February 7, 2007

In the continuing saga of the credit rating agencies, S&P has announced the creation of an ombudsman position, together with other reforms:

Among the changes set to be announced today, S&P will rotate lead rating analysts after five years of following the same company, government bond issuer, or structured-finance arranger. The new practice, which will be phased in, should prevent professional or personal relationships from affecting ratings, company officials said.

Analysts who leave S&P to work at a bond issuer will have some deals they previously rated reviewed to make sure their objectivity wasn’t compromised by the prospect of the new job.

Hey! That makes all kinds of sense, doesn’t it? Perhaps, now that I’ve been offering advice on preferred shares for over five years, the regulators should insist that I be rotated to, say, junior oil equity. Naked Capitalism isn’t much impressed:

The real problem that the agencies are paid by the very organizations they rate, and as long as this conflict remains, all other measures are mere window-dressing. The creation of an ombudsman role is an inadequate, unrealistic remedy for a problematic payment structure.

Well, last I heard, this was still a reasonably free country. Anybody who doesn’t want to take S&P’s advice is (as far as I know) welcome to listen to somebody else. But nothing, particularly not logic, will dampen expectations for certainty and a risk-free investment environment … portfolio managers should, if anything, welcome the provision of bad advice (if we may make the assumption, for the moment, that S&P’s advice is bad), since this will lead to market mispricing that may be exploited.

Andrew Cuomo, well known for his uncanny expertise at fixed income credit analysis, isn’t much impressed either:

New York Attorney General Andrew Cuomo said “supposed reforms” by Standard & Poor’s and Moody’s Investors Service, which gave high ratings to subprime debt that later plummeted, are “too little, too late.”

“Both S&P and Moody’s are attempting to make piece-meal changes that seem more like public relations window dressing than systemic reform,” Cuomo said in the statement.

In more interesting news, it appears that Credit Default Swaps may have increased the corellation in the mononlines sector:

Separately, the Financial Times reports on yet another largely unrecognized hole in the bond insurers’ balance sheets. Wall Street was apparently fond of a so-called negative basis trades. If they bought a bond, hedged it with credit default swaps, then hedged the risk of the guarantor defaulting (generally a monoline) with a different guarantor (generally a different monoline), they could accelerate the expected profits over the life of the deal into the current period. The result is that the bond insurers have an unknown (to the outside world) but potentially significant number of guarantees written on each other.

There is at least one player trying to whip up the panic:

Deutsche Bank AG Chief Executive Officer Josef Ackermann said rating downgrades for bond insurers pose risks that could match the U.S. subprime market collapse.

“It could be a tsunami-like event comparable to subprime,” Ackermann said in a Bloomberg Television interview in Frankfurt today. Deutsche Bank, Germany’s biggest bank, is “well positioned” on its risk from bond insurers, he said

But there is another player – one not trying to sell a specific product – who has an opinion. Bernanke is concerned that monoline problems could cause banks’s balance sheets to gross-up. And Moody’s has downgraded SCA:

Security Capital Assurance Ltd.’s bond insurance units, hobbled by a decline in subprime mortgage securities, lost their Aaa credit rating at Moody’s Investors Service.

XL Capital Assurance Inc. and XL Financial Assurance Ltd. were cut six levels to A3, New York-based Moody’s said today in a statement. The outlook for both is negative, Moody’s said.

And MBIA, desperate to avoid such a fate, has embarrassed itself even more than it did yesterday by selling even more equity at an even lower price:

MBIA Inc., the world’s biggest bond insurer, raised $1 billion by selling shares at $12.15 each in an effort to protect its AAA insurance rating.

The 82.3 million shares were sold at a 14 percent discount to Armonk, New York-based MBIA’s $14.20 closing price today, according to data compiled by Bloomberg.

MBIA increased the sale from a planned $750 million, though accepted a lower price than it had anticipated. The sale matches the price private-equity firm Warburg Pincus LLC had agreed to pay to backstop the transaction in case no buyers could be found.

