PrefBlog

Interesting mutual fund idea:

BlackRock Inc., the world’s largest asset manager, and Blackstone Group LP’s GSO Capital Partners LP are forming mutual funds to invest in loans as the London interbank offered rate rises to the highest level since August.

Within the past two months, the firms have joined Goldman Sachs Group Inc. in announcing funds that invest in leveraged loans pegged to short-term interest rates. Investors poured more than $2.5 billion into bank loan mutual-funds in March and the first three weeks of April, more than triple the amount for March and April last year, according to Lipper FMI data.
…
The S&P/LSTA U.S. Leveraged Loan 100 Index has returned 5.68 percent this year, building on last year’s record 52 percent as lending continues to open up. New money “will provide financing, which will help” merger and acquisition deals get done, according to Invesco Ltd.’s Tom Ewald.
…
This year, $91.6 billion in leveraged loans have been underwritten, more than four times the figure from the same period in 2009, according to data compiled by Bloomberg. The interest charge on leveraged loans is typically tied to Libor.

However, the only term-criteria for inclusion in the index is:

Minimum initial term of one year

… which suggests that – as always – people are so fixated on interest-rate risk that credit risk is forgotten. It brings up a number of issues … we’ve seen (oh boy, have we ever seen) how the redemption on demand nature of mutual funds doesn’t mix too well with borrowers’ desire for long-term funding at short term rates (see Volcker to Regulate Money Market Funds as Banks? and The US Dollar Shortage & Policy Response).

This dichotomy will not play out in precisely the same manner as the USD MMF crisis, of course, since the loans have a contractual term that didn’t begin as money-market …. but a similar crunch could lead to forced selling that that will put the Credit Crunch to shame.

There are rumours that regulatory extortion works as well as ever:

After 11 hours of accusations by members of the Senate Subcommittee on Permanent Investigations, people close to the bank said Goldman is mulling closing the SEC fraud-case chapter on the belief the firm’s reputation, already damaged, might not endure a street fight with the Wall Street watchdog.

“It’s almost a certainty that there will be a settlement,” said a source.

As another person put it, the SEC has an “unlimited supply of ammunition” in the form of e-mails and records that it could release, and Goldman officials would like to avoid having those documents fired back at them the way they were on Tuesday.

Predictably, the boo-hoo-hoo brigade is in full cry. For example, there are reports that Basis Yield Alpha Fund is claiming that it did not independently analyze its investment and simply bought whatever their salesman offered:

Citing several people familiar with the matter, The FT said Basis Yield Alpha Fund was seeking compensation over its $100 million investment in Timberwolf, a so-called hybrid collateralized debt obligation that Goldman took to market in March 2007, Reuters reported.

As far as I can tell, Basis Yield Alpha Fund was run by Basis Capital. It is worthwhile to note the company’s Executive Team page; the proprietors, Steven Howell and Stuart Fowler tout their experience but not their results.

There is pressure to use German banks as a political tool:

German lawmakers considering a bill to aid Greece challenged Chancellor Angela Merkel to involve banks in the rescue, refusing to back down after her government said that would send a “fatal signal” to markets.

The main opposition Social Democratic Party threatened to withhold support for aid next week when the bill is fast-tracked through parliament unless banks are asked to contribute. Members of Merkel’s Christian Democrats said the government should ask banks to voluntarily accept losses on their investments.

After having been hammered by dumb investments in CDOs, the banks should be grateful to the politicians for pointing out better investments, eh?

So-called “Strategic Mortgage Defaults” in the States are increasing:

Decisions by U.S. homeowners to walk away from mortgages they can afford account for an increasing share of defaults, according to Morgan Stanley.

About 12 percent of all mortgage defaults in February were “strategic,” up from 4 percent in mid-2007, New York-based Morgan Stanley analysts led by Vishwanath Tirupattur wrote in a report today. Borrowers are more likely to stop paying their mortgages the higher their credit scores and the larger their loans, the analysts said.

Defaults by borrowers who owe more than their homes’ values are among the biggest risks for the housing market, according to analysts including Zelman & Associates’ Ivy Zelman and Amherst Securities Group LP’s Laurie Goodman. Last month, the Obama administration said it would adjust its anti-foreclosure program to encourage reductions to borrowers’ principal amounts, instead of just the payments they make, to address the issue.

The importance of asset-ratio relative to income-ratio in mortgage default analysis was discussed in the post Redefault on Modified Mortgages

You knew this was coming, didn’t you? The US Senate financial regulation bill says that pension fund managers are too dumb to act as principal or, to put it another way, only the sell-side has the ability to analyze financial instruments:

Fannie Mae, Freddie Mac and Harvard University are among public and private entities that could be shut out of the $605 trillion privately negotiated derivatives market they use to manage risks under legislation being debated in the U.S. Senate, according to an industry group.

The bill would impose a fiduciary duty on swaps dealers doing business with cities, states, government agencies, pension plans and endowments, applying standards that would require banks such as JPMorgan Chase & Co. and Goldman Sachs Group Inc. to put the interest of those entities ahead of their own.

