PrefBlog

The Irish have some wiggle-room in bail-out negotiations:

Ireland won’t be required to raise its corporate tax rate as part of a European Union bailout, French President Nicolas Sarkozy said, addressing an issue that looms as a stumbling block to an aid agreement.

“When you have to tackle a deficit, you have two levers, spending and taxes,” Sarkozy said today in Lisbon at a summit of NATO leaders. “I can’t believe that our Irish friends, in full sovereignty, won’t look at both since they have more room for maneuver given that their tax rates are lower. But that’s not a demand or a condition, just an opinion.”

So much for bravado:

Finance Minister Brian Lenihan said Ireland will apply for a bailout as it sets itself up to be the second euro member to seek a rescue from the European Union and the International Monetary Fund.

“I will be proposing to my colleagues that they should formally apply for a program,” Lenihan said in an interview with state broadcaster RTE in Dublin. “The banks were too big a problem for the country. The key issue all the time for the government is to ensure that we do not have a collapse of the banking sector.”

And now, it’s official:

Ireland sought international aid, becoming the second euro country to need a rescue as the cost of saving its banks threatened a rerun of the Greek debt crisis that destabilized the currency.

Ireland will channel some of the money from the European Union and International Monetary Fund to lenders through a “contingent” capital fund, Irish Finance Minister Brian Lenihan told reporters late yesterday. The rest of the package, which Goldman Sachs Group Inc. estimates may total 95 billion euros ($130 billion), would help Ireland avoid selling bonds.

“The banks were too big a problem for the country,” Lenihan said in Dublin. “The key issue all the time for the government is to ensure that we do not have a collapse of the banking sector.”

This is interesting in light of the prognostications of Willem Buiter and Ann Sibert in The collapse of Iceland’s banks: the predictable end of a non-viable business model (discussed on November 5, 2008):

Iceland’s circumstances were extreme, but there are other countries suffering from milder versions of the same fundamental inconsistent – or at least vulnerable – quartet:
(1) A small country with (2) a large, internationally exposed banking sector, (3) its own currency and (4) limited fiscal spare capacity relative to the possible size of the banking sector solvency gap.

Countries that come to mind are:

•Switzerland,
•Denmark,
•Sweden
and even to some extent the UK, although it is significantly larger than the others and has a minor-league legacy reserve currency.

Ireland, Belgium, the Netherland and Luxembourg possess the advantage of having the euro, a global reserve currency, as their national currency. Illiquidity alone should therefore not become a fatal problem for their banking sectors. But with limited fiscal spare capacity, their ability to address serious fundamental banking sector insolvency issues may well be in doubt.

One way or another, there are repercussions:

Ireland’s bid for financial aid may trigger a cut in the country’s credit rating, the demise of the government and an exodus of multinational companies.

The euro fell and Irish bonds pared their advance after Moody’s Investors Service said a “ multi-notch” downgrade in Ireland’s Aa2 credit rating was “most likely” because the aid would increase the country’s debt burden. The prospect of January elections loomed as the Green Party said it would pull out of Prime Minister Brian Cowen’s coalition.

Accounting rules are a big issue:

A dispute between U.S. and international accounting groups about how to value financial instruments is threatening to derail efforts to converge global standards, affecting how trillions of dollars of assets are marked on bank balance sheets.

The debate pits the U.S. Financial Accounting Standards Board, which wants to expand the use of fair-value accounting to all financial assets, including loans and deposits, against the London-based International Accounting Standards Board, which opposes such a wide usage. The outcome also will determine how much capital banks have to hold to meet new rules.

FASB’s proposal, announced in May, could cause 26 of the largest U.S. banks to write down the value of about $4 trillion of loans on their books by as much as $138 billion, estimated Jason Goldberg, an analyst at Barclays Plc. Lenders, regulators and some investors have taken IASB’s side, leaving the U.S. standard-setter isolated in its battle.
…
The five U.S. banking regulators sent a joint letter to FASB in September voicing opposition as well.

“We are concerned about the potential implications of the proposal for financial intermediation and stability and, therefore, we oppose the proposed requirement to report substantially all of a financial institution’s financial instruments at fair value,” the Fed, the Federal Deposit Insurance Corp. and three other regulators said.

Volcker who was Fed chairman in the 1980s and now advises U.S. President Barack Obama, said he favors IASB’s approach on valuing financial instruments.

