January 25, 2013

Memo to Scotia: this is what reasonable management might consider grounds for firing a star trader:

Deutsche Bank AG (DBK)’s Christian Bittar, one of the firm’s best-paid traders, lost about 40 million euros ($53 million) in bonuses after he was fired for trying to rig interest rates, three people with knowledge of the move said.

The lender dismissed Bittar in December 2011, claiming he colluded with a Barclays Plc (BARC) trader to manipulate rates and boost the value of his trades in 2006 and 2007, said the people, who requested anonymity because they weren’t authorized to speak publicly. His attempts to rig the euro interbank offered rate and similar efforts by derivatives trader Guillaume Adolph over yen Libor are the focus of the bank’s probe, the people said. Both traders declined to comment for this story.

Bittar, who joined Deutsche Bank in 2001, was a proprietary trader specializing in short-term derivatives contracts and entitled to a percentage of the profit from his trades, the people said. He took billion-euro positions on the direction of short-term interest rates with the firm’s own money and reaped hundreds of millions of euros in profit for the bank, the people said. The bonuses Deutsche Bank pays its staff typically vest over a three-year period.

Bittar was also alleged to have had inappropriate communications with colleagues responsible for making the bank’s Euribor submissions, the people with knowledge of the firm’s internal processes said.

I mentioned Illinois’ pension woes on January 17. They’re getting worse:

Illinois had its debt rating cut one level to A- by Standard & Poor’s, which threatened to downgrade the state again following lawmakers’ failure to bolster the nation’s worst-funded pension system.

The rating action comes before the state’s planned sale next week of $500 million of general-obligation securities. The move affects $26.6 billion of debt, according to Robin Prunty, an S&P analyst. It leaves Illinois’s bond grade six levels below AAA and ties it with California as S&P’s lowest-rated state.

The combination of the pension burden and budgetary stresses may push Illinois closer to speculative grade, the company said.

The state has the weakest pension system in the U.S., with 39 percent funding for five major groups of public employees, according to the Civic Federation, a Chicago-based nonprofit research group.

Maybe they can raise more money by cutting taxes:

Kansas Governor Sam Brownback has a prairie-wide smile, a friendly manner and an abiding hatred of his state’s income tax. He pushed an unprecedented cut for individuals and small businesses through the legislature last year and is now plotting, as he says, to “take it to zero.”

Kansas lawmakers haven’t figured out how to pay for the tax cuts without potentially crippling public schools and other local government functions. Reducing the income tax has left a projected $2.5 billion revenue hole through fiscal 2018, according to the Kansas Legislative Research Department. On Jan. 11, a state court ruled that the legislature was illegally underfunding schools and ordered a payment of $440 million.

The tax-cut drama in Topeka, the state capital, pits competing visions of economic development. Brownback and other Republicans share the bedrock belief that eliminating income taxes will spur economic growth that would make those levies unnecessary. Texas, one of seven states that don’t have a levy on wages, is held out as the example of how growth thrives when income isn’t taxed.

Critics say education and other government services are important components of economic development and are at risk under the governor’s plan. Texas has the good fortune of living on an ocean of oil, they say, and Brownback’s belief in the power of tax cuts is misguided.

I wonder … if taxes are zero, is revenue infinite?

George Soros says the Sharpe Arithmetic has come to hedge funds:

George Soros, the billionaire philanthropist and former hedge-fund manager, said institutions that invest in the industry should expect poor performance, in part because managers charge high fees.

Since hedge funds are now a dominant force in the market, they can’t, as a group, outperform the market,” Soros said today in a Bloomberg Television interview with Erik Schatzker from the World Economic Forum in Davos, Switzerland. The funds’ fees, typically 2 percent of assets and 20 percent of returns, eat into profits, Soros said.

Soros’s hedge fund operated until 2011, when he turned New York-based Soros Fund Management LLC into a family office that now oversees $24 billion. He averaged returns of about 20 percent a year since 1969 at the firm and its predecessor.

Hedge-fund performance will also be impeded because managers and investors are reluctant to take risks, Soros said.

“Outperforming the market with low volatility on a consistent basis is an impossibility,” said Soros, 82. “I outperformed the market for 30-odd years, but not with low volatility.”

