PrefBlog

James Hamilton of Econbrowser took a look at yesterday’s market action and got confused:

the January fed funds futures contract, which historically has proven to be an excellent predictor of the monthly average fed funds rate. This had been trading at 4.18% prior to the meeting. Since the FOMC is not scheduled to meet again until January 29/30, one might have read this as implying a 30% chance of having seen a 50-basis-point cut from yesterday’s meeting:
…
But here’s the curious thing: as of this writing, the price of that contract still has not budged more than half a basis point from where it stood at the close of trading last Friday. Fed funds futures traders seem not to have been surprised in the least by the outcome of Tuesday’s meeting.
…
If that’s the case, then why did the stock market appear to be so shocked that the Fed only cut its target yesterday by 25 basis points?Here’s the official Econbrowser answer– Beats me!

Fitch has placed a monoline insurer on Watch Negative:

This action follows completion of the updated assessment by Fitch of SCA’s exposure to structured finance collateralized debt obligations (SF CDOs) backed by subprime mortgage collateral, as well as SCA’s exposure to residential mortgage-backed securities (RMBS). This review indicates that SCA’s capital adequacy under Fitch’s Matrix financial guaranty capital model currently falls below guidelines for an ‘AAA’ IFS rating by more than $2 billion, due to sharp downgrades by Fitch in a number of SCA’s insured SF CDO exposures. Fitch originally announced it was conducting a review of all ‘AAA’ rated financial guarantors’ exposures to subprime-exposed insured transactions on Nov. 5, 2007.

If within the next 4-6 weeks, SCA is able to obtain firm capital commitments, and/or put in place reinsurance or other risk mitigation measures in order to meet capital guidelines, Fitch would expect to affirm SCA’s ratings with a Stable Rating Outlook. If SCA is unable to meet capital guidelines in the noted timeframe, Fitch would expect to downgrade SCA’s ratings. Based on the result of our updated capital analysis, Fitch would expect the IFS rating to be downgraded to the ‘AA’ rating category, assuming little change to the company’s current capital position. Fitch understands that SCA is actively working to address its current capital shortfall.

So, in other words, Security Capital has to get $2-billion in equity in the next 4-6 weeks or they’re basically out of business. When your business consists of renting out your credit rating, it can’t have any dents in it.

What’s a monoline insurer, you ask? Well, S&P has the answer!

Monoline insurer—An insurer that writes only financial guaranty insurance.

Multiline insurer—An insurer that writes many types of property and casualty insurance.

Today’s big news was the Central Bank USD Term Repo Extravaganza:

The Federal Reserve, European Central Bank and three other central banks moved in concert to alleviate a credit squeeze threatening global growth, in the biggest act of international economic cooperation since the Sept. 11 terrorist attacks.

For example, the Swiss:

In addition to its Swiss franc open market operations, the Swiss National Bank will offer a US dollar repo transaction on 17 December 2007. The maximum amount offered will be USD 4 billion. The USD repo transaction against SNB-eligible collateral will be conducted in the form of a variable rate tender auction and will provide funds for 28 days, with settlement on 20 December 2007. This measure is intended to facilitate the US dollar funding of SNB counterparties in the Swiss repo system.

… the Canadians …

As part of its continuing provision of liquidity in support of the efficient functioning of financial markets, the Bank of Canada announced today that it will enter into term purchase and resale agreements (term PRA) extending over the calendar year-end as follows:

Amount	Transaction and Settlement	Maturity
$2 billion	13 December 2007	10 January 2008
Minimum of $1 billion	18 December 2007	4 January 2008

… the Britons …

The Bank of England has already scheduled long-term repo open market operations (OMOs) on 18 December and 15 January. In those operations reserves will, as usual, be offered at 3, 6, 9 and 12-month maturities against the Bank’s published list of eligible collateral. But the total amount of reserves offered at the 3-month maturity will be expanded and the range of collateral accepted for funds advanced at this maturity will be widened.

The total size of reserves offered in the operations on 18 December and on 15 January will be raised from £2.85 billion to £11.35 billion, of which £10bn will be offered at the 3-month maturity.

… the Europeans …

The Governing Council of the ECB has decided to take joint action with the Federal Reserve by offering US dollar funding to Eurosystem counterparties.

The Eurosystem shall conduct two US dollar liquidity-providing operations, in connection with the US dollar Term Auction Facility, against ECB-eligible collateral for a maturity of 28 and 35 days. The submission of bids will take place on 17 and 20 December 2007 for settlement on 20 and 27 December 2007, respectively. The operational details can be obtained from the ECB’s website (www.ecb.europa.eu). The US dollars will be provided by the Federal Reserve to the ECB, up to $20 billion, by means of a temporary reciprocal currency arrangement (swap line).

