December 3, 2014

The BoC announced its rate decision:

The Bank of Canada today announced that it is maintaining its target for the overnight rate at 1 per cent. The Bank Rate is correspondingly 1 1/4 per cent and the deposit rate is 3/4 per cent.

Inflation has risen by more than expected. The increase in inflation over the past year is largely due to the temporary effects of a lower Canadian dollar and some sector-specific factors, notably telecommunications and meat prices. Underlying inflation has edged up but remains below 2 per cent.

The U.S. economy has clearly strengthened, particularly business investment, which has benefitted Canada’s exports. Growth in the rest of the world, in contrast, continues to disappoint, leading authorities in some regions to deploy further policy stimulus. Oil prices have continued to fall, due to both supply and demand developments. In this context, global financial conditions have eased further.

Canada’s economy is showing signs of a broadening recovery. Stronger exports are beginning to be reflected in increased business investment and employment. This suggests that the hoped-for sequence of rebuilding that will lead to balanced and self-sustaining growth may finally have begun. However, the lower profile for oil and certain other commodity prices will weigh on the Canadian economy.

The net effect of these recent developments, together with upward revisions to historical data, is that the output gap appears to be smaller than the Bank had projected in the October Monetary Policy Report (MPR). However, the labour market continues to indicate significant slack in the economy.

While inflation is at a higher starting point relative to the October MPR, weaker oil prices pose an important downside risk to the inflation profile. This is tempered by a stronger U.S. economy, Canadian dollar depreciation, and recent federal fiscal measures. Household imbalances, meanwhile, present a significant risk to financial stability. Overall, the balance of risks remains within the zone for which the current stance of monetary policy is appropriate and therefore the target for the overnight rate remains at 1 per cent.

One pundit thinks the bank is preparing for a rate hike in 2015:

RBC Dominion Securities economist Mark Chandler said fading economic slack is “an important part of laying the groundwork for higher rates in 2015.”

… and household debt is increasing:

The central bank has oft cited this threat as household debt burdens rose to record levels. Its latest red flag went up on the same day as two reports underscored the swollen debts among Canadians just as the holiday shopping frenzy begins.

In one report, Equifax Canada said that “Canadian consumers have yet again tipped the scales setting a new benchmark of over $1.513-trillion in debt.”

That third-quarter figure marked an increase from $1.448-trillion in the second quarter and $1.409-trillion a year earlier, according to Equifax, whose numbers are based on more than 25 million unique consumer files.

Excluding mortgages, average debt held by Canadians has increased 2.7 per cent to $20,891.

There is a bright spot, however, in that delinquency rates declined.

Co-operators General Insurance Company, proud issuer of CCS.PR.C was confirmed at Pfd-3(high) by DBRS:

The Co-operators Group, by tradition, has strong presence in rural markets and obtains excellent brand recognition. The property and casualty operations rank in the top six by premiums in Canada. The Group is making efforts to achieve client growth in Québec and is utilizing direct response marketing in Ontario and Alberta. The Group maintains conservative regulatory capital ratios, which supports the rating given the capital raising constraints of a cooperative.

The general insurance business has had difficulty keeping combined ratios at acceptable levels for the rating. The Company is looking at better segmentation to improve results and has been investing in technology and process improvement to achieve a better customer experience. Financial leverage is at reasonable level and supportive of the rating.

Fairfax Financial Holdings Limited, proud issuer of FFH.PR.C, FFH.PR.E, FFH.PR.G, FFH.PR.I and FFH.PR.K, was confirmed at Pfd-3 by DBRS:

Over the long term, Fairfax has generally achieved strong investment results on the investment portfolios it manages for its insurance subsidiaries. With willingness to take advantage of market disruptions and distressed valuations for particular securities and purchase hedges against general market downturns versus the actual portfolio investments, the active investment management generates volatile financial results.

Financial leverage (preferred shares and debt-to-total capital), although declining from September 2013, remains at the upper range for the rating in the mid-thirties. Fixed charge coverage ratios have been very low for the last few years, with low profitability, but the year-to-date (September 2014) results have yielded a desirable ratio. The Company maintains a minimum balance of $1 billion in cash and marketable securities at the holding company for liquidity and contingent subsidiary capital needs, which is viewed as prudent given the earnings volatility.

