in the Affected Trusts under the Montreal Accord consist of U.S. residential mortgage-backed securities (RMBS); however, 49% of these CDO transactions, or approximately $900 million, is held by Apsley, consisting of a $400 million transaction and a $500 million transaction, each fully funded (unleveraged).

The $400 million transaction synthetically references pools of 2005 and 2006 vintage U.S. non-prime residential mortgages. In accordance with our CDO rating methodology, DBRS has relied in the past on ratings from other major rating agencies as inputs to our model. Over the past several months, the reference entities for these U.S. RMBS transactions have been downgraded several times. Until now, all of the $1.8 billion CDO exposure to U.S. residential mortgages in the Affected Trusts met all of the minimum requirements for a AAA rating. Recently, however, one rating agency took the largest single-day rating action yet with respect to the U.S. non-prime residential mortgage market when it downgraded 2,187 U.S. RMBS bonds on October 11, 2007.

The result was that Apsley’s $400 million U.S. non-prime residential transaction experienced rating downgrades for almost half of the underlying credits, with an average cut of four rating levels for each security being downgraded. DBRS is currently analyzing the full effect of these rating actions and has subsequently placed Apsley Trust Under Review with Negative Implications. Based on the current ratings of the underlying bonds, DBRS believes that the $500 million transaction held by Apsley continues to be AAA but is monitoring it closely; additional downgrades or losses in the underlying bonds could result in significant downgrades in that transaction as well. DBRS is also reviewing the practice of using other rating agencies’ ratings in its ratings of structured finance transactions.

The remaining transactions in Apsley consist of $1.5 billion of leveraged super-senior transactions that reference corporate obligations. These transactions continue to be rated AAA from a probability of default perspective and continue to perform well. As of today, DBRS does not expect that these transactions will suffer losses and considers them to be strong from a credit and ratings migration perspective.

Today, the other shoe dropped:

DBRS has today downgraded the ratings of Apsley Trust (Apsley) Class A, Series A from R-1 (high) Under Review with Negative Implications to R-4 Under Review with Developing Implications; Class E, Series A from R-1 (high) Under Review with Negative Implications to R-4 Under Review with Developing Implications; Class FRN, Series A from AAA Under Review with Negative Implications to BB Under Review with Developing Implications.

…

At inception the portfolio of 80 reference obligations consisted of 50% BBB and 50% BBB (low) obligations as rated by DBRS and other Nationally Recognized Statistical Rating Organizations (NRSROs).

Recent negative rating actions taken by other rating agencies in the U.S. RMBS sector affected 36 of the 80 obligors referenced in the Transaction with an average rating cut of four rating levels. The cumulative effect of the downgrades to the credits referenced by the Transaction has been to push the attachment point to maintain a AAA rating through the current actual attachment point of the Transaction. The Transaction can therefore no longer maintain a AAA rating. In addition, due to observed slowdowns in prepayment speeds, DBRS has revised its term assumption in respect of the Transaction to seven years.

DBRS generally rates ABCP at the rating level of the lowest rated transaction funded by the ABCP. As the six other CDO transactions funded by Apsley remain AAA, the Transaction is now the lowest-rated transaction and its rating will therefore determine the highest-possible rating for Apsley overall.

Using the DBRS CDO Toolbox and applying the current ratings of the reference obligations and a revised assumption as to the term of the reference portfolio, a long-term rating of BB has been assigned to the Transaction by DBRS. The DBRS Long-Term to Short Term Mapping Table indicates that a rating of R-4 is appropriate for ABCP that is funding a BB rated transaction.

As mentioned above, in addition to the Transaction, there is another $500 million CDO transaction funded by Apsley that is 100% exposed to U.S. non-prime RMBS. This transaction has retained a sufficient stability cushion above the attachment point to maintain a AAA rating at this time. However, considering the speed at which the Transaction lost its stability cushion above AAA, future rating actions of similar size and severity by other NRSROs may cause the $500 million U.S. non-prime RMBS transaction to suffer a similar deterioration. As a result, DBRS continues to monitor this transaction closely. Additional downgrades or losses in the underlying bonds could result in a significant downgrade of this transaction. If a downgrade of this transaction below the BB range were to occur, further rating action in regard to Apsley would become necessary.