But I guess it all makes sense, eh? The politicians have to do something to show they are Responding To The Credit Crunch and since the buy side was (approximately, more or less, give or take) unscathed by the horror, the sell side (which nearly destroyed itself) must take on responsibility for advising it.

A mixed day on continued heavy volume for the Canadian preferred share market, as PerpetualDiscounts were able to record a gain of 9bp, while FixedResets continued their descent, losing 17bp to bring the median average yield-to-worst up to 4.56%. That’s a point more than their yield on March 31. A full point!

Spain’s been downgraded:

Spain had its credit rating cut one step by Standard & Poor’s to AA, putting it on a par with Slovenia, as contagion from Greece’s debt crisis spreads through the euro region.

S&P said in a statement today that the outlook on Spain is negative, reflecting the chance of a possible further downgrade if the “budgetary position underperforms to a greater extent than we currently anticipate.” Spain was last cut by S&P in January 2009.

The risk premium investors demand to hold Spanish bonds surged to the highest in more than a year today and the price of insuring Spanish bonds against default reached a record as doubts about Greece’s ability to pay its debt spilled over into Spanish and Portuguese markets.

… and S&P is making recovery-on-default estimates for Greece:

The ratings firm yesterday cut Greece three steps to BB+, or below investment grade, and said bondholders may recover only 30 percent to 50 percent of their investments if the nation fails to make debt payments. Europe’s most-indebted country relative to the size of its economy has about 296 billion euros of bonds outstanding, according to data compiled by Bloomberg.

OSFI’s Assia Billig gave a presentation on the Canada Pension Plan. Real returns on the fund’s portfolio are estimated to be 4.2% +/- 1.5% with 95% confidence. It won’t be holding a lot of government bonds!

Senator Levin is doing some more grandstanding:

Levin, who questioned Goldman Sachs executives during a hearing in Washington yesterday, said the regulatory reform bill being weighed in the Senate will address conflicts where companies have undisclosed interest in betting against clients.

Today’s FOMC statement was encouraging for fixed-income investors:

Although the pace of economic recovery is likely to be moderate for a time, the Committee anticipates a gradual return to higher levels of resource utilization in a context of price stability.

With substantial resource slack continuing to restrain cost pressures and longer-term inflation expectations stable, inflation is likely to be subdued for some time.

The Committee will maintain the target range for the federal funds rate at 0 to 1/4 percent and continues to anticipate that economic conditions, including low rates of resource utilization, subdued inflation trends, and stable inflation expectations, are likely to warrant exceptionally low levels of the federal funds rate for an extended period.

Another day of poor performance on high volume for the Canadian preferred share market, as PerpetualDiscounts lost 16bp while FixedResets were down 12bp.

PerpetualDiscounts now yield 6.35%, equivalent to 8.89% interest at the standard equivalency factor of 1.4x. Long corporates (which are up 0.70% on the month-to-date and +5.76% year-to-date) now yield about 5.7% (edging towards 5.6%!) so the pre-tax interest-equivalent spread is now about 320bp, a significant widening from the 305bp reported April 22, above the recent high of +310bp reported April 7 and a big move wider than the +285bp reported on March 31.

Nomura is finding out that rainmakers are mobile:

Nomura has been hitting turbulence. At least 12 senior former Lehman managers, including Nomura’s deputy investment banking chief, have defected since the firm began paying out guaranteed bonuses last month, casting doubt on Watanabe’s efforts to bridge cultural gaps. Japan’s largest brokerage is struggling to match a rebound in profit at Morgan Stanley, Goldman Sachs Group Inc. and Citigroup Inc.

“Investment banking is ferociously competitive,” said Giorgio Questa, a finance professor at London’s Cass Business School. “I strongly doubt Nomura can develop a strong international investment banking business” because it will struggle to integrate Lehman’s culture, he said.

In shocking news, it appears that Goldman personnel discussed which asset management firms might have wanted to sell what other clients wanted to buy:

Newly disclosed Goldman Sachs Group Inc. internal e-mails cast light on how the investment bank devised collateralized debt obligations called Abacus, including one at the center of a U.S. Securities and Exchange Commission fraud lawsuit.

The e-mails show employees discussed which outside firms would be “easiest” to work with while creating Abacus CDOs to bet against the housing market.

The e-mails were released yesterday by Senator Carl Levin, the Michigan Democrat who leads the Senate’s Permanent Subcommittee on Investigations, as the panel prepares to question Goldman Sachs executives today. In one message, a Goldman Sachs worker asked which outside firm would most likely approve assets that hedge fund Paulson & Co. wanted to include in a CDO and bet against.

“The way I look at it, the easiest manager to work with should be used for our own axes,” the author wrote in December 2006, using industry jargon that can refer the firm’s financial interest in a deal. The writer also expressed concern that two firms being considered weren’t likely to sign off on Paulson’s suggested assets. “They will never agree to the type of names [P]aulson want to use[.]”