I join him in cheering for volatility. It may well be that he is right and that hedge funds have effectively become the market and hence cannot, as a group, outperform, but there’s another factor: Soros and his ilk, skilled, intelligent practitioners, showed that hedge funds could be enormously profitable. Then the salesmen and charlatans moved in …

DBRS confirmed Fairfax Financial at Pfd-3, proud issuers of FFH.PR.C, FFH.PR.E, FFH.PR.G, FFH.PR.I and FFH.PR.K:

DBRS Limited (DBRS) has today confirmed the Issuer Rating and Senior Unsecured Debt of Fairfax Financial Holdings Limited (Fairfax or the Company) at BBB. The Preferred Shares are confirmed at Pfd-3. The trends are Stable. The Company’s consolidated underwriting result has been weak in recent years, aggravated by competitive conditions in the commercial lines of the general insurance industry globally and several years of relatively high catastrophic insurance claims, primarily related to the Japan tsunami, Thai floods, New Zealand and Chilean earthquakes and various storm events in North America. Some firming in the market and a recovery in written premiums in 2012 gave rise to a positive underwriting result in the first nine months of 2012. However, DBRS expects that much of this improvement will prove to have been undone by the adverse impact of Hurricane Sandy when Q4 2012 financial results are reported.

The Company is continuing to grow through strategic acquisitions that have been largely funded through increasing financial leverage. Consolidated debt plus preferred shares as a percentage of capitalization has increased from just over 25% in 2009 to over 36% at September 30, 2012, which is above the current DBRS guidance for a BBB-rated credit. Financial leverage is increasingly taking the form of more tax-efficient preferred share capital and borrowings at the holding company rather than at the operating subsidiary level. With reduced earnings, the corresponding fixed-charge coverage ratios in the past two years have averaged less than 1.5 times, which is below the threshold for an investment-grade company, recognizing that underwriting results have been at a cyclical low point and aggravated by unusual catastrophic claims. The recent addition of $250 million in debt, which will increase the financial leverage ratio in the short term, is mitigated by the fact that the proceeds will be used to retire maturing debt before the end of 2013.

Much of the residual concern that DBRS has for the Company’s increased financial leverage and coverage ratios is mitigated by the close to $1 billion in liquid assets at the holding company level as of September 30, 2012, and a strong component of “permanent” preferred share capital. The Company remains committed to keeping at least $1 billion in cash and liquid securities at the holding company in addition to the excess capital embedded in its operating subsidiaries. The strong liquidity at the holding company helps ensure that the fixed charges can comfortably be paid over time, even though the coverage ratios may tend to suffer through the cycle.

It was a mixed day for the Canadian preferred share market, with PerpetualPremiums gaining 2bp, FixedResets down 5bp and DeemedRetractibles off 4bp. Volatility was average. Volume was above average.

HIMIPref™ Preferred Indices
These values reflect the December 2008 revision of the HIMIPref™ Indices