The five remaining CDO transactions representing $1.5 billion of funding by Apsley reference corporate obligations. These transactions continue to be rated AAA from a probability of default perspective and continue to perform well. DBRS does not expect that these transactions will suffer losses and considers them to be strong from a credit and ratings migration perspective.

Wow. That was fast!

Update, 2007-11-6: It is interesting to note from The Information Memorandum for Apsley Trust that:

Apsley Trust™ (the “Trust”) is a trust established under the laws of the Province of Ontario pursuant to a settlement deed made as of November 24, 2005 between Metcalfe & Mansfield Alternative Investments V Corp. in its capacity as trustee (collectively with its successors and assigns in such capacity, the “Issuer Trustee”; any reference to the Trust herein includes the Issuer Trustee acting in its fiduciary capacity as Issuer Trustee) and Metcalfe & Mansfield Capital Corporation, as settlor.  The office of the Issuer Trustee for administering the activities of Apsley Trust™ is located at 141 Adelaide Street West, Suite 330, Toronto, Ontario M5H 3L5.

and from an August press release that:

Metcalfe & Mansfield Capital Corporation is a subsidiary of Quanto Financial Corporation, a private Canadian financial institution with offices in Montreal, Toronto and Calgary and representatives in Vancouver and Winnipeg. The principal shareholders of Quanto Financial Corporation are National Bank Financial, Deutsche Bank Canada and Redfern Equity Capital Partners.

The announcement of inauguration of Apsley Trust includes the paragraph:

Metcalfe & Mansfield Alternative Investments V Corp. is the Issuer Trustee of Apsley Trust. The Issuer Trustee is independent from the Issuers, the Financial Services Agent, the Administrative Agent, the Indenture Trustee, and other service providers to the Trust.

… but frankly, I don’t know what that means.

Update #2, 2007-11-6: The unnamed rating agency with the mass downgrade on October 11 was Moody’s. I briefly discussed the downgrade at the time.

Update #3, 2007-11-6: Accrued Interest has produced a simple example illustrating the volatility of CDO quality. More discussion has been referenced here.

Interesting External Papers

Where Did the Risk Go? – An Early Attack on the Ratings Agencies

I’ve run across an extremely interesting paper, Where Did the Risk Go? How Misapplied Bond Ratings Cause Mortgage Backed Securities and Collateralized Debt Obligation Market Disruptions, written by Joseph R. Mason, an associate professor at Drexel University who has been mentioned here before in connection with his testimony to Congress, and Joshua Rosner, Managing Director of Graham Fisher & Company, a firm that provides “Independent research for institutional investors in financial service assets”.

The primary recommendation for public policy is:

Significant increases in public access to performance reports, CDO and RMBS product standardization, and CDO and RMBS securities ownership registration can help decrease the existing over-reliance on ratings agency inputs to rate and ultimately value the securities and reducing the valuation errors inherent in “marked-to-model” (rather than marked-to-market) portfolios. SEC Regulation AB was a (late) start for ABS and RMBS. Overall, however, the U.S. economy needs an efficient public CDO market that allows transparent openmarket pricing of market risk and outside research into new securities and funding arrangements.

This is a principle with which I can whole-heartedly agree … although I will not guarantee  sweet accord when the details are hammered out! There should be no regulatory restrictions on the flow of information … it should be possible to publish all deal information without fear of adverse regulatory repercussions, but there is often some confusion on this point. The regulators should first make it plain that, while selling the investment to a non-qualified investor may be improper, publishing the advice is encouraged.

After that, let the market and the Prudent Man Rule do its work. I think it would be fairly easy to argue that a Prudent Man would review available information prior to making an investment. At which point we get into further problems … how much review is enough?

Consider a plain and ordinary S&P 500 Index Fund. How much of the fund material do you have to read before you can purchase some on behalf of a client? Do you have to read through and understand the annual reports of all 500 companies?

I suggest that the archetypal Prudent Man need only

  • understand what the S&P 500 is attempting to do, and
  • verify that the vehicle will track it ‘reasonably’ well, and
  • do so at a realistic cost

… but there will be legitimate disagreement over even this simple exposition! My continued vocal support for the primacy of the Prudent Man Rule should not be taken to imply that I believe it will be simple and unambiguous.

