PrefBlog

Bloomberg has an interesting bit of gossip about algorithmic trading:

Wall Street’s credit-derivatives traders, who before the financial crisis commanded $2 million of annual pay, are being replaced by machines as banks cut costs and heed new regulations.

UBS AG (UBSN), Switzerland’s biggest bank, fired its head of credit-default swaps index trading, David Gallers, last week, with no plan to fill the position, according to two people familiar with the matter. Instead, the bank replaced Gallers with computer algorithms that trade using mathematical models, said the people, who asked not to be identified because moves are private.

UBS joins Barclays Plc (BARC), Credit Suisse Group AG (CSGN) and Goldman Sachs Group Inc. (GS) in using computer programs to trade financial instruments that once generated some of their biggest fees. With regulators preparing rules under the 2010 Dodd-Frank financial reform that will push swaps toward exchange-like systems to improve transparency, credit dealers are going digital as automated trading makes humans too expensive.

What makes the trend so interesting is that there should be an equilibrium reached at some point. Most – not all – traders know nothing about the markets and they’re not paid to know anything about the markets. They’re paid to know lots of people who trade and who will give good old Bob the order because Bob made a really good point about that story in Wall Street Journal the other day.

But one thing that’s happening is the buy-side culture is shifting – slowly – to electronic execution. So the old-line salesmen are losing clients to the electronic execution vendors. There will be some disruption as all this plays out, but sales (as opposed to technical wizardry) will be as important in the future as it has been in the past.

I’ve complained in the past that the concept of “first mover advantage” as it relates to hedge fund returns is a red herring … there’s at least one guy who agrees with me:

Investors and other industry observers say that for perhaps the first time since the phrase hedge fund entered the lexicon, hot or gimmicky strategies aren’t worth investing in at all. It’s the manager that counts.

“It’s a return to the roots of the hedge-fund industry, when it was a small group of highly talented stockpickers and fundamental investors,” says John Bailey, founder and chief executive of Spruce Private Investors, which invests in 30 different hedge funds for foundations and endowments.

It’s not so much “first mover advantage” in this or anything else, really: it’s more that some smart guys found a niche, made stupid amounts of money … and were promptly copied by every glib smiley-boy in town.

It was stunning when European corporates started trading through sovereigns. This is gobsmackery on a grand scale:

Bonds of Exxon Mobil and Johnson & Johnson are trading with yields below those of comparable Treasurys, a sign that investors perceive them as a safer bet. It is a rare phenomenon that some market observers said could be the beginning of a new era for debt markets. It could ultimately mean some companies will borrow at lower rates than the U.S. government.

For now, just a handful of relatively short-term bonds yield less than comparable Treasury bonds.

The banks’ role as secret policemen is causing problems:

U.S. banks in Colorado and Washington state, where voters last week legalized recreational marijuana use, shouldn’t disregard federal laws that consider pot sales criminal, a bank regulator said today.

“I think institutions have to protect themselves,” said Daniel Stipano, acting chief counsel of the Office of the Comptroller of the Currency, at an anti-money laundering conference today run by the American Bankers Association. “The problem is that it remains a crime under federal law.”

The Bank Secrecy Act requires banks to file suspicious- activity reports if they suspect customer’s involvement in federal crimes. It’s meant as a protection against U.S. financial institutions being used to launder illegal gains from criminal activity.

It was another mixed day for the Canadian preferred share market, with PerpetualPremiums gaining 7bp, FixedResets up 6bp and DeemedRetractibles off 6bp. Volatility picked up a little, with IAG on the downside (although both issues made the “Wide Spreads” report and all trades were well above the closing bid) and PWF on the upside. Volume was ridiculously pathetic.

We’ll probably never know just what the rights of the matters are … but it sure is entertaining!

Weber, who was chief investigator in the inspector general’s office, raised allegations in March that H. David Kotz, the agency’s former inspector general, may have had personal relationships that tainted reports on the SEC’s failure to catch the Bernard Madoff and R. Allen Stanford Ponzi schemes.

Weeks later, a number of Weber’s co-workers submitted complaints that he was creating a hostile work environment through his suggestions that he and others should be able to carry guns on the job. The SEC used an external security consultant to review whether Weber was a threat and then placed him on administrative leave in May.

Weber also reported to the SEC that he found evidence of possible espionage by foreign nationals related to a case he was investigating. The matter involved unencrypted computer hard drives that contained sensitive stock exchange information.

Cary Hansel, Weber’s lawyer, said that Weber received a letter from the SEC last week informing him he had been fired.

