PrefBlog

Corporations are well placed to weather the next crisis:

Companies from the U.S. to Europe and Asia are selling the fewest bonds since 2004, as rising cash levels allow borrowers to weather a slowing economy.

Debt offerings fell to $1.17 trillion in the first half of the year, 39 percent less than the same period in 2009, according to data compiled by Bloomberg. The decline was led by financial companies, which issued 35 percent less debt.

Issuance is declining as borrowers with 15 percent more cash than a year earlier avoid tapping credit markets amid concern that Europe’s sovereign-debt crisis may slow the global economic recovery. Corporate bonds have returned 4.9 percent in the first half of the year, beating the MSCI World Index of stocks, which is down 8.9 percent, by the most in nine years.
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Cash at investment-grade companies rose to $668 billion at the end of the first quarter from $580 billion a year earlier, while debt fell 2 percent to $2.3 trillion, JPMorgan Chase & Co. analysts led by Eric Beinstein in New York wrote last week.

In the midst of the sovereign debt crisis, the EU is taking firm action:

Bankers in Europe will not be allowed to take home more than a third of their bonuses in cash from the start of next year under planned new rules, a British lawmaker said Tuesday.
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Under the negotiated agreement, cash could only constitute 30 percent of a regular bonus and one-fifth a large bonus. A new watchdog for European banks will define what constitutes a large bonus. There will also be an opportunity for a “clawback” of bonuses if deals made to reach profit targets later fell apart.

In addition, banks that have received government bailouts will have to limit bonuses paid to their managers, while directors will not be eligible to receive any bonus unless it is justified to supervisors. Banks must also set limits on bonuses in relation to salaries to avoid any windfall payouts.

What will happen, I think, is that talent will migrate to hedge funds, which will take over a significant part of the market-making function. Maybe this is a good thing. But I doubt that anybody’s thought about it.

Ms Gertrude Tumpel-Gugerell, Member of the Executive Board of the European Central Bank, spoke at the US Financial Services Roundtable, Brussels, 28 June 2010, stringing together non-sequiters to reach a politically desirable conclusion (emphasis added):

The first priority relates to the development of financial infrastructures in those markets where they are not yet sufficiently used or available, notably in OTC derivatives markets. The crisis has shown that markets with adequate infrastructures and hence proper risk management and risk provisions have proven to be more resilient than markets without such infrastructures, such as the OTC derivatives markets. Therefore, expanding the use of central counterparties (CCPs) in these increasingly systemically relevant markets is a key measure to reduce counterparty and operational risk. Another important step is the mandatory reporting of all trades to centralised trade registries, so-called trade repositories, in order to enhance market transparency. In my view, if CCPs and trade repositories for credit default swaps had been available before the Lehman default, Lehman’s CDS exposures could have been managed in a much more transparent and resilient way and could have mitigated the negative chain reaction on CDS markets that followed the demise of Lehman.

CCPs and trade repositories for OTC derivatives are ultimately beneficial for all stakeholders. Still, there are the well-known challenges of effective collective action in the context of the provision of public goods. Hence, private sector efforts alone may not suffice to foster sufficient progress towards the use of CCPs and trade repositories for OTC derivatives. It is therefore important to adopt and implement the regulatory requirements for the mandatory central clearing of all eligible products and the reporting of trades to trade repositories in a timely manner. Given, however, the global nature of OTC derivatives markets, it is clear that such regulatory tools will only be successful if they are applied in a coordinated manner around the globe. I strongly support the recently launched work of the Financial Stability Board to develop common approaches to fostering the central clearing of eligible OTC derivatives as well as to expand the range of potentially clearable products through enhanced standardisation.

Quite frankly, I don’t understand her use of the word “therefore”!

The OSC has published a new edition of Perspectives. Articles feature:

• CSA publishes proposed amendments to mutual fund regulations
• CSA publishes frequently asked questions about order protection and locked and crossed markets
• OSC updates registrant section of its website

There’s some more reaction to mandatory margining proposals, this time from ISDA:

A change in the wording of the financial reform bill now being finalized in the US Congress could cost US companies as much as $1 trillion in capital and liquidity requirements, according to research by the International Swaps and Derivatives Association, Inc. (ISDA). About $400 billion would be needed as collateral that corporations could be required to post with their dealer counterparties to cover the current exposure of their OTC derivatives transactions. ISDA estimates that $370 billion represents the additional credit capacity that companies could need to maintain to cover potential future exposure of those transactions. If markets return to levels prevailing at the end of 2008, additional collateral needs would bring the total to $1 trillion.