Market Action

November 5, 2007

Well … today was fairly busy, so there’s not much commentary! Just to keep my faithful readers entertained, however, I have uploaded the PerpetualPremium index … look at CU.PR.A and CU.PR.B! A fine company and a solid credit … but should these issues really be trading 60+bp through Power Financial? There will be a small prize awarded to anybody who can give me a satisfactory explanation of this phenomenon.

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 4.92% 4.91% 206,688 15.62 2 0.0000% 1,045.0
Fixed-Floater 4.86% 4.82% 87,410 15.81 8 +0.0991% 1,046.3
Floater 4.50% 4.52% 63,713 16.30 3 +0.3319% 1,044.9
Op. Retract 4.88% 3.62% 76,433 3.60 16 +0.1751% 1,028.8
Split-Share 5.18% 5.05% 87,676 4.19 15 -0.1341% 1,040.7
Interest Bearing 6.27% 6.43% 61,799 3.57 4 -0.0746% 1,055.9
Perpetual-Premium 5.81% 5.43% 80,650 5.41 11 +0.2095% 1,013,9
Perpetual-Discount 5.58% 5.58% 335,875 14.32 55 -0.0698% 911.8
Major Price Changes
Issue Index Change Notes
ELF.PR.G PerpetualDiscount -2.1053% Now with a pre-tax bid-YTW of 6.15% based on a bid of 19.53 and a limitMaturity.
NA.PR.L PerpetualDiscount -1.6471% Now with a pre-tax bid-YTW of 5.83% based on a bid of 20.90 and a limitMaturity.
LBS.PR.A SplitShare -1.3659% Asset coverage of just under 2.5:1 according to Brompton Group. Now with a pre-tax bid-YTW of 5.13% based on a bid of 10.11 and a hardMaturity 2013-11-29 at 10.00.
BNS.PR.J PerpetualDiscount -1.0761% Now with a pre-tax bid-YTW of 5.23% based on a bid of 24.82 and a limitMaturity.
BNA.PR.C SplitShare -1.0067% Asset coverage of just over 3.8:1 as of July 31, according to the company. Now with a pre-tax bid-YTW of 6.71% based on a bid of 20.65 and a hardMaturity 2019-1-10 at 25.00.
ASC.PR.A SplitShare -1.0000% Asset coverage of just under 2.3:1 as of November 2, according to AIC. Now with a pre-tax bid-YTW of 5.22% based on a bid of 23.10 and a limitMaturity.
CM.PR.A OpRet +1.2926% Now with a pre-tax bid-YTW of 1.14% based on a bid of 25.86 and a call 2007-12-5 at 25.75.
Volume Highlights
Issue Index Volume Notes
BMO.PR.J PerpetualDiscount 237,040 Now with a pre-tax bid-YTW of 5.40% based on a bid of 20.90 and a limitMaturity.
GWO.PR.G PerpetualDiscount 107,260 Scotia crossed 85,100 at 23.60. Now with a pre-tax bid-YTW of 5.60% based on a bid of 23.50 and a limitMaturity.
RY.PR.W PerpetualDiscount 104,800 Nesbitt crossed 100,000 at 22.51. Now with a pre-tax bid-YTW of 5.45% based on a bid of 22.50 and a limitMaturity.
PWF.PR.F PerpetualDiscount 86,120 Now with a pre-tax bid-YTW of 5.69% based on a bid of 23.20 and a limitMaturity.
GWO.PR.X OpRet 51,723 Scotia crossed 50,000 at 26.65. Now with a pre-tax bid-YTW of 3.57% based on a bid of 26.65 and a call 2009-10-30 at 26.00.

There were thirty-three other index-included $25.00-equivalent issues trading over 10,000 shares today.

HIMI Preferred Indices

HIMIPref™ Preferred Indices : January 2003

All indices were assigned a value of 1000.0 as of December 31, 1993.