So up to now, it looks like the Lone Loony-Toon, right? But:

Weber’s original complaints prompted the SEC to bring in David Williams, the inspector general of the U.S. Postal Service, to conduct a review. Williams concluded that Kotz violated ethics rules by overseeing probes that involved people with whom he has “personal relationships.” Kotz resigned in January amid questions about his tactics and conduct.

Williams also said in his report that he didn’t find any evidence that indicated Weber’s conduct was improper or raised security concerns. Based on the report, Weber asked the SEC to reinstate him.

Humans are complex! When will we realize that an insistence on perfection in every area deprives us of talent? There’s Petraeus:

CIA Director David H. Petraeus, the retired four-star general widely commended for his oversight of the U.S. wars in Iraq and Afghanistan, resigned from his position due to an extramarital affair.

“After being married for over 37 years, I showed extremely poor judgment by engaging in an extramarital affair,” Petraeus wrote in a letter today to Central Intelligence Agency employees. “Such behavior is unacceptable, both as a husband and as the leader of an organization such as ours.”

… and Kubasik:

Christopher E. Kubasik, who was to become the next chief executive officer of Lockheed Martin Corp. (LMT), resigned after the company discovered he had a “close personal relationship” with a subordinate.

The company’s board elected Marillyn A. Hewson president and chief operating officer effective immediately. She is to become CEO on Jan. 1, Lockheed said today in a statement.

Robert Stevens, chairman and CEO of Lockheed, the world’s largest defense contractor, said he asked for Kubasik’s resignation after ascertaining Kubasik had a “lengthy, close and personal relationship with a subordinate who worked for him.”

It would be most interesting to get the inside dirt on these affairs. Not the “affairs”, I mean (as far as I can tell, that’s the business of exactly three people), but the decisions to “resign”. Are Obama and Stevens weeping crocodile tears over the necessity of firing fatally flawed employees? If they had been more cooperative, would they have got one of the special Get Out of Jail Free cards like a certain French politician I remember?

Guess what? An Income Trust is not an equity (according to Octagon Capital):

By letters dated June 27, 2008 and January 23, 2009, Octagon responded saying: … Regarding suitability, it is not unreasonable for a retired person who does not derive much of their income from their investments to split their investments into 50% equities (common shares) and 50% income producing securities (like income trusts).

For all it’s tough talk about “Naming and Shaming”, OBSI doesn’t identify the broker involved: it appears to be Randal William Harding. So nice that all responsibility is corporate, isn’t it? Personal responsibility is so … distasteful. For instance, there aren’t any NAMES of actual PEOPLE making the decisions at Octagon; “Octagon points out …” and “Octagon argues …” The closest is actually gets to actual naming and shaming is:

We discussed the complaint with Octagon’s Chief Compliance Officer, Mr. L.

“Mr. L.”?

Small brokerages are having a tough time:

GMP Capital Inc. has had another rough quarter, and its chief executive can’t pinpoint when things will turn around.

But Harris Fricker hopes a top-to-bottom review of Canada’s second-largest independent brokerage will spur “significant initiatives” that will pay off in 2013.

“Make no mistake, the goal is to increase the torque of our business, the financial benefit of which will become obvious in better market conditions,” Mr. Fricker said on the company’s third-quarter earnings call Friday after GMP reported a net loss of $358,000. “We remain confident we have the right people, platform and global market capabilities to make it happen,” he said.
…
Canada’s largest independent brokerage, Canaccord Financial Inc., also reported earnings this week, and it is finding ways to retool its own business to get through the persistently poor economic conditions. Canaccord posted a net loss of $14.8-million for its second quarter of fiscal 2013, as compared to a loss of $5.3-million in the same quarter in 2012.

The company said that the plan to close underperforming branches of its wealth management business (predominantly in smaller markets) is coming along well. “To date, seven branches have already been closed, with the remainder to close before the end of December,” said Canaccord CEO Paul Reynolds. He indicated this would allow the company to invest more heavily in the unit.

It was another mixed day for the Canadian preferred share market, with PerpetualPremiums off 1bp, FixedResets gaining 12bp and DeemedRetractibles up 20bp. Lots of volatility, with insurance issues notable on the upside. Volume returned to well below average levels.

There’s a bit more gossip on the Rochdale Securities fiasco:

The president of Rochdale Securities said the firm was nearing a rescue deal Wednesday, and its star analyst told potential investors he planned to stay on board if the life line panned out, according to a person familiar with the talks.