That will be a nice little profit centre for the banks – setting up credit lines dedicated to collateralization! Now, is this a good thing, or a bad thing? Nobody knows. It hasn’t been discussed.

Naturally, some companies will be affected more than others:

Berkshire [Hathaway Inc.] owns derivatives with a notional value of about $62 billion and has “negligible” collateral requirements, Barclays analyst Jay Gelb said today in a report. [Warren] Buffett’s firm, based in Omaha, Nebraska, may need to post $6 billion to $8 billion in collateral under rules being debated by the U.S. Congress, he said.

The SEC has announced new rules to discourage political corruption in the investment advisory business. Sadly, there are no rules disallowing the hiring of former SEC employees.

CM has issued CHF 500-million in 5-year covered bonds at 1.75%. Bonds OnLine is reporting 5-year Swiss governments at a rather alarming -0.26% (that’s right, negative twenty-six beeps); the only data I can find for 5-years on the Swiss National Bank site is dated May 31. DBRS rates them AAA:

The ratings are based on several factors. First, the Covered Bonds are senior unsecured direct obligations of CIBC, which is the fifth largest bank in Canada and rated AA and R-1 (high) with a Stable trend by DBRS. Second, in addition to a general recourse to CIBC’s assets, the Covered Bonds are supported by a diversified collateral pool of first-lien prime residential mortgages insured by Canada Mortgage and Housing Corporation (CMHC) (the Cover Pool). CMHC is an agent of Her Majesty in right of Canada and is rated AAA by DBRS.

MFC.PR.B traded 5,792 shares on the TSX today in a range of 19.63-80 and closed at 19.01-66, 10×12. The last trade was at 3:58pm, 300 shares at 19.66. I can only suppose the market maker decided to get an early start on his weekend.

Much the same thing happened with GWO.PR.J: traded 3,400 shares in a range of 26.62-85 before closing at 25.92-62, 20×7.

BAM.PR.G traded 145 shares, all at 21.40, and closed at 20.91-40, 15×10. I can only imagine that the market maker was overwhelmed by the volume.

These are particularly annoying incidents, because it’s not just month-end, it’s quarter-end.

PerpetualDiscounts squeaked out a win today, gaining 4bp, while FixedResets gained 7bp on light volume and, as we have seen, a surprising and probably spurious amount of volatility.

PerpetualDiscounts now yield 5.97%, equivalent to 8.36% interest at the standard conversion factor of 1.4x. Long corporates now yield an astonishing (to me) 5.45%, so the pre-tax interest-equivalent spread (also called the Seniority Spread) now stands at about 290bp, the same level reported on June 23, but a narrowing of 25bp from the 315bp spread reported on May 31.

And that’s a wrap for June, 2010!

The Bank for International Settlements released its annual report with chapters on:

• Beyond the rescue: exiting intensive care and finishing the reforms
• From the emergency room to intensive care: the year in retrospect
• Low interest rates: do the risks outweigh the rewards?
• Post-crisis policy challenges in emerging market economies
• Fiscal sustainability in the industrial countries: risks and challenges
• The future of the financial sector
• Macroprudential policy and addressing procyclicality
• The BIS: mission, activities, governance and financial results

Naturally enough, the sections that dealt with regulation are in complete alignment with the G-20 communique. What a coincidence that is!

There’s a hiccup on the way to the US Bank Bill:

U.S. Representative Barney Frank may reconvene the House-Senate financial-overhaul conference today to address Republican protests over a $19 billion bank fee in the bill, according to a scheduling announcement sent to lawmakers.
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One plan under consideration would instead cover the shortfall in the bill with an increase in the fund that the Federal Deposit Insurance Corp. maintains to repay customers their deposits when a bank fails. Another would save money by closing the Troubled Asset Relief Program two months early, according to the announcement.

Changing the bank fee could end an impasse that threatened to delay the final Senate vote on the bill after the death of Senator Robert Byrd, a West Virginia Democrat. Byrd’s absence left Democrats in need of all four Republicans who previously backed the measure. One of those Republicans, Senator Scott Brown of Massachusetts, withdrew his support earlier today, citing the fee.