HIMI Index Values 2003-1-31
Index Closing Value (Total Return) Issues Mean Credit Quality Median YTW Median DTW Median Daily Trading Mean Current Yield
Ratchet 1,388.1 3 2.00 4.41% 16.6 177M 5.81%
FixedFloater 2,005.6 9 2.00 4.36% 15.8 101M 5.69%
Floater 1,602.7 6 1.82 3.89% 17.4 69M 4.07%
OpRet 1,609.1 27 1.26 3.59% 1.7 147M 5.55%
SplitShare 1,571.6 10 1.70 4.69% 3.9 43M 5.71%
Interest-Bearing 1,920.4 8 2.00 5.71% 1.6 131M 7.84%
Perpetual-Premium 1,225.4 19 1.47 5.57% 6.7 282M 5.67%
Perpetual-Discount 1,396.8 9 1.66 5.77% 14.1 137M 5.88%

Index Constitution, 2003-01-31, Pre-rebalancing

Index Constitution, 2003-01-31, Post-rebalancing

MAPF

MAPF Performance, October 2007

Malachite Aggressive Preferred Fund has been valued for October, 2007, month-end. The unit value is $8.8084. Returns over various periods are:

MAPF Returns to October, 2007
One Month -3.72%
Three Months -4.72%
One Year -3.06%
Two Years (annualized) +1.52%
Three Years (annualized) +3.13%
Four Years (annualized) +6.08%
Five Years (annualized) +9.87%
Six Years (annualized) +7.95%

Returns assume reinvestment of dividends, and are shown after expenses but before fees. Past performance is not  a guarantee of future performance. You can lose money investing in Malachite Aggressive Preferred Fund or any other fund. For more information, see the fund’s main page.

The October returns are disappointing. As has been stated in the post regarding portfolio composition, the fund made a major move into the PerpetualDiscount sector during the course of the month. The sector looked thoroughly undervalued at the time of the trades … but it just kept on going down. The ghastly performance of the PerpetualDiscount sector has been discussed elsewhere.

As noted in the discussion of portfolio composition, I am very happy with the portfolio as it stood on October 31. HIMIPref™ was, perhaps, too early in determining that sufficient value existed in the sector to be worth a switch – and a switch between sectors requires a much greater increase in value than an intra-sector trade – but that’s the way it goes sometimes. A less sensitive system would miss potentially profitable trades.

More later.

Market Action

November 2, 2007

US Jobs number MUCH better than feared! Canadian Jobs number GREAT! Merrill thumped on credit quality! Citigroup thumped on credit quality! Canaccord thumped on credit quality! (Canaccord? Who is this “Canaccord”?) SIV chatter! (nothing much new)

There won’t be much commentary today, I’m afraid. I’m exhausted.

There is a highly illuminating discussion on FWF the possibility of, and the repercussions of, a bank “breaking the buck” on a money market fund:

If any Canadian bank broke the buck on one of its MMF and walked away from it, I would sell all of my mutual funds not just any MMF that I owned as well as my fundco stocks and never buy again. Reason: no bank/fundco is to be trusted. (Although MMFs are not guaranteed, their history is such that they might as well be.)

I hope that the Canadian Bank Regulator is reading this thread!

We remember that National Bank bailed out its MMF:

Altamira Investment Services Inc., manager of the Altamira Mutual Funds, announced that National Bank of Canada has completed the acquisition, announced on August 20th, of all the asset backed commercial paper (“ABCP”) held by the Altamira Mutual Funds.

Wachovia has also purchased ABCP from its MMF:

In addition, late last week Wachovia Corp. revealed that it had booked a $40 million loss on asset-backed securities that it purchased from the portfolio of money-market funds run by its Evergreen Investments money-management unit in August.

I imagine there’s others – feel free to advise me of them.

If this kind of thing makes good business sense for the banks – then good for them! I am well aware that their profits on funds are utterly ridiculous and well worth protecting.

However: if bank-sponsored MMFs are really “covered bank deposits” … they should be booked like covered bank deposits!

There should be full consolidation of all MMFs onto the banks’ balance sheets; the investments should be fully reflected in the risk-weighted assets. Otherwise, we are allowing implicit support of the the banks’ various off-balance sheet activities (like SIVs, MMFs and other investment vehicles) without properly accounting for the risk; this endangers the stability of the financial system, as well as providing a subsidy (via deposit insurance and Bank of Canada credit lines) to certain fundcos, but not to other fundcos.

Another good day for the perpetual sector! (Geez, you know, it’s been a long time since I’ve made that comment!)

Still lots of yield-wierdnesses, but volume is still good. Don’t misunderstand me … I’m not saying I don’t like yield-wierdnesses … but I want them to develop until exactly the time I take a position and then revert.

