Pension underfunding is becoming socially acceptable:
Some of Ontario’s largest companies, facing massive deficits in their pension plans, are turning to their employees in a bid to help solve a deepening funding crisis.
Chrysler Canada Inc., ArcelorMittal Dofasco Inc. and other companies – large and small – have asked their employees to let them take advantage of a special Ontario government rule that allows companies to stretch contributions to underfunded defined-benefit pension funds to 10 years from five.
…
FSCO forecast that the average fund would have assets that would cover just 72 per cent of liabilities at the end of 2011, compared with 87 per cent at the end of 2010.ArcelorMittal Dofasco shows a typical decline. As of Dec. 31, 2011, assets in the plan for non-unionized employees of the steel maker covered 52 per cent of liabilities, versus 65 per cent a year earlier.
In 2004, Don Pether, then chief executive officer of Dofasco Inc., (before it was taken over by ArcelorMittal) pointed to its fully funded pension plan as offering “a strategic advantage.” But in recent years, record low interest rates and lower returns on investments have caused the deficit, spokeswoman Marie Verdun said Wednesday.
Members of the ArcelorMittal Dofasco plan recently turned down the steel maker’s proposal to stretch out the funding.
It’s a difficult question for workers. On the one hand, crippling the company’s ability to operate doesn’t make a lot of sense. But on the other hand, making such a concession without getting something pretty solid in return doesn’t make a lot of sense either.
And what will the lenders think? It will be most interesting to see what happens as a result of the Indalex ruling:
But insolvency lawyers say this “deemed trust” issue simply creates more headaches for companies with big defined-benefit pension plans and those who lend them money.
This part of the ruling means lenders to thousands of companies with large defined-benefit pension plans just saw themselves pushed back in the line of creditors, behind potentially massive pension shortfalls, said D.J. Miller, an insolvency lawyer with Thornton Grout Finnigan in Toronto.
“All of those lenders that have money advanced right now, thinking they are in first position on inventories and accounts receivable, are sitting behind what can be a deficit that can be in the tens or hundreds of millions of dollars,” said Ms. Miller, who acted for the Insolvency Institute of Canada, which intervened in the case before the Supreme Court.
Plans that could be close to being wound up, or plans that have large shortfalls, will attract special attention, she said: “I think all of the lenders right now are doing a very careful assessment of their portfolios to determine what their potential exposure is.”
She warned that lenders might require extra guarantees and higher rates from companies with big pension plans. Other creditors might be tempted to push a company right into full-blown bankruptcy, which would nullify the pensioners’ new rights.
Jonathan Weil of Bloomberg publicizes an interesting tidbit about the S&P lawsuit:
The U.S. Justice Department made some peculiar allegations in its lawsuit this week against S&P and its parent, McGraw-Hill Cos. According to the government, Citigroup was defrauded by S&P credit ratings on subprime mortgage bonds that Citigroup itself created and sold. Bank of America, too, allegedly was defrauded by S&P in the same way.
If this doesn’t make sense, that’s the point. The notion is far-fetched. No wonder S&P wouldn’t agree to a settlement and told the government to see it in court.
Here’s the gist. Near the end of its 119-page complaint, the Justice Department listed about two-dozen collateralized- debt obligations issued in 2007 as examples where S&P allegedly defrauded banks and credit unions. It was important that the Justice Department be able to identify such lenders as investors, because it’s suing S&P under a 1989 statute that covers frauds against federally insured financial institutions.
Under the government’s theory, Citigroup and Bank of America paid S&P for ratings that convinced the banks their own CDO offal was rock-solid. And because S&P deceived them into thinking the best of their own rubbish, these banks and other lenders suffered more than $5 billion of investment losses, according to the suit.
There’s some concern that retail could stampede out of bonds:
Falling interest rates over the past decade has meant rising bond prices, delivering dazzling returns for bond mutual funds. Investors have responded by jumping in. Mutual, closed end and exchange-traded funds now own close to 20 per cent of all investment and high-yield corporate debt in the U.S.
In Canada, investors bought a net $19-billion worth of bond funds in 2012 (compared with total investment fund net sales of $30-billion), more than two and a half times larger than sales a year earlier, as they continued to trade out of equity funds. Investors in Canada now hold $132-billion worth of bond funds, according to the Investment Funds Institute of Canada – up from just $53.5-billion at the end of 2008.
The concern now is that interest rates rise too much, too fast. Rates on 10-year U.S. Treasury bonds have climbed markedly in recent months after hitting an all-time low last July. The rate hit 2 per cent last week for the first time since April (remember, when rates rise, bond prices fall). If they continue to rise to 3 per cent, there would be a “disorderly rotation out of bonds – characterized by higher interest rates and wider credit spreads,” warned Bank of America Merrill Lynch credit strategist Hans Mikkelsen in a research note this week.