Speaking of downgrades, Loblaws was downgraded today, which has implications for Weston. I’ve updated the post about Weston’s credit

The Cleveland Fed has updated its estimate of inflation expectations from TIPS … very interesting indeed. The breakeven rate is increasing slightly, but the analytical rate – which attempts to incorporate adjustments for the inflation-risk-premium and liquidity-premium – is skyrocketting. This epsiode will be very useful in determining the validity of these adjustments!

I have opined many times in the past that the Fed’s easing may well rebound in an unfavourable manner vis-a-vis inflation – scarcely the most original of views, but I do what I can. In this context, it was interesting to read the following report on the Treasury Bond auction:

U.S. 30-year Treasuries fell the most since June as demand was weaker than expected at the government’s $9 billion auction of the securities.

Ten- and 30-year securities declined a second straight day as investors balked at buying at this week’s auctions, with yields at record lows. Investors are also betting that the Federal Reserve’s five interest-rate cuts since September will revive economic growth and cause inflation to accelerate, reducing the value of Treasuries’ fixed payments.

“The auction went as poorly as one could imagine,” said Andrew Brenner, co-head of structured products in New York at MF Global Ltd., the world’s largest broker of exchange-traded futures and options contracts. “There isn’t a lot of demand for bonds at these levels.”

These fears are finding support at high levels:

Federal Reserve Bank of Dallas President Richard Fisher, who voted against cutting interest rates last week, warned that aggressive reductions in response to a weak economy may “juice up” inflation.

“Given that I had yet to see a mitigation in inflation and inflationary expectations from their current high levels, and that I believed the steps we had already taken would be helpful in mitigating the downside risk to growth once they took full effect, I simply did not feel it was the proper time” for more rate cuts, Fisher said.

Another good day! PerpetualDiscounts continued to improve and volume remained above the recent average.

Note that these indices are experimental; the absolute and relative daily values are expected to change in the final version. In this version, index values are based at 1,000.0 on 2006-6-30
Index Mean Current Yield (at bid) Mean YTW Mean Average Trading Value Mean Mod Dur (YTW) Issues Day’s Perf. Index Value
Ratchet 5.59% 5.62% 48,751 14.5 2 -0.9369% 1,064.6
Fixed-Floater 5.19% 5.69% 85,475 14.64 7 -0.1134% 1,015.2
Floater 4.90% 4.95% 75,926 15.57 3 +0.2596% 861.8
Op. Retract 4.82% 1.70% 80,829 2.42 15 -0.0280% 1,044.2
Split-Share 5.30% 5.53% 102,352 4.22 15 +0.1058% 1,037.3
Interest Bearing 6.24% 6.44% 61,301 3.60 4 +0.0254% 1,081.0
Perpetual-Premium 5.74% 4.76% 401,624 5.21 16 +0.1564% 1,026.3
Perpetual-Discount 5.40% 5.43% 301,916 14.76 52 +0.1671% 951.5
Major Price Changes
Issue Index Change Notes
BCE.PR.B Ratchet -2.0426% Closed at 23.02-24.25, 3×2. Just another appalling spread from a hopeless market-maker.
BAM.PR.B Floater -1.5789%  
MFC.PR.B PerpetualDiscount -1.4224% Now with a pre-tax bid-YTW of 5.15% based on a bid of 22.87 and a limitMaturity.
PWF.PR.L PerpetualDiscount -1.1869% Now with a pre-tax bid-YTW of 5.50% based on a bid of 23.31 and a limitMaturity.
RY.PR.C PerpetualDiscount -1.0009% Now with a pre-tax bid-YTW of 5.30% based on a bid of 21.76 and a limitMaturity.
MFC.PR.C PerpetualDiscount +1.1287% Now with a pre-tax bid-YTW of 5.09% based on a bid of 22.40 and a limitMaturity.
ENB.PR.A PerpetualPremium +1.2306% Now with a pre-tax bid-YTW of -6.15% (annualized) based on a bid of 25.50 and a call 2008-3-8 at 25.00.
BCE.PR.C FixFloat +1.2911%  
TOC.PR.B Floater +1.2931%  
POW.PR.C PerpetualPremium +1.3033% Now with a pre-tax bid-YTW of 5.20% based on a bid of 25.65 and a call 2012-1-5 at 25.00.
RY.PR.W PerpetualDiscount +1.5041% Now with a pre-tax bid-YTW of 5.19% based on a bid of 23.62 and a limitMaturity.
HSB.PR.D PerpetualDiscount +1.9776% Now with a pre-tax bid-YTW of 5.33% based on a bid of 23.72 and a limitMaturity.
IAG.PR.A PerpetualDiscount +2.3341% Now with a pre-tax bid-YTW of 5.20% based on a bid of 22.36 and a limitMaturity.
Volume Highlights
Issue Index Volume Notes
BAM.PR.N PerpetualDiscount 274,825 Now with a pre-tax bid-YTW of 6.36% based on a bid of 18.95 and a limitMaturity.
PWF.PR.G PerpetualPremium 190,200 Now with a pre-tax bid-YTW of 5.60% based on a bid of 25.30 and a call 2011-8-16 at 25.00.
TD.PR.Q PerpetualPremium 143,055 Now with a pre-tax bid-YTW of 5.44% based on a bid of 25.38 and a call 2017-3-2 at 25.00.
RY.PR.D PerpetualDiscount 122,050 Now with a pre-tax bid-YTW of 5.26% based on a bid of 21.48 and a limitMaturity.
PWF.PR.K PerpetualDiscount 81,225 Now with a pre-tax bid-YTW of 5.36% based on a bid of 23.21 and a limitMaturity.