PrefBlog has added to its list of interesting things to do while drunk:

Mr Perkins, who worked for City brokers PVM Oil, had gone on a golfing weekend organised by the company.

Then he took the Monday off work and continued to binge drink from midday onwards.

By the evening, Mr Perkins had made his first batch of unauthorised trades.
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In his stupor, he casually notched up thousands of trades worth a total of $520million (£345million).

He drunkenly bought a net 7.13million barrels of oil during the typically quiet overnight period, and at times was personally responsible for 69 per cent of the overall volume of Brent crude being traded globally.

His actions sent prices surging by more than $1.50 to $73.50 for a barrel of Brent crude oil – the highest it had been for eight months.

The deals ended up costing his company £6million and potentially cost companies worldwide more than £100million.

Westcoast did a 10-year bond issue:

Westcoast Energy Inc. raised C$250 million from an issue of 10-year bonds maturing July 2020, pricing the offering at 138.5 basis points over the relevant benchmark for a yield of 4.571%, according to a person familiar with the matter.

The bonds carry a coupon of 4.57%.

Westcoast is owned by Spectra Energy Corp. (SE).

There’s an odd lawsuit against the Greater Toronto Hockey League claiming not that try-outs were rigged, or anything like that, but that everybody should get a chance to play (70-odd players tried out for 17 positions):

“Their direct actions have caused irreparable psychological damage to Daniel Longo’s self esteem as an impressionable teenager and demoralized Daniel as an athlete and team hockey player with his peers,” the Longo statement of claim reads. “The conduct by all defendants destroyed the dignity of my son, whom in good conscience gave his team nothing but his best efforts.”

Valela’s statement of claim states: “When Christopher was advised of his termination by my wife and I, he vowed never to play the game he loved since childhood. And, morevoer, his misguided group of defendants demoralized my wife and I, whom had gone well beyond the call of duty as parents in support of the Toronto Avalanche hockey team for two seasons.”

I know a teenager who quit an activity after finding out he wasn’t good enough. Has it always been this way, or is all the fashionable self-esteem crap raising a nation of quitters?

Tragedy struck the Canadian preferred share market today, as PerpetualDiscounts suffered their first loss since May 20. The PerpetualDiscount index gained on twenty-six consecutive trading days, for a total return of +7.43% as median weighted average yield declined from 6.39% to 6.01%. Over the same period, FixedResets had a total return of +1.68%.

I had been hoping to close the quarter with a full month’s run of gains … but you can’t win them all!

PerpetualDiscounts lost 4bp while FixedResets gained 11bp today. Volume picked up to above-average levels, perhaps related to portfolio shuffling with respect to PWF.PR.P and TRP.PR.C, which both closed today.

The Federal Reserve Bank of Boston has released a Public Policy Brief by Jeffrey C. Fuhrer and Giovanni P. Olivei titled The Role of Expectations and Output in the Inflation Process: An Empirical Assessment:

This brief examines two issues of current interest concerning inflation: (1) whether “well-anchored” expectations will help to restrain inflation’s decline and whether an “un-anchoring” of expectations could lead to undesirably high inflation and (2) to what extent output (or utilization) gaps are useful components of empirical models of inflation and, if they are useful, to what extent current gaps might counterbalance the effect of expectations on inflation. The goals of conducting this examination are to articulate a reasonably coherent framework for the discussion, highlight the key areas of uncertainty, and provide new empirical evidence that sheds some light on these areas.

Nothing much happened in the credit markets, so I’ll discuss Toronto politics. Why not?

I am pleased to see that Queers Against Israeli Apartheid is being readmitted to the Pride Parade:

Pride Toronto has announced that its recent resolution to restrict the use of certain language during the 2010 Parade has been replaced by the requirement that each participating group read, sign and agree to abide by the City of Toronto’s Declaration of a Non-Discrimination Policy, and that all groups that uphold this policy are welcome to participate in the 2010 Pride Parade.

The requirement to “read, sign and agree to abide by the City of Toronto’s Declaration of a Non-Discrimination Policy” is more than just a little bit precious, but if Pride wants to jump through those hoops, that’s their business. To me, it just shows there’s not much point in getting involved with any sponsored civic activity.