When reached by phone Wednesday, firm President Daniel Crowley said he was close to finalizing a deal to bolster Rochdale’s balance sheet. He declined to comment further. The Stamford, Conn. brokerage, a relatively small stock-trading and research firm that serves only institutional clients and doesn’t trade its own money, is best known for employing prominent bank analyst Dick Bove.
…
The stock purchase allegedly took place Oct. 25, just ahead of Apple’s quarterly earnings release. Mr. Miller bought 1,000 times the number of Apple shares a client requested, the person familiar with the rescue talks said, making the trade worth roughly $1 billion. Rochdale had about $3.4 million in capital at the end of 2011, according to a filing with the Securities and Exchange Commission. After the purchase, the person familiar with the talks said, Mr. Miller shut down his computer and left the office. He hasn’t returned calls from firm executives since, according to this person.

Mr. Miller has said the trade was an accident, according to two people familiar with the transaction.

Recent softness in the equity market may well be related to capital gain realization:

President Barack Obama’s re-election means his administration will push to let tax cuts enacted during the George W. Bush era expire for high earners, as scheduled, at year-end. Obama wants to increase the top federal income tax rate to 39.6 percent from 35 percent, boost rates on long-term capital gains to as much as 23.8 percent, and shrink exemptions from estate-and-gift taxes.
…
An investor who sells $100 of stock with a cost basis of $20 in 2012 would see proceeds — after capital gains taxes — of $88, according to an analysis by J.P. Morgan Private Bank. Next year, if Congress doesn’t act, earnings from the sale would drop to $80.96 if rates rise to 23.8 percent. That means the stock price would need to rise by at least 9 percent for an investor to be better off selling in 2013.

It was another mixed day for the Canadian preferred share market, with PerpetualPremiums up 11bp, FixedResets off 5bp and DeemedRetractibles gaining 1bp. Volatility was muted. Volume was average.

With the US election over, the equity boys suddenly remembered that “fiscal cliff” thingamajig:

U.S. stocks slid, sending the Dow Jones Industrial Average to its biggest drop in a year, oil sank and Treasuries surged the most in five months as President Barack Obama’s re-election set up a budget showdown with the Republican-controlled House.

The Dow tumbled 312.95 points, or 2.4 percent, to 12,932.73 for its worst drop since Nov. 9, 2011. The Standard & Poor’s 500 Index, which is up 64 percent since Obama took office in 2009, lost 2.4 percent to 1,394.53, its lowest level since August. Ten-year U.S. yields sank 12 basis points to 1.64 percent. Oil slid almost 5 percent in its biggest decline of the year.

Obama now faces negotiating with Congress to avoid the so- called fiscal cliff of more than $600 billion in tax increases and spending cuts next year that threaten to slow U.S. growth. European stocks erased early gains as concern grew that the debt crisis was hurting Germany’s economy, while Greek police beat back anti-austerity protesters outside parliament.

“It’s a rush to safe haven,” said James Paulsen, the chief investment strategist at Minneapolis-based Wells Capital Management, which oversees about $325 billion. “We’re selling off further on rising fears about what a fiscal cliff negotiation is going to mean here. People bring all their worst fears in. At the end of the day, you have the fiscal cliff, Europe and you see a risk-off trade.”

Ooh! “risk-off trade”! What a totally cool portfolio management concept!

S&P upgraded CI Financial Corp. (a fundco) today – not a preferred share issuer, but there were some nuggets of interest:

• •In our view, CI Investments Inc. (CII) does not face any material regulatory barriers in making payments to its holding company, CI Financial Corp. (CI). Structural subordination exists when there are regulatory restrictions on the operating subsidiary’s ability to upstream dividends to the holding company.
• •CII is only required to maintain positive working capital plus $100,000 to remain registered as an investment manager, which is not much of a hurdle and is really intended to keep very small firms in line.

You have no idea how much it annoys me to kept “in line”.

As of Sept. 30, 2012, CI’s tangible equity was negative C$500.8 million, the consequence of goodwill and intangible assets, which the company generated by several of its acquisitions in the recent past, the most recent being Hartford Investments Canada Corp. in December 2010. But, in our view, asset managers having negative tangible equity is not a primary concern because we focus our analysis on the predictability and sustainability of cash flow generation.
That being said, we believe a minimum of positive tangible equity is necessary to absorb unexpected losses.

It was a mixed day for the Canadian preferred share market,with PerpetualPremiums down 11bp, FixedResets gaining 4bp and DeemedRetractibles off 5bp. Volatility was minimal. Volume was slightly below average.

PerpetualDiscounts (all THREE of them! From BOTH issuers!) now yield 4.93%, equivalent to 6.41% interest at the standard equivalency factor of 1.3x. Long Corporates now yield about 4.25%, so the pre-tax interest-equivalent spread (in this context, the “Seniority Spread”) is now about 215bp, a slight (and perhaps spurious) rise from the 210bp reported October 31.