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 4.94% 4.92% 215,244 15.60 2 -0.0817% 1,045.0
Fixed-Floater 4.82% 4.82% 87,564 15.82 8 +0.0564% 1,045.3
Floater 4.51% 3.86% 63,068 10.68 3 -0.2859% 1,041.5
Op. Retract 4.88% 4.05% 76,159 3.76 16 +0.0441% 1,027.0
Split-Share 5.18% 5.08% 87,209 4.04 15 +0.0899% 1,042.1
Interest Bearing 6.26% 6.33% 60,300 3.57 4 -0.3994% 1,056.7
Perpetual-Premium 5.81% 5.43% 80,161 4.51 11 +0.3582% 1,011.7
Perpetual-Discount 5.53% 5.56% 336,548 14.33 55 +0.4475% 912.4
Major Price Changes
Issue Index Change Notes
BSD.PR.A InterestBearing -1.4815% Asset coverage of just under 1.8:1 as of October 31, according to Brookfield Funds. Now with a pre-tax bid-YTW of 7.43% based on a bid of 9.31 and a hardMaturity 2015-3-31 at 10.00.
CM.PR.A OpRet -1.4286% Now with a pre-tax bid-YTW of 4.73% based on a bid of 25.53 and a softMaturity 2011-7-30 at 25.00.
CU.PR.A PerpetualPremium +1.01% Now with a pre-tax bid-YTW of 5.06% based on a bid of 26.01 and a call 2012-3-31 at 25.00.
IAG.PR.A PerpetualDiscount +1.0763% Now with a pre-tax bid-YTW of 5.64% based on a bid of 20.66 and a limitMaturity.
RY.PR.W PerpetualDiscount +1.2184% Now with a pre-tax bid-YTW of 5.47% based on a bid of 22.43 and a limitMaturity.
BNS.PR.K PerpetualDiscount +1.3158% Now with a pre-tax bid-YTW of 5.22% based on a bid of 23.10 and a limitMaturity.
RY.PR.E PerpetualDiscount +1.3216% Now with a pre-tax bid-YTW of 5.45% based on a bid of 20.70 and a limitMaturity.
MFC.PR.B PerpetualDiscount +1.3420% Now with a pre-tax bid-YTW of 5.38% based on a bid of 21.90 and a limitMaturity.
CL.PR.B PerpetualPremium +1.3725% Now with a pre-tax bid-YTW of 5.34% based on a bid of 25.85 and a call 2011-1-30 at 25.00.
PIC.PR.A SplitShare +1.5161% Now with a pre-tax bid-YTW of 4.82% based on a bid of 15.40 and a hardMaturity 2010-11-1 at 15.00.
PWF.PR.K PerpetualDiscount +1.7625% Now with a pre-tax bid-YTW of 5.68% based on a bid of 21.94 and a limitMaturity.
BNS.PR.J PerpetualDiscount (for now!) +1.87% Now with a pre-tax bid-YTW of 5.16% based on a bid of 25.09 and a limitMaturity.
BMO.PR.H PerpetualDiscount (for now!) +2.1722% Now with a pre-tax bid-YTW of 4.91% based on a bid of 25.40 and a call 2013-3-27 at 25.00.
Volume Highlights
Issue Index Volume Notes
BNS.PR.L PerpetualDiscount 64,225 Nesbitt bought 21,400 from National at 21.00. Now with a pre-tax bid-YTW of 5.39% based on a bid of 21.03 and a limitMaturity.
BNS.PR.M PerpetualDiscount 58,800 Now with a pre-tax bid-YTW of 5.39% based on a bid of 21.01 and a limitMaturity.
PWF.PR.E PerpetualDiscount 52,000 Nesbitt crossed 50,000 at 24.50. Now with a pre-tax bid-YTW of 5.63% based on a bid of 24.29 and a limitMaturity.
RY.PR.D PerpetualDiscount 28,500 Now with a pre-tax bid-YTW of 5.46% based on a bid of 20.68 and a limitMaturity.
GWO.PR.E OpRet 27,710 Now with a pre-tax bid-YTW of 4.36% based on a bid of 25.41 and a call 2011-4-30 at 25.00.

There were twenty-two other index-included $25.00-equivalent issues trading over 10,000 shares today.

HIMI Preferred Indices

HIMIPref™ Preferred Indices : December, 2002

All indices were assigned a value of 1000.0 as of December 31, 1993.