Two mayoral hopefuls seem to think this is an issue in which the city should be involved:

“I want to express my disappointment and disgust with Pride Toronto’s decision to allow this hateful group to march,” said mayoral hopeful Rob Ford.

Giorgio Mammoliti, who is also running for mayor, will introduce a motion at council demanding that Pride return all city funding, about $250,000.

Pride’s done a lot more to bring money into the city than either of those two clowns ever have! I think they should concentrate a little more on how to get a souvlaki cart licensed in less than three years.

PerpetualDiscounts gained 14bp today to keep the streak alive – two more days and they will have gone the entire month of June without a loss. FixedResets were flat; volume was moderate; volatility was almost non-existent.

It looks like tranche retention will become law, as proposed by the SEC and supported by John Hull, among others:

Private lenders will be required to keep at least a 5 percent stake in loans they package and sell under an agreement reached by House and Senate lawmakers who are negotiating the financial-regulatory bill.

Lawmakers said the goal of the risk retention rule, also known as the skin-in-the-game provision, is to raise the quality of loans by keeping companies tied to the loans they make. Lax underwriting on subprime mortgages helped fuel the mortgage market collapse in 2007.

The measure would affect credit-card debt, auto loans, mortgages and other securitized debt. Issuers of asset-backed debt and the originators who supply them with pools of loans would be forced to retain at least 5 percent of the credit risk.

Lawmakers exempted many mortgages from the rules after lobbying by brokers and community banks, who said forcing lenders to keep loans on their books would tie up capital and lead to higher interest rates.

So higher interest rates is OK for credit-card debt, auto loans and other things, but not for Holy Mortgages? Haven’t I heard this song before?

The basic problem with the proposal is that tranche retention was the actual problem during the crisis – if the investment banks had be forced to sell their holdings to arms-length third parties, price discovery and lack of appetite would have been apparent much, much sooner.

I have even more disdain for the proposed underwriting rules:

Dodd proposed adding language based on the Merkley-Levin proposal to curb conflicts of interest by preventing firms that underwrite an asset-backed security from placing bets against the security.

The conflict-of-interest provision is aimed at addressing the fraudulent activity alleged in the Securities and Exchange Commission’s lawsuit against Goldman Sachs Group Inc. The SEC is alleging the bank created and sold collateralized debt obligations linked to subprime mortgages without disclosing that hedge fund Paulson & Co. helped pick the underlying securities and bet against the vehicles.

Every time a dealer sells me something as principal, he’s betting against it. Every single time! What’s the big deal here?

The congressional panel has approved a reconciled bill; most is as reported above, but there’s another thing:

An amendment introduced by Senator Susan Collins, the Maine Republican who joined Democrats in voting for the broader bill, will bar bank holding companies from keeping less capital than their bank subsidiaries. That will have an impact on the use of trust preferred securities, known as TruPS. Lawmakers bowed to pressure from banks, agreeing to a transition period for large firms and grandfathering of the securities for smaller lenders.

Banks with assets of at least $15 billion will get five years to replace TruPS with common stock or other securities that count as capital. Community banks that have raised cash through TruPS since 2000 will, in effect, get 20 years to make the switch because most of the securities have 30-year maturities. Smaller lenders sold roughly $45 billion of the $150 billion in TruPS issued by U.S. banks, which packaged them into collateralized debt obligations.

I’m not sure yet, but I think that this outlaws double leverage, at least as far as banks are concerned.

Importantly, there is a job-creation scheme for ex-regulators:

Large hedge and private equity funds will be forced to register with the SEC, subjecting them to mandatory federal oversight for the first time. Venture capital funds were exempted from the registration rule.
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Any firm with $150 million or more in assets, such as ESL Investments Inc. and Soros Fund Management, will be covered by the law. Funds also must hire a chief compliance officer and set up policies to avoid conflicts of interest.
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Complying with registration rules may cost hedge funds as much as $500 million in the first year, said Judith Gross, founder of JG Advisory Services LLC, a New York-based consulting firm to the hedge-fund industry. The estimate is based on 2,000 new registrants and reflects the cost of implementing necessary compliance procedures.

Salesmen are still salesmen, at least for a while:

Lawmakers scrapped a proposal that would have made securities firms more accountable to individual investors. Instead, the SEC is required to study whether changes are necessary.

