PrefBlog

Red letter day! For the first time in a long time, somebody’s talking about the flip side of safe banking:

Mr. Flaherty boasts about Ottawa’s strict supervision and holds up the banks’ conservative lending culture as a virtue. What he fails to mention to his audiences in places such as Istanbul, London and Washington is that Canada’s entrepreneurs and smaller businesses are starved for cash.
…
According to the Organization for Economic Co-operation and Development, the outstanding debt of Canadian small and medium-sized enterprises (SMEs) essentially has been unchanged since 2000. Lending to smaller companies decreased 0.1 per cent in 2008, increased 3.7 per cent in 2009 and dropped 0.9 per cent in 2010, the 34-member OECD said earlier this year in its first annual scorecard of financing for SMEs and entrepreneurs.
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While there is no longer an outright ban on international lenders setting up in Canada, the rules are structured in such a way that there is little incentive to do so. No investor can hold more than 20 per cent of the voting shares in a bank with equity of more than $12-billion and a majority of the directors must be Canadians.

So the lenders that are large enough to shake the Canadian banks’ entrenched position – the Wells Fargos of the world – either stay small in Canada, or avoid the country altogether.
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There are more than 7,000 banks in the United States insured by the Federal Deposit Insurance Corp. Most of those institutions are small, confining their lending to a specific community. The result is a more competitive credit market. SMEs accounted for 29 per cent of all business lending in the United States in 2010, compared with 18 per cent in Canada.

Canada’s banks were left relatively unscathed by the Credit Crunch and that’s a good thing. But next time you hear a regulator boasting about how wonderful the safe Canadian system is, ask what the costs are. All the costs, all the indirect costs of a comfortable oligopoly, not the relatively trivial direct costs. A Lamborghini is a great car … but I wouldn’t pay $10-million for one.

You can talk about billions, and you can talk about percentages, but sometimes it’s most graphic to talk about the impact on the average guy:

The average American family lost 38.8 percent of its wealth from 2007 to 2010, with the biggest losses concentrated among households with the most assets tied to their homes, a Federal Reserve study shows.

Median net worth declined to $77,300 in 2010, an 18-year low, from $126,400 in 2007, the central bank said in its Survey of Consumer Finances. Mean net worth fell 14.7 percent to a nine-year low of $498,800 from $584,600, the central bank said today in Washington.

I do enjoy taking pokes at CalPERS, the $200-billion+ fund that doesn’t do its own credit analysis! Their ten-year 90bp underperformance vs. their benchmark makes it easy, as the press has noticed:

The California Public Employees’ Retirement System, the largest U.S. pension, has seen its market value decline 4.8 percent this year after stocks fell amid the brewing fiscal crisis in Europe and slowing of the U.S. economic recovery.
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If the trend continues, it would mark the third time in five years that the fund has lost money, including a 23 percent decline in fiscal 2009, the worst on record. While Calpers spreads its return over 15 years to smooth taxpayers’ burden, another loss may make it hard for the fund to meet its assumption of 7.5 percent earnings annually to cover benefits to 1.6 million retired employees and their families.

It was rather a dull day for the Canadian preferred share market, with PerpetualPremiums down 3bp, FixedResets flat and DeemedRetractibles off 2bp. Volatility was muted. Volume was quite low.

Strains in Greek banking are becoming more obvious:

Credit Agricole SA, the foreign bank with the biggest risks in Greece, reached an accord with Greek authorities that will let its unit in the country access emergency funding should the need arise, two people with knowledge of the matter said.

Emporiki Bank, the Greek unit of Credit Agricole, will be able to tap so-called Emergency Liquidity Assistance from Greece’s central bank under certain conditions, the people said, declining to be identified because the matter is private. Access will probably be restricted to situations where deposits are declining, the people said. Greek banks without a foreign parent already use the facility.
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Jean-Paul Chifflet, Credit Agricole’s chief executive officer, said on May 22 that his bank renewed a request for access to ELA funding with Bank of Greece’s governor. France’s third-largest bank “can’t increase significantly” exposures to Greece, Chifflet told investors last month at the company’s annual general meeting. Emporiki’s loans exceed deposits, requiring Credit Agricole to provide cross-border funding to help fill the gap.

