PrefBlog

The Bank of Canada is attempting to re-start a market in Canadian ABCP … or, at least, that is my interpretation of the call for comments released today.

The Bank of Canada is seeking comments from direct participants in the Large Value Transfer System (LVTS) and other interested parties on the proposed eligibility criteria for accepting asset-backed commercial paper (ABCP) as collateral for the Bank of Canada’s Standing Liquidity Facility (SLF). Written comments are requested by 14 March 2008. The final terms and conditions for accepting ABCP as collateral for the SLF will be announced by 31 March 2008. Recognizing that the market for ABCP in Canada is still evolving, the Bank of Canada intends to review these criteria in a year’s time and announce the results of that review by 30 June 2009.

The proposed eligibility criteria require the sponsor to be “a deposit-taking institution that is federally or provincially regulated and that has a minimum stand-alone credit rating equivalent to at least A.” – which is to say, a bank or credit union. They may have good reasons for this requirement, but it’s not disclosed.

Other eligibility criteria are:

• The liquidity agreement(s) include an obligation to provide funding except in the event of insolvency of the conduit or near-default status of the underlying assets.
• The program must not contain any actual or potential exposure to securitized assets, with the exception of National Housing Act mortgage-backed securities.
• The program has received the highest possible short-term credit rating from at least two rating agencies.

Of perhaps even greater interest are the transparency requirements:

• The Bank must receive a single, concise document that is provided by and validated by the sponsor, and that includes all relevant investment information.
• This document must be easily accessible to all investors.
• The sponsor must agree to provide timely disclosure to all investors of any significant change to the information contained in this document.
• At a minimum, relevant investment information would include:
  • The identity of the sponsor, the financial services agent, and liquidity providers
  • The range of assets that may be held by the program, including maximum or minimum proportion, if applicable, and when/how asset composition could change
  • Characteristics of the asset pools, including at a minimum: composition, foreign currency exposures, performance measures, credit enhancements, and hedging methods. Other information such as average remaining term, current payment speeds, and geographic locations should be disclosed if relevant to the investor.
  • Where the investor could obtain updates of relevant investment information
  • The nature of the liquidity facilities, including the amount of support from each liquidity provider
  • The nature and amount of program-wide credit enhancements
  • The flow of funds, including payment allocations, rights, and distribution priorities

I maintain rather enormous doubts as to the number of investors who will actually make use of the transparency information, but at least the few who are sufficiently interested will have the ability to look.

From a practical perspective, how is the word “concise”, as in “The Bank must receive a single, concise document”  defined?

And as a last quote, here’s one in the eye for the conspiracy theorists:

The Bank will also consult other available documents, including credit-rating reports, to assess whether an ABCP program meets its criteria.

Golly, credit rating reports? From Credit Rating Agencies? Don’t they get paid by – gasp! – the issuers?

The bank is to be applauded for taking this action – securitization markets are a Good Thing. However, I remain concerned about the appropriate level of capital that the liquidity-guaranteeing bank must put up in respect of their guarantee … I suspect that the current credit conversion factor is simply too low. Additionally, it seems to me that the sponsoring bank (Bank!) should be putting up capital to reflect the reputational risk that it runs if there are actual credit problems in the vehicle.

These are not directly BoC concerns, however – determination of this matter belongs to OSFI and other BIS members.

In a developement that will bring tears of joy to (until recently?) Assiduous Reader madequota, Regulation Services has released a notice of hearing in a contested case against TD Securities and some of its traders.

The allegations against the individual traders may be summarized as:

During the relevant period, Nott, Sadeghi, Kaplan, Nemy and Poulstrup (collectively, the “Individual Respondents”) entered orders to purchase securities of one or more of African Copper PLC (“ACU”), Canaco Resources Inc. (“CAN.H” until May 26, 2005 while listed on the NEX and “CAN” as of May 27, 2005 while listed on the TSXV), Central Canada Foods Corporation (“CDF.A”), Peterborough Capital Corp. (“PEC”) and Titanium Corporation Inc. (“TIC”) without any intention that the orders would be executed and for no bona fide purpose. The Individual Respondents entered the orders with the intention of establishing a high closing bid price in order to improve the daily profit and loss position of the shares held in their inventory accounts, or to assist their colleagues improve their daily profit and loss position, and thereby to misrepresent the performance of the securities. The high closing bid prices were artificial in that they were not justified by any real demand for the securities. The high closing bid prices misrepresented the performance and actual demand for the securities to the market and to other market participants.

… while the allegation regarding TDSI is …

During the relevant period, TDSI failed to implement a trade supervision system that was adequate, taking into account its business and affairs, to ensure compliance with UMIR 2.2(2)(b). TDSI failed to ensure that the risks associated with proprietary trading by the Trade Execution Group (the “TEG”), and specifically the Burlington sub-branch, had been identified and that appropriate supervision practices and procedures to manage those risks had been implemented. As a result, TDSI failed to adequately review and monitor the Individual Respondents’ order entry activity and failed to detect or prevent the Individual Respondents from violating UMIR 2.2(2)(b).

The date of the hearing is yet to be determined. The Notice of Hearing, linked above provides the usual excruciating detail regarding the allegations.

Two of the traders were fired shortly after TDSI commenced its internal investigation of some of the actions at issue. There is some speculation that RS is trophy-hunting:

What’s got the Street’s attention is RS’s decision to go after TD Securities. “RS is trying to put a big trophy on the mantle by targeting the dealer, as well as the traders,” said a senior executive at a rival firm. Talk on trading desks is that TD Securities appeared to do everything right, by reporting a problem once supervisors realized what was taking place.

The danger of RS’s approach in going after TDSI is that it will simply encourage cover-ups. Whenever there’s a screw-up, the second guessing starts … I should have noticed this, I should have checked that, instead of sending a polite inquiry I should have stormed into his office and banged my fist on his desk. And I can assure everybody, RS included, that there will always be fault to find by somebody who wants to find it.

So … you’re a supervisor, you figure something may be happening that’s against the rules. What do you do? Do you actually investigate? If you find something and report it, RS will go after you for not finding it faster, fine you and possibly lift your license. Even if they don’t lift your license – even if they don’t go after you at all – your employer might fire you, just to make themselves look good (particularly if, as in the case of David Berry, they’re looking for an excuse anyway).

So … do you investigate thoroughly? Do you communicate your findings after a thorough investigation? Or do you just casually drift into the trading room and announce to nobody in particular that there’s some new procedures designed to catch some behaviour, to be put into effect next week?

The last option makes you, ethically if not legally, party to a cover-up. Which may, of course, be RS’s intention … if everybody’s guilty of something, then they have uncontrolled power to end careers at a whim. Then, finally, they’ll get some respect!

Quite frankly, high-closing isn’t a trading issue I get all that excited about – when the price of something gets high, I sell it. When the price gets low, I buy it. All this seems pretty simple to me. The high-closing / market manipulation rules are in place solely to protect the stupid, who would be much better off if they just got better investment advice.

I am much more annoyed with the RS restrictions on algorithmic trading which, in requiring algorithmic trading engines to be vetted by the executing broker, have a clear effect of stifling creativity, increasing the inefficiency of the market and encouraging high-closing. If I were to suspect high-closing on a particular issue I was watching, for instance, I could build an algorithm to jump on those bids within a second of order entry … and make the little snot pay through the nose for his temerity.

But then, that would leave RS with less to regulate …