The debate focused on whether stock brokers who offer clients investment advice should have a fiduciary duty that requires disclosure of all conflicts and restricts marketing to products that are in customers’ best interests. Currently, brokers must only ensure that a stock or bond is suitable before selling it to a client.

There is a States-rights turf battle brewing over insurance:

The bill creates a new Federal Insurance Office within the Treasury to monitor insurers, and requires a study that will recommend ways to further overhaul regulation of the industry. Industry groups say a new layer of oversight may complicate compliance and increase costs.
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Insurers, which are mainly regulated by states, will now have to deal with a national watchdog. State insurance commissioners are concerned federal oversight will interfere with rules already in place. Insurers are concerned that they will have to devote more resources to answer to multiple officials.

Morningstar is rating fundcos on how precious they are. To hell with performance!

Today’s lesson is on “getting it”, as explained by Kenneth Feinberg:

New government oversight should avert a return to the “good old days” of outsize bonuses and lavish perks on Wall Street even if bankers still don’t “get it,” Obama administration paymaster Kenneth Feinberg said.
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Earlier this week, Feinberg said he will step down from his Treasury Department pay post by the end of August to focus on his new job as the government-appointed administrator of BP Plc’s $20 billion fund to pay claims stemming from the Gulf of Mexico oil spill.

Feinberg gets it!

Turkey has announced that Mustafa Kemal Ataturk’s reputation is so dubious it requires special protection:

Furious over Internet insults of the country’s beloved founder, Turkey has gone on the offensive against Google, tightening a ban on YouTube and cutting public access to a host of Google-owned sites.
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The country began blocking access to websites in 2007, after parliament adopted an a law against cyber crime in an effort to curb child porn, prevent the dissemination of terrorist propaganda and stamp out illegal gambling. Websites deemed to be disrespectful of Turkey’s founder, Mustafa Kemal Ataturk, and of religious beliefs were also outlawed.

Under court order, Turkey’s telecommunications authority banned access to YouTube, the video-sharing site, in May 2008, after users complained that some videos insulted Ataturk. Earlier this month, Turkey expanded the ban to include some Google pages that use the same Internet Protocol addresses as YouTube, to prevent users from circumventing the ban. The search giant Google Inc. is YouTube’s parent company.

Volume was light today as all the part-timers stayed home to play with their dollies (though, to be fair, it is possible that somebody might be wearing a T-shirt with a slogan that might have made them uncomfortable (see May 18)). PerpetualDiscounts made another gain, 7bp this time, to keep the streak alive, while FixedResets gained 8bp.

How ’bout them Greek swaps, eh?:

Credit-default swaps on Greece rose 38 basis points to an all-time high of 970 basis points, according to CMA DataVision. Contracts on Portuguese government securities climbed 16 basis points to a two-week high of 336.5, while Spain rose 4 to 269.

The politicians have come up with a solution of how to solve their GSE mess: make the banks pay:

Bank executives were panicking last night over a proposed fix to Title II of financial reform literally penciled in at the last minute. The fear is that that the proposed change to the orderly liquidation authority could leave banks on the hook for a possible wind-down of Fannie Mae and Freddie Mac that could cost as much as $400 billion. In the House counter-offer below, Fannie and Freddie are penciled in as falling under the definition of ‘financial company,’ meaning they could be resolved by the orderly liquidation process. This process is paid for by the sale of the failing company’s assets and/or through assessments on other financial companies, possibly putting the Street in line to pay for the liquidation of the troubled housing giants.

Competition between Treasury and the FDIC to deal with private equity purchasers of banks was mentioned on April 30. That trend is continuing:

Buyout firms thwarted by regulators from taking over failed banks have found a solution: Acquire lenders that are still in business.

Moelis Capital Partners LLC, Thomas H. Lee Partners LP and the Carlyle Group are among firms that agreed to buy stakes in at least five U.S. banks since April. While most are small, with assets of less than $1 billion, their status as banks means they can buy more distressed lenders that can be merged and sold later — a tactic that made some private-equity investors billionaires in the 1990s.
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In at least three cases, the shift in tactics requires approval from the Treasury, which owns stakes in small banks through its injection of U.S. bailout funds. Capital infusions for Pacific Capital, Hampton Roads and Sterling are all contingent on the government writing down its investment.

The Canadian preferred share market continued to move ahead on lower than average volume today, with PerpetualDiscounts and FixedResets both gaining 7bp.