“You can’t have everything at fair value,” Volcker, 83, said. “I’m not in favor of fair valuing bank loans because we don’t know their fair value anyway. It’s not consistent with the basic business model of commercial banks.”
…
Goldman Sachs Group Inc., the most profitable U.S. securities firm, has said that banks hide losses on loans used to generate investment-banking fees. In a Sept. 1 letter to FASB, Goldman Sachs described how banks lend at below-market rates to win equity and debt-underwriting deals, a practice known as “lend to play.” Goldman Sachs executives have argued that the firm’s practice of marking assets to market value helped it prepare for the credit contraction earlier than rivals.

Spend-Every-Penny says he’s going to make some tough but fair decisions:

The country’s top financial policymakers warned Canadians on Sunday to brace for tough decisions and “very big challenges” ahead as Canada tries to secure its recovery in an ever-changing global economic landscape.

Finance Minister Jim Flaherty — set to deliver a key speech on federal economic policy in Oakville, Ont., on Monday — said the Conservative government is determined to cap program spending so Canada can return to a balanced budget position and avoid the turmoil Europe is undergoing.

He acknowledges this won’t be a popular decision, with certain segments of the population and his political opponents.

I’m astonished! I thought we were going to return to a balanced budget (wooHoo!) without any pain or effort whatsoever, and that anybody who spoke of structural deficits was wrongheaded and politically motivated.

One correlation measure states that stocks and bonds have decoupled:

For the first time since the financial crisis started, U.S. shares are moving independently of the bond market, a sign that profits and valuations are guiding investors more than concern about the economy.

The 30-day correlation coefficient measuring how often the Standard & Poor’s 500 Index moves in tandem with 10-year Treasury yields fell to minus 0.42 from a record 0.89 in June, data compiled by Bloomberg show. Readings of 1 indicate prices are moving together, while zero shows no link and minus 1 means they are going in opposite directions. Stocks and debt are ending a lockstep relationship that began in July 2007 and lasted through the worst recession since the 1930s.

Meredith Whitney thinks the shadow banking system will expand:

U.S. banks will close 5,000 branches in the next 18 months as they face profit declines from decreased loan demand and lower fee revenue, said Meredith Whitney, the former Oppenheimer & Co. analyst who now runs her own firm.
…
Whitney has said earnings pressures and new regulation will lead to some lower-income customers losing access to banking services. The number of households without access to the “traditional banking system” will rise to 41 million by 2015 from 30 million in 2009, she said in the Nov. 18 note.

“The most regrettable unintended consequence of some of the quickly written regulatory reform, we believe, will be the inevitable ‘debanking’ of the U.S. financial system,” said Whitney, who started New York-based Meredith Whitney Group after correctly predicting Citigroup Inc.’s dividend cut in 2007. “Fewer ‘bankable’ customers will contribute to the trend in fewer bank branches.”

Potash Corp. is issuing 30-year USD notes at 5.625%. DBRS rates them BBB(high) and comments that the issue has a poison put and continuous call:

The terms of the Notes will include a change of control provision, which upon the occurrence of both (1) a change of control and (2) a downgrade of a particular series of notes below an investment grade rating (as specified), will require Potash to make an offer to purchase such series of notes at a price equal to 101% of the aggregate principal amount of such notes, plus accrued and unpaid interest to the date of repurchase. The Notes will also be redeemable, in whole or in part, at the option of Potash at any time and from time to time at a redemption price equal to the greater of: (1) 100% of the principal amount of the notes to be redeemed; and (2) the sum of the present values of the remaining scheduled payments of principal and interest on the notes being redeemed on the redemption date (not including any portion of any payments of interest accrued to the redemption date) discounted to the redemption date on a semi-annual basis (assuming a 360-day year consisting of twelve 30-day months) at specified discount rate; plus any accrued and unpaid interest.

The draft prospectus makes it clear that the discounting rate is a spread over treasuries, but does not specify the spread.

Moody’s is acquiring CSI Global Education:

Moody’s Corporation (NYSE:MCO) announced today that it has acquired CSI Global Education Inc. (CSI), Canada’s leading provider of financial learning, credentials, and certification. CSI will operate within Moody’s Analytics, strengthening Moody’s capabilities for delivering credit training programs, research and analytical services, and risk management software to financial institutions worldwide.

Moody’s purchased CSI for C$155 million (US$151.4 million), subject to customary closing adjustments. Inclusive of the unfavorable impact of purchase accounting, the acquisition is expected to have a negligible impact on Moody’s GAAP earnings per share (EPS) for the fourth quarter of 2010 and full-year 2011, and to be accretive to EPS thereafter. The acquisition was funded from cash on hand.

