PrefBlog

PerpetualDiscounts now yield 5.17%, equivalent to 6.72% interest at the standard equivalency factor of 1.3x. Long corporates now yield about 3.80%, so the pre-tax interest-equivalent spread is now about 290bp, a significant narrowing from the 305bp reported September 7.

We are approaching the end-game of the US Money Market Fund re-regulation:

With a seismic overhaul of the $2.6 trillion money-market industry weeks away from kicking in, money managers are bracing for a last-minute exodus of as much as $300 billion from funds in regulators’ cross hairs.

Prime funds, which seek higher yields by buying securities like commercial paper, are at the center of the upheaval. Their assets have already plunged by almost $700 billion since the start of 2015, to $789 billion, Investment Company Institute data show. The outflow has rippled across financial markets, shattering demand for banks’ and other companies’ short-term debt and raising their funding costs.

The transformation of the money-fund industry, where investors turn to park cash, is a result of regulators’ efforts to make the financial system safer in the aftermath of the credit crisis. The key date is Oct. 14, when rules take effect mandating that institutional prime and tax-exempt funds end an over-30-year tradition of fixing shares at $1. Funds that hold only government debt will be able to maintain that level. Companies such as Federated Investors Inc. and Fidelity Investments, which have already reduced or altered prime offerings, are preparing in case investors yank more money as the new era approaches.
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A major repercussion of the flight from prime funds is that there’s less money flowing into commercial paper and certificates of deposit, which banks depend on for funding. As a result, banks’ unsecured lending rates, such as the dollar London interbank offered rate, have soared. Three-month Libor reached about 0.86 percent Tuesday, the highest since 2009.

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Fed policy? Here’s the dovish view:

Federal Reserve Governor Lael Brainard counseled continued prudence in tightening monetary policy, even as she said the economy is making gradual progress toward achieving the central bank’s goals.

“The case to tighten policy preemptively is less compelling” in an environment where declining unemployment has been slow to spur faster inflation, Brainard said Monday, according to the text of her prepared remarks in Chicago. She made no reference to a specific meeting of the policy-setting Federal Open Market Committee.
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In Monday’s speech, Brainard highlighted five major reasons for caution: inflation is less responsive to labor-market improvement than in the past, labor-market slack seems to persist, financial transmission from foreign markets is strong and poses a risk, and the interest rate where policy moves from easy to tight is lower than in the past — and is likely to stay there for some time. Her final point is that monetary policy is less able to respond to negative shocks than to a quick pickup in demand.

Despite that cautious view, Brainard also pointed to recent developments that show the economy is moving toward achieving the Fed’s goals of maximum employment and 2 percent inflation. She said the job market is making progress and getting closer to full employment and the Fed has “seen signs of progress on our inflation mandate.”

And a hawkish view:

Federal Reserve Bank of Atlanta President Dennis Lockhart repeated his call for a “serious discussion” about raising interest rates at the U.S. central bank’s meeting later this month, even after some recent disappointing economic indicators.

“Notwithstanding a few recent weak monthly reports — from the Institute for Supply Management, for example — I am satisfied at this point that conditions warrant that serious discussion,” Lockhart said Monday in Atlanta.
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“After relatively weak growth over the first half of the year, I expect a stronger second half,” Lockhart said to the National Association for Business Economics, citing the bank’s estimate. Third-quarter growth was tracking at 3.3 percent on Friday, according to the Atlanta Fed’s tracking estimate.

The economy is “making progress” toward full employment, Lockhart said, though progress in moving inflation toward the 2 percent goal may have stalled.

“The inflation data overall have not been suggesting disinflation or deflation, but the flat trend line is enough below target that, in my opinion, the shortfall cannot be considered immaterial,” he said. “I find this to be an awkward state of affairs.”

And a market view:

U.S. stocks rebounded after the biggest rout since June wiped about $500 billion from the value of equities, the dollar fell and Treasuries erased losses as the Federal Reserve’s Lael Brainard remained dovish in her approach to tighter monetary policy. Emerging-market assets slumped.

The S&P 500 Index jumped the most in two months after sinking 2.5 percent Friday, holding gains after Brainard urged “prudence” in removing accommodation. The dollar fell for the first time in four sessions as the odds for a rate hike next week slid to 22 percent. Ten-year Treasuries remained little changed, with yields near 1.68 percent. Shares in Europe and Asia, which were closed Friday when the selloff began, dropped Monday. Emerging-market equities tumbled 2 percent, while oil rebounded past $46 a barrel.

In a sign of the times, rent control may be coming to the San Francisco bay area:

The concept of rent control, once found mostly in large cities, is spreading to the Bay Area’s suburbs, even though virtually every economist thinks it’s a bad idea.