Even more horrifically, Senator Levin has learned that Goldman was acting as principal:

In another December 2006 e-mail, Tourre discussed other business opportunities for Abacus, outlining a strategy in which Goldman Sachs would “‘rent’ our Abacus platform to counterparties” that wanted to short the market. The messages show “Goldman repeatedly put its own interest and profit ahead of the interests of its clients,” Levin said.

Can you imagine? Putting a trade in front of an asset manager, just as if they were adults? The mind boggles!

In the actual hearing, Senator Levin stated that in the future, institutional clients will not be allowed to take views on the market that are contrary to those of their broker’s research department:

“Goldman Sachs didn’t just make money, it profited by taking advantage of its clients’ reasonable expectation that it would not sell products that it did not want to succeed and that there was no conflict of economic interest between the firm and its customers,” Levin said today in his opening remarks. “Its conduct brings into question the whole conduct of Wall Street.”

The political rhetoric is getting a little wearisome. Senator Levin is, I am quite confident, a knowledgable and intelligent man with a knowledgable and intelligent staff and access to knowledgable and intelligent Treasury / Fed / private analysts. So I can only find solace in the idea that it’s just political breast-beating with the aim of passing his favoured legislation and extorting a little fuck-off money from Goldman to highlight in his next re-election brochures.

There’s nothing on the the company website, no press releases I can find and nothing on SEDAR … but Canadian Banc Recovery Corp. had a footer ad on the front page of the Globe & Mail Report on Business today touting their “Attractive Distribution” … and the PrefBlog Forecasting Department thinks this means that a treasury offering will be forthcoming soon for BK and BK.PR.A.

Another rough day for the Canadian preferred share market, with PerpetualDiscounts down 21bp while FixedResets lost 27bp. Volume continued heavy.

IIROC has announced that downtown Toronto will be safe and accessible under any conceivable conditions:

IIROC recently decided to cancel the industry business continuity planning test that was scheduled for June 26, 2010 due to complications associated with the G20 meeting which is now scheduled in Toronto for June 26-27, 2010. IIROC considered rescheduling the test for the latter part of 2010 but that again proved to be impractical considering the length of time utilities require for participation in such tests.

As a result we have rescheduled the industry test to September 10, 2011. Subsequent business continuity planning tests will be conducted on a bi-annual basis thereafter.

We can only hope that when Al-Quaeda decides to nuke Toronto, they give the utilities proper notice. It is of interest to learn that firms must, by regulatory decree, prepare for fire, famine, earthquakes, terrorism, tornados and plagues of frogs; but that G-20 meetings are considered Acts of God. Our glorious Finance Minister will be pleased!

Senator Carl Levin is shocked at Goldman Sachs’ attitude:

“Investment banks such as Goldman Sachs were not simply market-makers, they were self-interested promoters of risky and complicated financial schemes that helped trigger the crisis,” Levin, 75, said in a statement released with the e-mails.

Self-interest? Promotion? In the co-operative game that is the financial world? Oh, the horror!

At least Fabulous Fab writes entertaining eMails:

The so-called ABX index is “the type of thing which you invent telling yourself: ‘Well, what if we created a ‘thing,’ which has no purpose, which is absolutely conceptual and highly theoretical and which nobody knows how to price?’” [Goldman Sachs executive director Fabrice] Tourre said in a Jan. 29, 2007, e-mail released yesterday by Goldman Sachs. Watching the index fall is “a little like Frankenstein turning against his own inventor.”

The shortcomings – well, they’re more like odd nuances, actually – of the ABX index have been discussed on PrefBlog throughout the Credit Crunch.

DBRS has commented on the Bank of Ireland capital raise:

Today’s comment follows Bank of Ireland’s announcement of a fully underwritten proposal to raise EUR 3.421 billion equity tier 1 capital. This proposal includes a EUR 0.5 billion institutional placing of ordinary shares, a partial conversion of the Irish Government’s preference shares of EUR 1.036 billion to ordinary shares, and a rights issue of up to EUR 1.885 billion. The latter rights issue may be reduced by the equity generation and profits from the also just announced debt for equity exchange offer.
…
Importantly, the completion of the proposed actions will allow Bank of Ireland to fulfil its obligation to raise an additional EUR 2.7 billion of equity capital to meet the requirement established as part of the completion of the Financial Regulator’s Prudential Capital Assessment Review for the Irish banking sector. As a result of these actions and the expected National Asset Management Agency (NAMA) transfers, the Group’s equity tier 1 capital ratio, on a pro-forma basis, at 31 December 2009, will increase to 8.0% and the Group will be able to maintain a minimum equity tier 1 ratio of greater than 7% going forward. Moreover, the announcement includes the full cancellation of the Government’s warrants in the Group in return for a cash payment of EUR 491 million, reducing the potential for the Government to increase its holdings in the Group. As a result, the Irish Government’s maximum ownership will be 36% that compares to a current fully diluted ownership of 34%, prior to completion of this transaction.

The Irish bank capital requirements have been previously discussed.

PerpetualDiscounts were hit hard today, losing 26bp on heavy volume while FixedResets lost a mere 4bp,