HIMI Index Values 2002-12-31
Index Closing Value (Total Return) Issues Mean Credit Quality Median YTW Median DTW Median Daily Trading Mean Current Yield
Ratchet 1,310.8 3 2.00 4.54% 16.4 137M 5.20%
FixedFloater 1,983.2 9 2.00 4.49% 15.6 112M 5.71%
Floater 1,475.2 6 1.82 4.22% 16.7 48M 4.40%
OpRet 1,596.8 31 1.22 4.20% 1.6 100M 5.68%
SplitShare 1,569.8 10 1.70 3.96% 1.7 48M 5.66%
Interest-Bearing 1,905.4 8 2.00 5.75% 1.7 129M 7.90%
Perpetual-Premium 1,218.0 17 1.47 5.51% 6.5 239M 5.69%
Perpetual-Discount 1,381.7 10 1.70 5.71% 14.3 102M 5.87%

Index Constitution, 2002-12-31, Pre-rebalancing

Index Constitution, 2002-12-31, Post-rebalancing

MAPF

MAPF Portfolio Composition : October 31, 2007

There was heavy trading in October.

MAPF Sectoral Analysis 2007-10-31
HIMI Indices Sector Weighting YTW ModDur
Ratchet 0% N/A N/A
FixFloat 0% N/A N/A
Floater 0% N/A N/A
OpRet 0% N/A N/A
SplitShare 19% (+6) 5.51% 4.53 
Interest Rearing 0% N/A N/A
PerpetualPremium 0% (-42) N/A N/A 
PerpetualDiscount 81% (+36) 5.75% 14.33 
Scraps 0% N/A N/A
Cash 0% 0.00% 0.00
Total 100% 5.71% 12.46
Totals will not add precisely due to rounding.
Bracketted figures represent change from September month-end.

The “total” reflects the un-leveraged total portfolio (i.e., cash is included in the portfolio calculations and is deemed to have a duration and yield of 0.00.), which doesn’t make much of a difference this month. MAPF will often have relatively large cash balances, both credit and debit, to facilitate trading. Figures presented in the table have been rounded to the indicated precision.

The shift from PerpetualPremium issues into PerpetualDiscounts was very dramatic, but I must stress that this was not done – and is never done – as a market call on the overall direction of the market. During the month it appeared that there were dramatic undervaluations in specific issues in the PerpetualDiscount sector; in order to buy them, something had to get sold!

It’s always useful to do a post-mortem on trades. The following tables are as accurate as I can make them, but I will stress that the trades are rarely precisely cash neutral. If, for instance, I have bought half the number I want of a particular issue at 21.00 during the day, I will not lift an offer at 21.50 just to complete the buying programme! Maybe there is something else that’s attractive on offer; maybe I’ll just keep the cash exposure overnight and put in another bid the next day. It’s important to avoid being too mechanical when trading in a relatively thin market such as preferred shares.

Anyway, here are the basic trades involving the sale of issues that were “PerpetualPremiums” as of 9/28, as well as I can disentangle them!

Issue 9/28 Trade 10/31
 PWF.PR.I  25.73 25.73+0.375  25.46 
 PIC.PR.A  15.75 15.66  15.25+0.21 
 
Issue 9/28 Trade 10/31
 NA.PR.K 25.30  24.98+0.37  25.03 
 NA.PR.L 22.78  21.44  21.00 
 
Issue 9/28 Trade 10/31
 NA.PR.K 25.30  24.84+0.37  25.03 
 RY.PR.G 21.84  21.15  20.51+0.28125 
 
Issue 9/28 Trade 10/31
POW.PR.C  25.15  24.95  24.93 
 RY.PR.F 21.81  21.09  20.31+0.278125 
 
Issue 9/28 Trade 10/31
 POW.PR.C 25.15  24.54  24.93 
 RY.PR.D 22.20  20.65  20.51 
The upper issue was sold, the lower issue bought. The number added to the trade price of the issue sold is the dividend earned between 9/28 and trade date; the number added to the 10/31 price of the issue bought is the dividend earned between the trade date and 10/31

It should be noted that I am reporting only the trades out of securities held in the  PerpetualPremium sector as of last month end; and at that, there are a few scrappy pieces missing. Full disclosure of all trades is made regularly; the full reports are published on the fund’s main page together with the annual and semi-annual reports.