This will be an interesting thing to follow, because CSI-GE is a joke of a company, producing the most inadequate training courses in the history of the universe. The only reason they exist is because they’ve got (what amounts to) an exclusive contract with Canadian securities regulators to provide required industry courses for box-ticking purposes. We shall see if quality improves over the next few years … and if the monopoly continues!

It was a day of declines in the Canadian preferred share market, with PerpetualDiscounts down 3bp and FixedResets getting hit for 12bp, taking the median weighted average yield on the latter index up to 3.10%. Volume continued at high levels.

Allied Irish is on central bank life-support:

Allied Irish Banks Plc, Ireland’s second-biggest bank, has tripled its reliance on funding from central banks since the end of June as companies and customers pulled money amid the country’s debt crisis.

The bank’s dependence on “monetary authorities” rose to 27 billion euros ($37 billion) from a “high single-digit” billion-euro amount on June 30, Alan Kelly, general manager of group corporate services at Allied Irish, said in a telephone interview today. Funding conditions were “increasingly challenging,” the Dublin-based lender said in a statement.

Irish lenders have become more reliant on European Central Bank funding after being frozen out of wholesale markets. The amount of ECB loans to the country’s banks rose 7.3 percent to 130 billion euros in October from the previous month, Ireland’s Central Bank said on Nov. 1. The data include both international and domestic banks operating in Ireland.
…
Deposits dropped by about 13 billion euros since the start of the year, Allied Irish said in the statement. That equates to about a 17 percent decline, Kelly said. Allied Irish said it will increase the amount it’s seeking to raise in a share sale by the end of the year to 6.6 billion euros from 5.4 billion euros.

More specifically, their interim management statement says:

Customer accounts have been affected by current adverse international sentiment towards the Irish sovereign and banking sector and are down by c.€13bn from the beginning of 2010 to the close of business on 16 November. This reduction was primarily due to lower institutional and corporate balances.
…
General funding market conditions in recent months have become increasingly challenging. This has had a negative impact on AIB’s funding position which has seen a reduction on maturity of debt securities in issue and customer accounts. This reduction has been offset by an increase in secured deposits by banks, in particular by monetary authorities. While AIB had issued term funding of €6.7bn during 2010 in anticipation of term funding maturing in September 2010, current market conditions are limiting funding access to shorter durations, mainly on a secured basis.

Geithner’s upset about the Fed’s politicization:

U.S. Treasury Secretary Timothy F. Geithner warned Republicans against politicizing the Federal Reserve and said the Obama administration would oppose any effort to strip the central bank of its mandate to pursue full employment.

“It is very important to keep politics out of monetary policy,” Geithner said in an interview airing on Bloomberg Television’s “Political Capital with Al Hunt” this weekend. “You want to be very careful not to take steps that hurt our credibility.”

The Republican congressional leadership, including John Boehner, nominated as the next House speaker, has criticized the Fed’s plan to buy $600 billion in assets, saying it would fuel inflation and asset bubbles. Senator Bob Corker, a Tennessee Republican who serves on the Banking Committee, said he favors confining the Fed’s mandate to promoting price stability.
…
“It is very important that we respect and honor what the Congress did when it set up our independent central bank with a mandate to keep prices low and stable over time and to make sure” it promotes “sustainable economic growth,” said Geithner, who was president of the Federal Reserve Bank of New York before taking over as Treasury secretary last year.

FortisBC has issued 40-year MTNs at 5%.

The Canadian preferred share market continued to recover from the damage done earlier in the week on continued heavy volume, with PerpetualDiscounts up 23bp, while FixedResets lost 2bp.

I may have mentioned this before, but there are negative credit spreads in Europe:

The spread does, nevertheless, tell a story about relative risk. In Greece, Ireland, and Portugal, a number of sectors have negative corporate spreads, suggesting that firms are either less likely to default than their governments or will have higher recovery rates if they do default. The sector that stands apart as being much riskier than the government is financials. If these governments partially default, the guarantees they have made to the banking system are no longer credible, and the credit losses may be severe.

Click for Big

There’s some commentary from Felix Salmon and Bloomberg:

An index of credit-default swaps on 15 European governments now exceeds a gauge of investment-grade credit risk by about 50 basis points, according to data from CMA and JPMorgan Chase & Co. Corporate swaps are historically more expensive than sovereign contracts.