The Company’s management culture places a high reliance on local management to manage their businesses prudently. The decentralized structure has allowed Fairfax to grow by acquisition globally to take advantage of profitable niches held by existing businesses. DBRS realizes this decentralized management structure contrasts sharply with most Canadian financial institutions, but notes that, if done correctly and with the right businesses and people, it can be a successful strategy, which the Company has been able to demonstrate.

HSBC Bank Canada, proud issuer of HSB.PR.C and HSB.PR.D, has been confirmed at Pfd-2 by DBRS (for NVCC non-compliant shares):

With Canada being a priority market for the HSBC Group, HSBC Bank Canada benefits from the strength of the Parent and the international capabilities and relationships of one of the largest banking groups in the world. HSBC has good intrinsic strengths, including its low cost-to-income ratio and superior customer service model, somewhat offset by geographic and industry concentrations, its historically higher interest-rate risk tolerance and scale challenges in its retail banking and wealth management businesses.

The Bank continues to execute on its strategy of growing its Commercial Banking and its Global Banking and Markets segments. At the same time, HSBC has made strides to increase presence with credit cards, mortgages and wealth products, particularly with its globally affluent customers. Earnings have continued to be good, with ROE in the mid-teens and risk metrics strong, although somewhat lumpy due to the proportions of commercial and wholesale lending.

Notable business changes over the past couple of years are largely complete, allowing the Bank to concentrate on its strategy, although implementing HSBC Group-wide improvements in compliance and risk controls may continue to occupy management attention. The run-off of the consumer finance portfolio is proceeding as planned, as is the repositioning of business banking towards clients with multi-product opportunities and lower compliance risk.

It was a poor day for the Canadian preferred share market, with PerpetualDiscounts losing 20bp, FixedResets off 8bp and DeemedRetractibles down 11bp. Volatility was minor, but exciting anyway. Volume was slightly below 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 -0.2134 % 2,517.4
FixedFloater 0.00 % 0.00 % 0 0.00 0 -0.2134 % 3,985.6
Floater 2.99 % 3.11 % 63,840 19.39 4 -0.2134 % 2,676.2
OpRet 4.39 % -12.05 % 27,216 0.08 2 0.0782 % 2,760.6
SplitShare 4.27 % 3.63 % 43,605 3.75 5 0.1347 % 3,195.7
Interest-Bearing 0.00 % 0.00 % 0 0.00 0 0.0782 % 2,524.3
Perpetual-Premium 5.42 % -2.85 % 75,995 0.09 20 0.1387 % 2,485.9
Perpetual-Discount 5.14 % 5.03 % 116,328 15.40 15 -0.2037 % 2,668.6
FixedReset 4.17 % 3.57 % 193,501 8.63 74 -0.0849 % 2,577.4
Deemed-Retractible 4.97 % -0.75 % 98,012 0.16 40 -0.1128 % 2,613.5
FloatingReset 2.54 % 1.89 % 60,591 3.49 5 -0.1097 % 2,548.6
Performance Highlights
Issue Index Change Notes
HSE.PR.A FixedReset -5.09 % This is a real drop, since several trades were executed below 20.50, but the volume around these levels (about 1,600 shares, late in the day) was low relative to the day’s trading of 19,629 shares. The VWAP was $20.99. The weakness is probably related to yesterday’s new issue announcement.
Maturity Type : Limit Maturity
Maturity Date : 2044-12-03
Maturity Price : 20.50
Evaluated at bid price : 20.50
Bid-YTW : 3.88 %
BAM.PF.D Perpetual-Discount -1.46 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-12-03
Maturity Price : 21.90
Evaluated at bid price : 22.23
Bid-YTW : 5.60 %
Volume Highlights
Issue Index Shares
MFC.PR.N FixedReset 707,152 New issue settled today.
Maturity Type : Hard Maturity
Maturity Date : 2025-01-31
Maturity Price : 25.00
Evaluated at bid price : 25.07
Bid-YTW : 3.72 %
TRP.PR.A FixedReset 281,206 Scotia crossed 177,100 at 21.27. Will reset at 3.266% December 31.YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-12-03
Maturity Price : 21.33
Evaluated at bid price : 21.33
Bid-YTW : 3.86 %
ENB.PR.P FixedReset 71,210 RBC crossed 50,000 at 24.30.
Maturity Type : Limit Maturity
Maturity Date : 2044-12-03
Maturity Price : 22.93
Evaluated at bid price : 24.23
Bid-YTW : 3.95 %
ENB.PF.C FixedReset 62,053 RBC crossed 50,000 at 25.20.
Maturity Type : Limit Maturity
Maturity Date : 2044-12-03
Maturity Price : 23.21
Evaluated at bid price : 25.20
Bid-YTW : 3.96 %
FTS.PR.M FixedReset 60,325 Nesbitt crossed 50,000 at 25.65.
Maturity Type : Call
Maturity Date : 2019-12-01
Maturity Price : 25.00
Evaluated at bid price : 25.57
Bid-YTW : 3.62 %
FTS.PR.H FixedReset 57,062 Nesbitt crossed 50,000 at 20.40.
Maturity Type : Limit Maturity
Maturity Date : 2044-12-03
Maturity Price : 20.35
Evaluated at bid price : 20.35
Bid-YTW : 3.50 %
There were 27 other index-included issues trading in excess of 10,000 shares.
Wide Spread Highlights
Issue Index Quote Data and Yield Notes
SLF.PR.G FixedReset Quote: 20.55 – 20.90
Spot Rate : 0.3500
Average : 0.2382