It is reminded that the Governing Council previously decided on 8 November 2007 to renew at maturity the two supplementary longer-term refinancing operations (LTROs) that were allotted in August and September 2007. As an additional measure, the Governing Council decided on 13 November to lengthen the maturity of the main refinancing operation settling on 19 December 2007 to two weeks, thereby maturing on 4 January 2008 instead of 28 December 2007.

… all supported by the Fed:

Actions taken by the Federal Reserve include the establishment of a temporary Term Auction Facility (approved by the Board of Governors of the Federal Reserve System) and the establishment of foreign exchange swap lines with the European Central Bank and the Swiss National Bank (approved by the Federal Open Market Committee). 

Under the Term Auction Facility (TAF) program, the Federal Reserve will auction term funds to depository institutions against the wide variety of collateral that can be used to secure loans at the discount window.  All depository institutions that are judged to be in generally sound financial condition by their local Reserve Bank and that are eligible to borrow under the primary credit discount window program will be eligible to participate in TAF auctions.  All advances must be fully collateralized.  By allowing the Federal Reserve to inject term funds through a broader range of counterparties and against a broader range of collateral than open market operations, this facility could help promote the efficient dissemination of liquidity when the unsecured interbank markets are under stress.

Each TAF auction will be for a fixed amount, with the rate determined by the auction process (subject to a minimum bid rate).  The first TAF auction of $20 billion is scheduled for Monday, December 17, with settlement on Thursday, December 20; this auction will provide 28-day term funds, maturing Thursday, January 17, 2008.  The second auction of up to $20 billion is scheduled for Thursday, December 20, with settlement on Thursday, December 27; this auction will provide 35-day funds, maturing Thursday, January 31, 2008.  The third and fourth auctions will be held on January 14 and 28, with settlement on the following Thursdays.  The amounts of those auctions will be determined in January.  The Federal Reserve may conduct additional auctions in subsequent months, depending in part on evolving market conditions.

If this doesn’t tame the TED Spread, now at its widest levels since the crash of ’87, ain’t nuthin’ gonna do it! Initial reactions are favourable and Naked Capitalism has the news that LIBOR fell immediately:

Laurent Fransolet at Barclays Capital said Libor rates could be fixed lower in the days ahead by as much as 20 basis points.

The biggest impact will likely be seen in sterling rates, where higher fixings have had “the strongest, most direct” effect, and the most limited in the euro zone.

But it will take time for the recent market carnage to heal.

“While this would still be way above pre-crisis levels, we suspect it will be difficult for the market to fully recover in the near term. After all, the ABCP market in the U.S. is about 30 percent smaller than at its peak and that of the euro area has almost halved, making the combined shrinkage more than $500 billion over the past five months,” he wrote in a note.

If Libor rates do fall Thursday, it will be the first downward move in three-month euro Libor for over a month. 

The Fed cut rates by 25bp, to 4.25%.

Many were disappointed it wasn’t 50bp.

Stocks tanked.

But bonds benefitted from asset reallocation, even in Canada.

‘Nuff said?

A very active day in the preferred market, but with no major trends. The poor old BAM floaters finally caught a bid!

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

My quotation from the Bear Stearns Asset Backed Securities Trust prospectus on December 7 was well received, with both Econbrowser and Calculated Risk kind enough to credit me in their posts. My interest was more regarding the investor in the conduits being concerned the cash flows from the pool were being reduced; these two commenters are more interested in Treasury involvement.

It seems that the legal structure for these investments is a REMIC – real estate mortgage investment conduit, which has to be brain-dead in order to qualify for advantageous tax treatment. Without some assurance from the IRS that The Plan would not disqualify the conduit, there would be no plan – however, some such assurance is expected shortly; no great surprise since Paulson runs Treasury and Treasury runs IRS.

Calculated Risk also provides commentary on the involvement of FHA & FHASecure in The Plan.

Meanwhile, reverberations about the entire sub-prime fiasco continue, with UBS, Washington Mutual and MBIA announcing major equity infusions today. Meanwhile, Bank of America is winding up an Enhanced Money Market Fund that broke the buck on SIV paper, SocGen is consolidating a SIV onto its books and good old MLEC/Super-Conduit is being ridiculed as too little, too late.