The gap between the indexes “highlights the difference between how fundamentally strong non-financial corporate credit is versus how weak governments are,” said Aziz Sunderji, a credit strategist at Barclays Capital in London. “Corporate balance sheets look strong, cash liquidity buffers are large, and earnings have surprised to the upside. Most of the problems are originating from the sovereign side.”

Berkshire Hathaway was touted last spring as having traded through Treasuries, but the data are suspect.

For those who are interested, the relevant CDS indices are the Markit iTraxx SovX Western Europe index and the Markit iTraxx Europe index. Today’s marks are 165bp and 102bp, respectively.

Ireland is going to the well:

Ireland said it may ask for an international bailout as European Central Bank President Jean- Claude Trichet signaled debt-laden nations can’t rely on him to keep their financial systems afloat forever.

Finance Minister Brian Lenihan said in Dublin he would welcome the creation of “substantial contingency capital funding” for Irish banks. In Frankfurt, Trichet said in a speech that policies first used to fight the global credit crisis can’t “evolve into a dependency as conditions normalize.”

The ECB is concerned that banks in Ireland and Greece are becoming too reliant on its unlimited money market operations and is pushing Ireland to accept a rescued funded by European Union governments and the International Monetary Fund. Irish central bank Governor Patrick Honohan said today that an agreement may amount to “tens of billions” of euros.

I’m not sure what exactly is meant by “contingency capital funding”.

Enbridge Gas Distribution, a wholly owned subsidiary of Enbridge Inc., has issued 40-year MTNs at 4.95%.

The Canadian preferred share market bounced back today on continued high volume, with PerpetualDiscounts up 18bp and FixedResets gaining 4bp.

Econbrowser‘s Menzie Chinn brings to my attention a very nice interactive from the NYT on the US budget deficit.

It looks as if the Europeans are thinking about rejecting bank leverage caps:

Banks in Europe may escape global rules designed to limit their debt, as several countries push the European Union to drop a so-called leverage ratio, two people close to the discussions said.

A majority of nations in the 27-country EU oppose introducing a binding leverage ratio that was adopted last week by the Group of 20 countries, according to the people, who declined to be identified because the discussions are private. The countries, including Sweden and France, say the ratio might encourage banks to pursue risky activities, the people said.
…
Opponents of a leverage ratio say that by putting a limit on the scale of banks’ activities, institutions may be tempted to maximize returns by curtailing traditional lending in favor of riskier activities.
…
Almost all EU states have said they oppose implementing legislation that includes a binding leverage ratio, according to the people. The countries are seeking a separate decision on the issue in several years, following further analysis of the financial effect.

“The leverage ratio is unsuitable as a regulatory instrument”, declared Chris De Noose, managing director of the European Savings Banks Group, “due to its lack of sensitivity to the specificities of the business models of the various financial institutions and their riskiness and exposure to market volatility.”

A binding leverage ratio probably leads to banks being given the “wrong incentives,” Lars Hofer, a spokesman for the Association of German Banks, said. Banks could take “higher risks in order to generate higher profits on a given number of risk-weighted assets,” he said.

Well, all I can say is that that doesn’t fit my memories of the Panic of 2007! However, a lack of leverage cap will allow the European banks to load up on nice, save, solid sovereign debt.

Efforts to politicize the Fed continue:

The four top Republicans in Congress wrote to Federal Reserve Chairman Ben S. Bernanke today expressing “deep concerns” over the central bank’s second- round of Treasury bond purchases.

“While intended to improve the short-term growth of the U.S. economy and help maintain a stable price level, such a measure introduces significant uncertainty regarding the future strength of the dollar,” the letter said. The purchases could “result both in hard-to-control, long-term inflation and potentially generate artificial asset bubbles.”

The letter, dated today, was signed by House Republican leader John Boehner of Ohio, House Republican Whip Eric Cantor of Virginia, Senate Republican leader Mitch McConnell of Kentucky, and Senate Republican Whip Jon Kyl of Arizona.

Straight Perpetuals continued to slide today, with PerpetualDiscounts losing 18bp, but FixedReset were able to hold, gaining 1bp. Volume continued to be heavy.

PerpetualDiscounts now yield 5.43%, equivalent to 7.60% interest at the standard equivalency factor of 1.4x. Long Corporates now yield about 5.4%, so the pre-tax interest-equivalent spread (also called the Seniority Spread) is now 220bp, an increase from the 210bp reported on November 10.