Values are provisional and are finalized monthly
Index Mean
(at bid)
Mod Dur
Issues Day’s Perf. Index Value
Ratchet 0.00 % 0.00 % 0 0.00 0 0.8256 % 2,548.7
FixedFloater 4.25 % 3.57 % 27,107 18.23 1 0.0000 % 3,827.9
Floater 2.73 % 2.92 % 69,994 19.92 4 0.8256 % 2,751.9
OpRet 4.63 % 1.61 % 51,351 0.39 4 0.1148 % 2,593.0
SplitShare 4.57 % 4.43 % 43,523 4.30 2 0.0000 % 2,912.9
Interest-Bearing 0.00 % 0.00 % 0 0.00 0 0.1148 % 2,371.1
Perpetual-Premium 5.25 % 0.07 % 76,229 0.71 30 0.0168 % 2,348.5
Perpetual-Discount 4.86 % 4.88 % 136,046 15.67 4 -0.1625 % 2,642.0
FixedReset 4.92 % 2.95 % 242,724 3.57 78 -0.0486 % 2,479.0
Deemed-Retractible 4.88 % 2.20 % 127,576 0.33 45 -0.0397 % 2,428.3
Performance Highlights
Issue Index Change Notes
IAG.PR.G FixedReset -1.16 % YTW SCENARIO
Maturity Type : Call
Maturity Date : 2017-06-30
Maturity Price : 25.00
Evaluated at bid price : 26.36
Bid-YTW : 3.07 %
BAM.PR.C Floater 1.01 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2043-01-25
Maturity Price : 17.99
Evaluated at bid price : 17.99
Bid-YTW : 2.94 %
TRI.PR.B Floater 1.32 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2043-01-25
Maturity Price : 22.82
Evaluated at bid price : 23.10
Bid-YTW : 2.25 %
Volume Highlights
Issue Index Shares
TD.PR.P Deemed-Retractible 371,461 Nesbitt crossed 350,000 at 26.50 and sold 20,600 to National at the same price.
Maturity Type : Call
Maturity Date : 2013-02-24
Maturity Price : 26.00
Evaluated at bid price : 26.45
Bid-YTW : -16.32 %
BAM.PF.C Perpetual-Discount 85,070 RBC crossed blocks of 48,800 and 24,700, both at 25.00.
Maturity Type : Limit Maturity
Maturity Date : 2043-01-25
Maturity Price : 24.51
Evaluated at bid price : 24.90
Bid-YTW : 4.93 %
BAM.PR.R FixedReset 76,776 National crossed 50,000 at 26.45 and bought 17,900 from Nesbitt at the same price.
Maturity Type : Limit Maturity
Maturity Date : 2043-01-25
Maturity Price : 23.70
Evaluated at bid price : 26.33
Bid-YTW : 3.67 %
NA.PR.L Deemed-Retractible 57,184 National crossed 40,000 at 25.56.
Maturity Type : Call
Maturity Date : 2013-02-24
Maturity Price : 25.50
Evaluated at bid price : 25.60
Bid-YTW : -3.31 %
RY.PR.P FixedReset 55,521 Nesbitt crossed 21,000 at 25.95, sold 10,000 to anonymous at the same price and sold 12,800 to Desjardins at the same price again.
Maturity Type : Call
Maturity Date : 2014-02-24
Maturity Price : 25.00
Evaluated at bid price : 25.98
Bid-YTW : 2.12 %
TD.PR.E FixedReset 53,490 TD crossed blocks of 21,100 and 25,000, both at 26.25.
Maturity Type : Call
Maturity Date : 2014-04-30
Maturity Price : 25.00
Evaluated at bid price : 26.25
Bid-YTW : 2.13 %
There were 37 other index-included issues trading in excess of 10,000 shares.
Wide Spread Highlights
Issue Index Quote Data and Yield Notes
TRI.PR.B Floater Quote: 23.10 – 24.00
Spot Rate : 0.9000
Average : 0.7128

Maturity Type : Limit Maturity
Maturity Date : 2043-01-25
Maturity Price : 22.82
Evaluated at bid price : 23.10
Bid-YTW : 2.25 %

NA.PR.O FixedReset Quote: 26.21 – 26.50
Spot Rate : 0.2900
Average : 0.1687

Maturity Type : Call
Maturity Date : 2014-02-15
Maturity Price : 25.00
Evaluated at bid price : 26.21
Bid-YTW : 1.63 %

RY.PR.L FixedReset Quote: 25.66 – 26.00
Spot Rate : 0.3400
Average : 0.2294

Maturity Type : Call
Maturity Date : 2014-02-24
Maturity Price : 25.00
Evaluated at bid price : 25.66
Bid-YTW : 2.71 %

BAM.PR.G FixedFloater Quote: 22.36 – 22.77
Spot Rate : 0.4100
Average : 0.3064

Maturity Type : Limit Maturity
Maturity Date : 2043-01-25
Maturity Price : 22.78
Evaluated at bid price : 22.36
Bid-YTW : 3.57 %

BMO.PR.Q FixedReset Quote: 25.25 – 25.50
Spot Rate : 0.2500
Average : 0.1561

Maturity Type : Hard Maturity
Maturity Date : 2022-01-31
Maturity Price : 25.00
Evaluated at bid price : 25.25
Bid-YTW : 3.11 %

ENB.PR.N FixedReset Quote: 25.51 – 25.75
Spot Rate : 0.2400
Average : 0.1476

Maturity Type : Call
Maturity Date : 2018-12-01
Maturity Price : 25.00
Evaluated at bid price : 25.51
Bid-YTW : 3.74 %

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