Credit Agricole reduced that funding to Athens-based Emporiki to 4.6 billion euros at the end of March from 5.5 billion euros in December, partly as deposits rose, the bank said May 11. Credit Agricole also tapped 1.6 billion euros of ECB funding for Emporiki at the end of March.

The problem in Europe is that highly indebted countries owe money in currency they can’t print, right? It’s a good thing we’re smarter than that in Canada:

• New Brunswick’s tax-supported debt as a percent of consolidated operating
  revenues has risen rapidly in the past five years.

• We are lowering our issuer credit and senior unsecured debt ratings on
  the Province of New Brunswick to ‘A+’ from ‘AA-‘.

• The stable outlook reflects our expectation that New Brunswick’s program
  review initiative will be successful at achieving cost efficiencies and that the province will achieve fiscal balance in the next two fiscal
  years as per its budget plan.

…
The ratings on New Brunswick reflect Standard & Poor’s opinion of the
following credit strengths:

• The province’s relatively resilient economic performance since the global economic and financial crisis began in 2008 compared with peers’.
• The province’s sound liquidity support of more than C$700 million in cash and marketable securities available to address potential fiscal pressures. As well, the province has a pool of sinking funds, which
  totaled over C$4.0 billion as at the end of fiscal 2012 that can be used for debt repayment if needed.

Credit concerns include our view of the following:

• New Brunswick’s very high tax-supported debt burden (net of sinking funds), which rose further in fiscal 2012 to 149% of consolidated operating revenues or about 38% of GDP. We expect its tax-supported debt
  burden to peak at 155% of operating revenues in 2014.

• Challenges stemming from long-term demographic trends that are likely to
  affect health care demand and revenue growth.

Fortunately, 38% of GDP is still a lot smaller than 120% of GDP.

There was a modest upward move in the Canadian preferred share market today, with PerpetualPremiums up 9bp, FixedResets gaining 2bp and DeemedRetractibles winning 10bp. Volatility was minimal. Volume was quite low.

Bernanke had some cheerful commentary:

Federal Reserve Chairman Ben S. Bernanke said the economy is at risk from Europe’s debt crisis and the prospect of fiscal tightening in the U.S., while refraining from discussing steps the central bank might take to protect the expansion.
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Bernanke also warned lawmakers that “a severe tightening of fiscal policy at the beginning of next year that is built into current law — the so-called fiscal cliff — would, if allowed to occur, pose a significant threat to the recovery.”

Spain gets more interesting daily:

Spanish Prime Minister Mariano Rajoy said he’s talking to his European peers about how to shore up the country’s banks as Fitch Ratings cut Spain’s credit grade to within two steps of junk.
…
Rajoy spoke minutes before Fitch downgraded Spain by three levels to BBB, within two steps of non-investment grade. Fitch said the cost to the state of shoring up banks may amount to as much as 100 billion euros ($126 billion) in the worst case, compared with its previous estimate of 30 billion euros, as Spain will remain in recession next year.
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Spain’s 10-year bond yield fell to 6.088 percent yesterday from 6.282 percent on June 6, retreating from the 7 percent threshold that triggered bailouts in Greece, Ireland and Portugal. The Treasury met its issuance goal at a bond auction, selling 2.07 billion euros of Spanish securities, surpassing the maximum target of 2 billion euros.

It was a day of solid recovery for the Canadian preferred share market, with PerpetualPremiums gaining 6bp, FixedResets up 10bp and DeemedRetractibles winning 23bp. Of great interest is the observation that the Bozo Spread (Current Yield PerpetualDiscounts less Current Yield FixedResets) has returned to negative territory. Volatility was minor.