Maturity Type : Hard Maturity
Maturity Date : 2025-01-31
Maturity Price : 25.00
Evaluated at bid price : 20.55
Bid-YTW : 5.10 %

MFC.PR.H FixedReset Quote: 26.00 – 26.45
Spot Rate : 0.4500
Average : 0.3496

Maturity Type : Call
Maturity Date : 2017-03-19
Maturity Price : 25.00
Evaluated at bid price : 26.00
Bid-YTW : 2.71 %

BAM.PR.T FixedReset Quote: 25.26 – 25.59
Spot Rate : 0.3300
Average : 0.2323

Maturity Type : Limit Maturity
Maturity Date : 2044-12-03
Maturity Price : 23.60
Evaluated at bid price : 25.26
Bid-YTW : 3.68 %

FTS.PR.J Perpetual-Discount Quote: 24.20 – 24.55
Spot Rate : 0.3500
Average : 0.2582

Maturity Type : Limit Maturity
Maturity Date : 2044-12-03
Maturity Price : 23.81
Evaluated at bid price : 24.20
Bid-YTW : 4.92 %

SLF.PR.D Deemed-Retractible Quote: 22.96 – 23.24
Spot Rate : 0.2800
Average : 0.1897

Maturity Type : Hard Maturity
Maturity Date : 2025-01-31
Maturity Price : 25.00
Evaluated at bid price : 22.96
Bid-YTW : 5.49 %

IFC.PR.A FixedReset Quote: 24.34 – 24.65
Spot Rate : 0.3100
Average : 0.2234

Maturity Type : Hard Maturity
Maturity Date : 2025-01-31
Maturity Price : 25.00
Evaluated at bid price : 24.34
Bid-YTW : 3.90 %

2 Responses to “December 3, 2014”

  1. prefQC says:

    Hi James,
    Any idea for the precipitous drops in high-quality fixed resets such as SLF.PR.G? (At the moment of writing the last trade was $20.06.) Lesser-quality FRs (e.g. CPX.PR.A, TA.PR.D, etc.) are also getting hammered. Of course, the worst hit stocks are those that will be reset with low spreads within the next 6-12 months, but the GOC-5 has actually been edging up since Monday. Furthermore, as mentioned above, if anything the recent BoC statement is mildly “hawkish”.

    Are there some preferred-share ETF index changes that might be behind this?

  2. jiHymas says:

    No, as far as I know, there are no ETF index changes that are affecting the downturn.

    As far as a rationale goes, I can’t really do much better than my attempt in the post A Trend in Pricing … except to say “more so!”.

    While the market has gradually be adjusting prices to reflect Issue Reset Spreads since about December 2012, all I can suggest is that the big reduction in the TRP.PR.A dividend has panicked those who had previously been ignoring the issue and they have immediately rushed out and sold. And, perhaps, there is a bit of market timing going on, with some beginning to believe the GOC-5 rate won’t do much in 2015 but will then skyrocket.

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