Six Bay Area cities have measures on the November ballot that would protect existing tenants from the stratospheric rent increases that are a result of job growth far outstripping housing creation.
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A 2012 survey by the University of Chicago’s Booth School of Business asked respected economists if they agreed that rent-control ordinances in cities such as New York and San Francisco have improved the quantity and quality of affordable rental housing over the past three decades. Eighty-one percent disagreed, 2 percent agreed and 9 percent were uncertain or had no opinion.

In 2013, Peter Tatian of the Urban Institute reviewed academic research on rent control and found “very little evidence that rent control is a good policy.” The strongest finding of one comprehensive survey was that “tenants in noncontrolled units pay higher rents than they would without the presence of rent control; one reason being that landlords need to make up the difference for lower rents in controlled units.”
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In a report issued in February, California’s Legislative Analyst’s Office warned that rent control could encourage property owners to cut back on maintenance and repairs. “Over time, this can result in a decline in the overall quality of a community’s housing stock,” it said.

There’s a certain amount of agitation in Vancouver for more rent control:

Since 2002, British Columbia has had a two-tiered system where fixed-term renters get no protection, while those who rent month-to-month do. The legislation restricts landlords with monthly renters to a set annual increase. This year, the cap is 2.5 per cent.

Yet landlords who have the benefit of long-term tenants get the added bonus of being able to set whatever price they want when the term is up. It can lead to gouging, particularly now when the vacancy rate in Vancouver is virtually zero.

It means that renters are left with a lousy choice: Take a short-term rental and risk being asked to leave with only 30 days’ notice or sign a lease and risk having the rent skyrocket at the end of the term.

In Toronto, of course, rent control was introduced in the ’80s by Bill Davis (under election pressure from the NDP) and construction of rental apartment buildings basically halted. There have been a few buildings lately, but it’s my understanding that these developments only make sense if you can get a package of land from the city on sweetheart terms.

Common equity took a hit today:

After two months in which even a 50-point move in the Dow Jones Industrial Average was reason for excitement, investors were shaken out of their slumber as central bankers signaled reluctance to extend stimulus and sent U.S. stocks to their worst week since February.

Damage was worst in the final session, when Boston Federal Reserve President Eric Rosengren warned against waiting too long to raise interest rates. Selling built after European Central Bank President Mario Draghi downplayed the need for more measures to boost growth a day earlier. When it was over, the S&P 500 Index was down 2.3 percent to 2,127.81 on the week, with Friday’s plunge wiping out a slight gain over the first three days.

Bonds did not escape the carnage:

Draghi’s reticence accelerated a selloff in bonds that extended from Europe to the U.S. and Japan, with longer-dated securities, which have been outperforming in recent months, being the hardest hit. While yields are still low compared with historical averages, they are quickly rising from records reached earlier this year, recalling the bond rout of 2015, which saw German 10-year yields climb more than a percentage point in less than two months.

The yield on German 30-year bonds climbed 10 basis points to 0.60 percent, adding to a nine-basis-point jump the previous day. The rate on similar-maturity U.S. securities rose seven basis points to 2.38 percent.

Chances of the Fed raising rates at the September meeting climbed to 38 percent, up 16 percentage points from Wednesday, according to fed funds futures.

The U.K. and Japan, two markets which have help drive the global bond rally this year, also saw losses. The yield on 10-year gilts rose to a one-month high of 0.84 percent and the Japanese 10-year yield, which has been below zero since March, climbed to minus 0.02 percent.

Quantitative Investing is now a strategy that over-promises:

Banks and investment funds are hiring quants — people with training in physics or higher mathematics — as market intervention by central banks make it difficult to post robust profits. Money managers including UBS, Credit Suisse Group AG and GAM Holding AG are betting that the strategies widely used by the hedge-fund industry will help convince clients spooked by market volatility to invest their money instead of keeping it in cash.

The bank decided to diversify and increase the number of offerings to clients because of low interest rates, Haefele said. As part of the strategy, it raised $471 million for an oncology fund earlier this year and hired a team led by Vinay Pande from hedge fund Brevan Howard Asset Management to focus on short-term investment strategies earlier this year.

UBS manages more than $1.5 billion through quant analysis, Andreas Kessler, a spokesman for the bank, said in an e-mail. The wealth management unit started its first directly quant-based offering last year, he said.

Clients who hand over investment decisions to Haefele and his team have on average earned more on their portfolio than those who make decisions themselves, he said. That’s because they may find themselves exposed to a market downturn and fail to reinvest when things improve, he said. The bank does not disclose client returns.

Investment returns are a chaotic system; you cannot predict future absolute returns. Relative returns can be predicted a little bit, provided the two comparators are closely related. But, since UBS does not disclose client returns they’ll be able to get away with any claims they want for a long time.