But a Canadian debt issue this week is a reminder that the bond market remains frothy by historical standards.
On Wednesday, Corus Entertainment Inc. priced a seven-year, $550-million bond deal at a yield of 4.25 per cent. The big news: That’s 3 percentage points lower than a similar offering in 2010 ($500-million, seven years), when its credit rating was the same BBB low from DBRS that it is today. (Its rating from Standard and Poor’s is one notch higher than it was in 2010, but still below investment grade.)
Better yet, sources in the Canadian bond market say there were 85 buyers, 50 per cent more than the 2010 offering.
There’s a term extension on Irish debt:
Ireland clinched a long-awaited deal on Thursday to ease the burden of its bank debts, sending its borrowing costs falling to pre-crisis levels and bolstering its chances of ending its reliance on EU-IMF loans this year.
After nearly 18 months of negotiation, Prime Minister Enda Kenny won European Central Bank (ECB) approval to stretch out the cost of bailing out Anglo Irish Bank, slicing billions off the country’s borrowing needs and cutting its budget deficit.
…
>Under the terms of the deal, first reported on Wednesday, Anglo’s promissory notes, with an average maturity of between seven and eight years, will be exchanged for government bonds with an average maturity of over 34 years. The first principal repayment will be made in 2038 and the last in 2053.The finance spokesman for the opposition Sinn Fein party said the agreement would burden future generations.
“This week my youngest son began to crawl. He wasn’t even born at the time the promissory note was issued, yet he’ll be 40 years of age and this state will be paying back the toxic debts of Anglo Irish Bank,” Pearse Doherty told parliament.
Anglo Irish’s near-collapse in 2008 pressured the government into guaranteeing the entire financial sector, sucking it into a downward spiral and in late 2010, a €67.5-billion loan from the EU and IMF.
Don’t worry Mr. Doherty! It’s government debt – it will be refunded, not redeemed! Bloomberg points out approvingly:
At issue is an obligation the Irish government took on in 2010, during the rescue of the now-defunct Anglo Irish Bank. At the urging of the European Union, and in return for emergency loans from the European Central Bank, the government issued an IOU that allowed Anglo Irish to pay its bondholders. The IOU has since been a heavy burden on Irish taxpayers, requiring annual payments of more than $4 billion.
This week, the ECB effectively accepted an Irish proposal to reschedule the debt — a move that the country’s extraordinary efforts to fulfill its EU-mandated austerity program thoroughly justify. The government will exchange the IOU, which consists of 10-year promissory notes paying an 8 percent interest rate, for longer-term bonds paying about 3 percent.
And who owned the promissory notes? The Financial Times untangles it:
For Anglo, the only asset it had left that was really worth anything and could be used as collateral was the sovereign promise from the Dublin government: the promissory note.
However, the Irish central bank is now part of the eurosystem, which means the ECB must sign off on any ELA assistance for Anglo and its successors. Since the promissory note is, in essence, the one thing the ECB has as collateral for its loans, it has to make sure whatever replaces them is still legitimate collateral. That gives it a veto in any attempt to restructure the notes.
OK – so Europe has had its 10-year 8% proms forcibly converted into 30-year 3% bonds. There’s a good deal!
It was a mixed day for the Canadian preferred share market, with PerpetualPremiums down 8bp, FixedResets up 10bp and DeemedRetractibles flat. Volatility picked up a little, with Straights on the low side. 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 Current Yield (at bid) |
Median YTW |
Median Average Trading Value |