There were twenty-six other index-included $25.00-equivalent issues trading over 10,000 shares today.

3 Responses to “February 7, 2007”

  1. madequota says:

    Good Morning!

    Well, it looks like the pref rally is unsnuffable . . . at this point anyway.

    We had a punishing jobs report number that seems to underscore Canada’s ability to ignore economic reality, but bonds are up anyway . . . RBC had a number of early pref share dumps [on a number of RY prefs], but the market ate through all of their sacrifices by 9:45 and most of the RY’s are now up on the day . . . as mentioned above, Loblaws has been downgraded, but 2 WN prefs are up smartly regardless . . . and a couple of higher volume prefs that I like to use as barometers of market sentiment are up as well [BNS.PR.L, BMO.PR.J, SLF.PR.C to name a few of those].

    Regarding ELF.PR.G . . . I’ve been updating this blog on RBC’s aggressive selling of this issue in the $20.00 -$20.10 range. This is the first day this week that RBC appears to be spent on their holdings . . . Last trade? $20.23 + .23 with substantially more bids than offers right now.

    Regarding CCS.PR.C . . . RBC sold out earlier in the week at $18 . . . current bid is $19.10 with substantial base building from $17.95 up . . . except for a small offerring at $19.15, nothing much until $20.20.

    I was wondering if anyone might have any thoughts on the BCE prefs as a possible hedge play on the “deal” . . . all of them are a couple of dollars below the stated redemption prices; the only downside to accumulating seems to be the wide bid/ask spreads and low volumes.


  2. jiHymas says:

    BCE Prefs as a hedge? Well … maybe, on the basis that bonds have fully (maybe!) priced in a deal, whereas prefs haven’t.

    I wouldn’t care to try it, though … there’s WAY too many moving parts in that hedge for me to be comfortable calculating hedge ratios.

  3. […] Addendum: I will note, as I did on February 7 that the 5-year corrected market-derived inflation expectations measure is most certainly not flat: The Cleveland Fed has updated its estimate of inflation expectations from TIPS … very interesting indeed. The breakeven rate is increasing slightly, but the analytical rate – which attempts to incorporate adjustments for the inflation-risk-premium and liquidity-premium – is skyrocketting. This epsiode [sic] will be very useful in determining the validity of these adjustments! […]

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