The above tables make the trend of the portfolio during the month fairly clear:

  • PerpetualDiscounts dived
  • PerpetualPremiums as a group were cushioned from the blow (as readers of Perpetual Hockey Sticks will have expected)
  • The PerpetualPremiums in the portfolio actually outperformed their benchmark during the holding period
  • When the PerpetualDiscounts had reached a large discount relative to the premiums, the trades were made
  • The PerpetualDiscounts kept falling anyway.

A sad story, but one familiar to most value investors: there is usually a lot more “noise” in the marketplace than “signal”, but occasionally some presumed noise can actually represent a trend. And such was the case this time. 

Credit distribution is:

MAPF Credit Analysis 2007-10-31
DBRS Rating Weighting
Pfd-1 39% (+20)
Pfd-1(low) 17% (-19)
Pfd-2(high) 15% (-3)
Pfd-2 13% (+1)
Pfd-2(low) 16% (+1)
Cash 0%
Totals will not add precisely due to rounding
Bracketted figures represent change from September month-end

The fund does not set any targets for overall credit quality; trades are executed one by one. Variances in overall credit will be constant as opportunistic trades are executed.
Liquidity Distribution is:

MAPF Liquidity Analysis 2007-10-31
Average Daily Trading Weighting
<$50,000 1% (0)
$50,000 – $100,000 0% (-28)
$100,000 – $200,000 50% (+12)
$200,000 – $300,000 26% (+20)
>$300,000 23% (-4)
Cash 0%
Totals will not add precisely due to rounding.
Bracketted figures represent change from September month-end

MAPF is, of course, Malachite Aggressive Preferred Fund, a “unit trust” managed by Hymas Investment Management Inc. Further information and links to performance, audited financials and subscription information are available on the fund’s web page. A “unit trust” is like a regular mutual fund, but is sold by offering memorandum rather than prospectus. This is cheaper, but means subscription is restricted to “accredited investors” (as defined by the Ontario Securities Commission) and those who subscribe for $150,000+. Fund past performances are not a guarantee of future performance. You can lose money investing in MAPF or any other fund.

I’m very happy with the portfolio as it now stands. Credit quality is very high, as is liquidity, but yields are well in excess of benchmarks anyway. The positions should do very well as the situation normalizes.

A discussion of October’s performance will be posted prior to November 5.

Market Action

November 1, 2007

US ABCP outstanding declined another $9-billion (slightly more than 1% of the total) in the last week of October, in a continued indication that the unwinding process is proceeding in at least a somewhat orderly fashion. To me, the highlight for the four weeks ending October 31 is that domestic non-financial CP outstanding is down by $12.9-billion while domestic financial CP outstanding is up $52.6-billion; for the month, ABCP outstanding is down $31.5-billion. These numbers suggest – and only suggest, since I haven’t dug very deeply into these numbers! – that re-intermediation is happening big-time in the States, with non-Bank issuers being gradually shut-out or priced out of the market – which is in line with theory.

Naked Capitalism today continued its search for nefarious intent regarding the Super-Conduit. There is little new information. The thing I don’t like about such conspiracy theories is that they depend on people being stupid – or, at the very least, the ringleaders of the plot assuming that investors are stupid. I’m not about to defend the 100% accuracy and rational judgement of the market place (hah!) but I’m not going to assume stupidity until I’ve looked at everything else. And, as I’ve stated many times before, it makes sense if it’s a vulture fund.

Otherwise, you’re asking me to believe that these major banks are going to provide backstop liquidity for a grossly undercapitalized SIV. Or that two major banks are going to help bail out a competitor out of the kindness of their hearts. Or that three major banks have mutual funds in danger of breaking the buck and are willing to risk their existence to avoid it. I won’t say that any of these hypotheses is impossible … but I want something more than “Big Capital is Evil” before I take them seriously.

Preferreds had a very good day today, with volume continuing high and a solid move upwards in the perpetual sector. Turning point? Bear trap? Random noise? I’ll let you know in a month or so.