OSFI has released an outline of the new paperwork rules for bank mortgages:

Re-qualification at Renewal – Current practice regarding residential mortgage renewals has served FRFIs well. OSFI agrees, for example, that having a good payment record is one of the best indicators of credit worthiness. OSFI, therefore, expects that FRFIs themselves will remain responsible for deciding what level of review to place on borrowers’ qualifications at the time of renewal. FRFI renewal practices should be articulated in internal policies governing their underwriting of residential mortgage loans. FRFIs, however, will be expected to refresh the borrowers’ credit metrics periodically (not necessarily at renewal) so that FRFIs can effectively evaluate their credit risk.

2. Home Equity Lines of Credit (HELOCs) – OSFI is maintaining its position that the HELOC component of a mortgage be restricted to a maximum loan-to-value ratio of 65 per cent. HELOCs are inherently riskier products, given their revolving nature, persistence of debt balances and their ineligibility for mortgage insurance. However, HELOCs at or below an LTV ratio of 65 per cent will not be required to be amortized, as the revolving aspect of a HELOC is a fundamental feature of the product.

The BoC has released a discussion paper by Francisco Rivadeneyra titled The U.S.-Dollar Supranational Zero-Coupon Curve:

The author describes the construction of the U.S.-dollar-denominated zero-coupon curve for the supranational asset class from 1995 to 2010. He uses yield data from a cross-section of bonds issued by AAA-rated supranational entities to fit the Svensson (1995) term-structure model. Results show the expected pattern of interest rates over the U.S. business cycle. The author computes the spreads relative to the U.S. Treasury zero-coupon yields data of Gürkaynak, Sack and Wright (2007). The average spread for this period is equal to 44 basis points; it increases during recessions and narrows during expansions. Also, the slope of the term structure of spreads shows a countercyclical pattern.

The Toronto Water Department has confirmed that it was their gross incompetence that dumped sewage into Union Station and PATH last week:

On the morning of June 1, a brief, but intense rainfall event caused a rapid surge of storm water flow within the City’s sewer collection system and wastewater treatment plants. (The downtown area experienced rainfall ranging from 27mm to 37mm.) The heavy rainfall event did not exceed the capacity of the entire sewer collection system.

As part of the contract for the TTC’s Union Station New Platform Project in the subway, the TTC’s contractor is also reconstructing a large sewer on behalf of the City for the Union Station Revitalization Project. To enable construction of the new lowered sewer, a section of the existing sewer was removed and pumps put in place in order to install maintenance holes at one of the future connection points. During the heavy rainstorm, sanitary and storm water overflowed from the open section of sewer at this location (flooding was localized to this area of the City).

The contractor and the project management team are working to put in place measures to avoid a recurrence during construction. One such measure includes the installation of two additional pumps on site as contingency. As well, the pipe that was temporarily exposed to perform this work will be capped by Friday.

In other words, they placed a bet that full capacity of the sewage line would not be needed during repair. They lost the bet and Toronto paid. Thanks a lot, guys! Fortunately for the guys who should be fired, council’s got other things on its mind:

Plastic shopping bags will be banned in Toronto as of Jan.1, 2013 after city council, in a surprise move, voted to make Toronto the first major city in Canada to forbid retailers from providing plastic single-use carryout bags.
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It’s not clear if the city even has the jurisdiction to pass such a ban.

It was a mixed day for the Canadian preferred share market, with PerpetualPremiums up 2bp, FixedResets winning 13bp and DeemedRetractibles down 4bp. Volatility was minor. Volume was very low.

PerpetualDiscounts now yield 5.09%, equivalent to 6.62% interest at the standard equivalency factor of 1.3x. Long corporates now yield about 4.4% (OK, just a hair under) so the pre-tax interest-equivalent spread (in this context, the “Seniority Spread”) is now about 225bp, a slight (and perhaps spurious) decline from the 230bp reported May 30.