Median Mod Dur (YTW) |
Issues | Day’s Perf. | Index Value |
| Ratchet | 0.00 % | 0.00 % | 0 | 0.00 | 0 | 0.3939 % | 2,581.1 |
| FixedFloater | 4.19 % | 3.51 % | 26,063 | 18.31 | 1 | 0.0441 % | 3,881.0 |
| Floater | 2.58 % | 2.92 % | 73,040 | 19.91 | 5 | 0.3939 % | 2,786.9 |
| OpRet | 4.75 % | 2.21 % | 35,384 | 0.31 | 5 | 0.2067 % | 2,608.9 |
| SplitShare | 4.56 % | 4.33 % | 38,129 | 4.27 | 2 | -0.0991 % | 2,919.9 |
| Interest-Bearing | 0.00 % | 0.00 % | 0 | 0.00 | 0 | 0.2067 % | 2,385.6 |
| Perpetual-Premium | 5.24 % | 0.37 % | 84,604 | 0.23 | 29 | -0.0779 % | 2,353.3 |
| Perpetual-Discount | 4.85 % | 4.89 % | 140,422 | 15.63 | 4 | 0.0101 % | 2,648.5 |
| FixedReset | 4.90 % | 2.81 % | 268,116 | 3.38 | 78 | 0.0974 % | 2,491.4 |
| Deemed-Retractible | 4.87 % | 2.14 % | 147,668 | 0.30 | 45 | -0.0026 % | 2,434.8 |
| Performance Highlights | |||
| Issue | Index | Change | Notes |
| PWF.PR.K | Perpetual-Premium | -1.57 % | YTW SCENARIO Maturity Type : Call Maturity Date : 2014-10-31 Maturity Price : 25.00 Evaluated at bid price : 25.15 Bid-YTW : 4.68 % |
| HSB.PR.D | Deemed-Retractible | -1.32 % | YTW SCENARIO Maturity Type : Call Maturity Date : 2014-12-31 Maturity Price : 25.00 Evaluated at bid price : 25.51 Bid-YTW : 4.18 % |
| ENB.PR.A | Perpetual-Premium | -1.02 % | YTW SCENARIO Maturity Type : Call Maturity Date : 2013-03-09 Maturity Price : 25.00 Evaluated at bid price : 26.25 Bid-YTW : -37.46 % |
| BNS.PR.Y | FixedReset | 1.06 % | YTW SCENARIO Maturity Type : Hard Maturity Maturity Date : 2022-01-31 Maturity Price : 25.00 Evaluated at bid price : 24.86 Bid-YTW : 2.92 % |
| PWF.PR.A | Floater | 1.06 % | YTW SCENARIO Maturity Type : Limit Maturity Maturity Date : 2043-02-07 Maturity Price : 23.48 Evaluated at bid price : 23.75 Bid-YTW : 2.18 % |
| Volume Highlights | |||
| Issue | Index | Shares Traded |
Notes |
| BNS.PR.T | FixedReset | 162,350 | TD crossed 158,000 at 26.30. YTW SCENARIO Maturity Type : Call Maturity Date : 2014-04-25 Maturity Price : 25.00 Evaluated at bid price : 26.30 Bid-YTW : 1.99 % |
| BNS.PR.X | FixedReset | 142,050 | TD crossed 100,000 at 26.30; RBC crossed 25,000 at the same price. YTW SCENARIO Maturity Type : Call Maturity Date : 2014-04-25 Maturity Price : 25.00 Evaluated at bid price : 26.32 Bid-YTW : 1.92 % |
| SLF.PR.A | Deemed-Retractible | 77,755 | National crossed 40,000 at 24.90. YTW SCENARIO Maturity Type : Hard Maturity Maturity Date : 2022-01-31 Maturity Price : 25.00 Evaluated at bid price : 24.89 Bid-YTW : 4.91 % |
| BMO.PR.O | FixedReset | 63,040 | Nesbitt crossed blocks of 40,000 and 18,500, both at 26.35. YTW SCENARIO Maturity Type : Call Maturity Date : 2014-05-25 Maturity Price : 25.00 Evaluated at bid price : 26.37 Bid-YTW : 1.95 % |
| BNS.PR.J | Deemed-Retractible | 56,360 | Nesbitt crossed 50,000 at 25.80. YTW SCENARIO Maturity Type : Call Maturity Date : 2013-10-29 Maturity Price : 25.00 Evaluated at bid price : 25.72 Bid-YTW : 1.39 % |
| SLF.PR.D | Deemed-Retractible | 53,687 | National crossed 40,000 at 24.61. YTW SCENARIO Maturity Type : Hard Maturity Maturity Date : 2022-01-31 Maturity Price : 25.00 Evaluated at bid price : 24.62 Bid-YTW : 4.75 % |
| There were 36 other index-included issues trading in excess of 10,000 shares. | |||
| Wide Spread Highlights | ||
| Issue | Index | Quote Data and Yield Notes |
| HSB.PR.D | Deemed-Retractible | Quote: 25.51 – 26.04 Spot Rate : 0.5300 Average : 0.3227 YTW SCENARIO |
| ENB.PR.A | Perpetual-Premium | Quote: 26.25 – 26.55 Spot Rate : 0.3000 Average : 0.1960 YTW SCENARIO |
| PWF.PR.R | Perpetual-Premium | Quote: 26.77 – 27.00 Spot Rate : 0.2300 Average : 0.1464 YTW SCENARIO |
| PWF.PR.K | Perpetual-Premium | Quote: 25.15 – 25.46 Spot Rate : 0.3100 Average : 0.2308 YTW SCENARIO |
| PWF.PR.L | Perpetual-Premium | Quote: 25.56 – 25.83 Spot Rate : 0.2700 Average : 0.2075 YTW SCENARIO |
| CM.PR.D | Perpetual-Premium | Quote: 25.70 – 25.88 Spot Rate : 0.1800 Average : 0.1230 YTW SCENARIO |