Accrued Interest thinks we’ll see more of this:

However, my view is that this won’t be the end of MBIA’s need for more capital. MBIA has about $84 billion in residential ABS and “multi-sector” CDOs, vs. about $82 billion with AMBAC. I recently estimated that AMBAC would need $2-3 billion in new capital, so I’d suspect that before this is all said and done, MBIA comes back to the market for more. Note I didn’t say that MBIA would get downgraded. I have a strong suspicion that the bond insurers have been tipped off by Moody’s and Fitch as to how the capital adequacy studies are going. I further suspect that any capital improvements you hear about in the coming days are over and above what Moody’s and Fitch will announce (supposedly next week) is needed.

David Dodge used a speech at the Empire Club to plug the Financial System Review article on the credit rating agencies. He also lends a certain amount of support to calls for repeal of the credit agencies favoured position with respect to material non-public information (in the US, this means exemption from Regulation FD; I don’t know what the legal framework is in Canada):

Let me touch briefly on the role of credit-rating agencies in all of this. There is an article in the current FSR that expands on the issues related to the possible reform of the credit-rating process. One thing that is clear is that in the future, credit-rating agencies will find it to their advantage to explain more clearly the rationale for, and limitations of, their ratings for highly structured products. There are some natural, self-correcting market forces at work that should lead the rating agencies to improve their processes. Indeed, those credit-rating agencies that do not work harder to improve their processes will likely have fewer clients willing to pay for their services. As I understand it, most agencies are working on such improvements.

But credit-rating agencies are not to blame for the lack of information about those highly structured products that were sold to highly-sophisticated investors in the so-called exempt market. In the retail market, securities regulators impose strict requirements about the information that must be provided through a prospectus or term sheet. But there are no such requirements in the exempt market. It seems to me that some very basic disclosure is needed in every market. And since securities designed for the exempt market are usually required to carry a rating from a credit-rating agency, one way to ensure that appropriate information is available could be to require issuers to publicly disclose the same information that they make available to credit-rating agencies. In this way, investors would have access to the information they need in order to make informed decisions.

I’d like to see more discussion of this issue; removal of the special privilege might mean that everybody gets to see the information; it might mean that nobody gets to see the information.

For example, it is my understanding that the guarantee of Principal Protected Notes by international banks has a two-tiered price structure: you can get the guarantee with or without using the name of the guarantor in your advertising. In the current system, the credit rating agency can (I think) look at all the information and rate the notes while taking into account the non-public nature of the guarantee. In the proposed system, not even the credit rating agency would get to see the terms of the notes and the guarantor, unless it was all public and therefore more costly.  

I spent some time today at the David Berry hearing. You know why lawyers get paid so much? It’s because they have to listen to so much mind-numbing detail, that’s why. The part I heard was an assertion by RS staff that RS does indeed have authority to make a finding of misconduct should they wish to do so. This has been challenged by Mr. Berry on a variety of grounds including – as far as I can make out – that the TSE was not timely in changing its rules to reflect the hand-off of regulatory powers to RS and that, while Mr. Berry was employed by a Member of the TSE at the time of the alleged offence, he is not so employed now.

To my great astonishment, the documents presented to the panel hearing the case have not been published on the RS website.

I’ve found a bit more information on the Coleman Stipanovich story:

Stipanovich has worked for the board since 1999. Before that he was president of an investment consulting firm in Gainesville. He has worked for Paine Webber as a consultant and investment executive. He has a master of science degree in Criminal Justice Administration from Michigan State University and a bachelor of science in criminology from Florida State University.

Democrats have questioned why Stipanovich, whose brother is lobbyist and Republican strategist J.M. “Mac” Stipanovich, was hired. “This administration is taking the friends-and-family plan to the extreme,” Democratic Party spokesman Ryan Banfill said. “A $100-billion fund — it seems to me to be a no-brainer that you would do a national search.”

And a report – how accurate I don’t know – on his salary:

After seven years of overseeing Florida’s investment portfolio, Coleman Stipanovich suddenly resigned his $182,000 job moments ago amid upheaval over a massive withdrawal of the local government investment pool.

So let me see if I have this straight … the CEO of a fund with $184-billion in assets is being paid $182,000? And was hired without a national search? Not that a national search would have found anyone well qualified, because you don’t need to be a very well established portfolio manager – not boss of investment firm, I mean portfolio manager – to make more than $182,000 anyway.

I just lost all sympathy for the Florida municipalities – regardless of how much, if any, of the blame for their mess can be laid at Mr. Stipanovich’s door, they deserve exactly what they’re getting.

Another day of good volume and good performance by the perpetuals today.

Dear Santa, I have tried very hard all year to be a good Portfolio Manager. All I want for Christmas is to keep the month-to-date relative returns for the fund. Sincerely, JH. P.S., If you have any relative returns left over, of course, I’ll take them. JH.

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