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 4.95% 4.93% 223,070 15.59 2 -0.3248% 1,045.8
Fixed-Floater 4.86% 4.82% 89,542 14.26 8 +0.3463% 1,044.7
Floater 4.50% 3.85% 63,553 10.72 3 +0.4839% 1,044.4
Op. Retract 4.88% 3.72% 75,688 3.34 16 -0.0015% 1,026.5
Split-Share 5.18% 5.04% 87,719 4.21 15 -0.2068% 1,041.1
Interest Bearing 6.24% 6.27% 61,176 3.59 4 -0.1006% 1,060.9
Perpetual-Premium 5.83% 5.55% 79,767 5.41 11 +0.1247% 1,008.1
Perpetual-Discount 5.56% 5.59% 339,972 14.51 55 +0.3712% 908.33
Major Price Changes
Issue Index Change Notes
BNA.PR.C SplitShare -1.7094% Asset coverage of 3.8+:1 as of July 31, according to the company. Now with a pre-tax bid-YTW of 6.68% based on a bid of 20.70 and a hardMaturity 2019-1-10 at 25.00.
POW.PR.D PerpetualDiscount -1.4912% Now with a pre-tax bid-YTW of 5.79% based on a bid of 21.80 and a limitMaturity.
FFN.PR.A SplitShare -1.2621% Now with a pre-tax bid-YTW of 4.99% based on a bid of 10.17 and a hardMaturity 2014-12-1 at 10.00.
BAM.PR.K Floater +1.0638%  
W.PR.H PerpetualDiscount +1.0638% Now with a pre-tax bid-YTW of 5.79% based on a bid of 23.75 and a limitMaturity.
CL.PR.B PerpetualPremium +1.1503% Now with a pre-tax bid-YTW of 5.81% based on a bid of 25.50 and a call 2011-1-30 at 25.00.
NA.PR.L PerpetualDiscount +1.1905% Now with a pre-tax bid-YTW of 5.73% based on a bid of 21.25 and a limitMaturity.
SLF.PR.B PerpetualDiscount +1.3423% Now with a pre-tax bid-YTW of 5.36% based on a bid of 22.65 and a limitMaturity.
PWF.PR.L PerpetualDiscount +1.3453% Now with a pre-tax bid-YTW of 5.67% based on a bid of 22.60 and a limitMaturity.
SLF.PR.C PerpetualDiscount +1.3645% Now with a pre-tax bid-YTW of 5.42% based on a bid of 20.80 and a limitMaturity.
CM.PR.I PerpetualDiscount +1.4184% Now with a pre-tax bid-YTW of 5.52% based on a bid of 21.45 and a limitMaturity.
BNS.PR.K PerpetualDiscount +1.4235% Now with a pre-tax bid-YTW of 5.29% based on a bid of 22.80 and a limitMaturity.
ELF.PR.G PerpetualDiscount +1.5736% Now with a pre-tax bid-YTW of 6.00% based on a bid of 20.01 and a limitMaturity.
MFC.PR.C PerpetualDiscount +1.5992% Now with a pre-tax bid-YTW of 5.26% based on a bid of 21.60 and a limitMaturity.
ENB.PR.A PerpetualDiscount +1.6010% Now with a pre-tax bid-YTW of 5.65% based on a bid of 24.75 and a limitMaturity.
SLF.PR.E PerpetualDiscount +1.7370% Now with a pre-tax bid-YTW of 5.56% based on a bid of 20.50 and a limitMaturity.
BCE.PR.G FixFloat +1.8174%  
GWO.PR.H PerpetualDiscount +1.8563% Now with a pre-tax bid-YTW of 5.74% based on a bid of 21.40 and a limitMaturity.
Volume Highlights
Issue Index Volume Notes
BNS.PR.K PerpetualDiscount 286,976 Now with a pre-tax bid-YTW of 5.29% based on a bid of 22.80 and a limitMaturity.
GWO.PR.I PerpetualDiscount 220,770 Now with a pre-tax bid-YTW of 5.68% based on a bid of 20.06 and a limitMaturity.
BNS.PR.L PerpetualDiscount 216,500 Now with a pre-tax bid-YTW of 5.41% based on a bid of 20.95 and a limitMaturity.
CM.PR.I PerpetualDiscount 184,950 Now with a pre-tax bid-YTW of 5.52% based on a bid of 21.45 and a limitMaturity.
TD.PR.P PerpetualDiscount 75,785 New issue settled today. Now with a pre-tax bid-YTW of 5.36% based on a bid of 24.60 and a limitMaturity.

There were twenty-nine other index-included $25.00-equivalent issues trading over 10,000 shares today.