Matt Levine of Bloomberg passes on the latest legal wrinkle in the CDS field:
And when a bank needs rescuing, holders of its most senior stuff — the deposits, the secured debt — tend to be fully and seamlessly made whole, while holders of its most junior stuff — common stock, AT1 capital securities — tend to get instantaneously zeroed.
…
But in modern legal systems there is a problem with these hierarchies, which is that everyone who buys a junior claim on a bank and then sees that claim wiped out also automatically gets a lawsuit. If your junior claim is wiped out, you can sue someone — probably the bank, or whoever acquired the bank — claiming that your junior claim was wiped out unfairly: The proper procedures weren’t followed, or the bank wasn’t really insolvent when it was rescued, or it was really insolvent much earlier and its disclosures were wrong, or you were tricked into buying the junior claim by misrepresentations about its safety, or whatever. And you sue, and if you win, you have a senior claim: When a company loses a lawsuit, it actually has to pay up, making that claim unlike junior capital securities with perpetual maturity and long deferral periods.This is just sort of weird. Here is a story about how Banco Popular Espanol SA’s credit default swaps are a mess, which is a small symptom of that larger weirdness:
Credit derivatives written against the failed Spanish lender’s junior debt were triggered in a matter of days and, given that these bonds were now worthless, it seemed self-evident to many that owners of the CDS would get paid in full.
But now a row has broken out over whether the potential value of legal claims bondholders are pursuing over Banco Popular’s collapse should be considered when determining any compensation, clouding the first payout on credit derivatives linked to a European bank since the rules were rewritten to iron out major flaws in 2014.
Lazy balance sheets at US utilities have been a point of corporate interest for well over a year now:
Led by massive acquisitions from pipeline companies Enbridge and TransCanada, six domestic businesses spent approximately $87-billion in the past 12 months snapping up U.S. firms.
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Why are the Canadians suddenly stepping up? And can domestic CEOs in other sectors, all of whom aspire to grow internationally, steal a page from the utilities?On the first question, the starting point for takeovers is this concept of lazy balance sheets south of the border. Executives at capital-hungry companies such as utilities are always conscious of their credit ratings. This is especially true of CEOs and boards at U.S. pipelines: Enron’s meltdown and the near-death experience of the global financial crisis made top-notch ratings a priority. As a result, many U.S. utilities carry relatively little debt. That’s “lazy” in the sense that the company could easily borrow more money, while continuing to be judged as investment grade by the likes of S&P and Moody’s.
While utility executives might care about ratings, the credit market stopped paying much attention last year. In the spring of 2016, borrowing costs began to fall for any investment grade-rated company. At the same time, the spread or gap narrowed between the interest rates paid by a blue-chip double-A-rated borrower and a still-respectable but more leveraged triple B-rated business. And credit markets opened up – massive loans and bond sales were possible.
And so today we learned:
Ontario utility Hydro One Ltd. moved into the U.S. natural gas and electrical transmission business Wednesday by acquiring Washington-based Avista Corp. for $4.4-billion.
Toronto-based Hydro One, which was privatized by the Ontario government in 2015, is making its first foray outside the province by buying a utility that supplies electricity to 379,000 customers and gas to 342,000 clients across five western U.S. states. Hydro One has 1.3 million customers in Ontario.
Hydro One is the latest in a series of Canadian utilities to acquire an American rival, with six domestic companies collectively committing $87-billion to U.S. takeovers over the past 18 months.
- •On July 19, 2017, Toronto-based Hydro One Ltd. (HOL) announced the C$6.7 billion (US$5.3 billion) proposed acquisition of Avista Corp., a U.S.-based electricity and gas utility.
- •We are revising our outlook on HOL and subsidiary Hydro One Inc. (HOI) to negative from stable.
- •We are also affirming our ratings on HOL and HOI, including our ‘A’ long-term corporate credit rating on both.
- •The outlook revision reflects the shift in HOL’s business strategy, as well as the slightly weakened business risk from the acquisition
…
Historically, HOL’s focus on Ontario provided the company with incremental business strength based on a favorable market position, regulation, and operational history. With the Avista acquisition, we believe HOL’s business risk has eroded slightly. Furthermore, the additional leverage that the transaction introduces also eroded HOL’s credit metrics and financial risk.The negative outlook on HOL reflects our view that the Avista acquisition signals a shift in HOL’s business strategy, which will align the company with its global peers removing the historical rationale for a one-notch rating uplift. The negative outlook also reflects the execution and financing risk inherent in any large acquisition. We recognize that the use of the convertible debentures will create a temporary impact on credit metrics, with AFFO-to-debt forecast at about 9% until conversion. However, we expect the debentures will be converted to equity in full.
As as for Avista:
- •Toronto, Ontario-based utility Hydro One Ltd. (HOL) has entered into an agreement to acquire U.S.-based Avista Corp. (Avista) for C$6.7 billion in an all-cash transaction.
- •We are affirming our ratings on Avista, including the ‘BBB’ issuer credit rating, and revising the outlook to positive from stable.
- •The positive outlook reflects the potential for higher ratings on Avista if the acquisition is completed as proposed.
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S&P Global Ratings today said it affirmed its ratings, including the ‘BBB’ issuer credit rating, on Avista Corp. and revised the outlook to positive from stable.The outlook revision on Avista reflects the potential for higher ratings upon the completion of the acquisition by Hydro One Ltd. (HOL). Post-acquisition, we will view Avista as a highly strategic subsidiary of HOL. Our assessment is based on our view that Avista will be an important member of the HOL group, highly unlikely to be sold, and integral to overall group strategy and operations. Avista will be a significant cash flow contributor to the group, making up about 22% of consolidated EBITDA.
So Avista is already BBB, but according to their 2016 Annual Report, about $1.2-billion of their $1.6-billion total long-term debt matures in and after 2022 and carries an average interest rate of 5.09%, compared to an average coupon of 5.2% on US long term corporates. Maybe it’s Hydro 1 that should be regarded as having the lazy balance sheet, if this is an issue in this acquisition!
PerpetualDiscounts now yield 5.28%, equivalent to 6.86% interest at the standard equivalency factor of 1.3x. Long corporates now yield a little more than 3.80%, so the pre-tax interest-equivalent spread (in this context, the “Seniority Spread”) is now about 305bp, a slight (and perhaps spurious) widening from the 300bp reported July 12.
| HIMIPref™ Preferred Indices These values reflect the December 2008 revision of the HIMIPref™ Indices Values are provisional and are finalized monthly |
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| 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 | 3.2959 % | 2,469.9 |
| FixedFloater | 0.00 % | 0.00 % | 0 | 0.00 | 0 | 3.2959 % | 4,532.2 |
| Floater | 3.50 % | 3.52 % | 108,289 | 18.48 | 3 | 3.2959 % | 2,611.9 |
| OpRet | 0.00 % | 0.00 % | 0 | 0.00 | 0 | 0.1484 % | 3,074.8 |
| SplitShare | 4.68 % | 4.07 % | 56,884 | 1.42 | 5 | 0.1484 % | 3,671.9 |
| Interest-Bearing | 0.00 % | 0.00 % | 0 | 0.00 | 0 | 0.1484 % | 2,865.0 |
| Perpetual-Premium | 5.38 % | 4.75 % | 70,290 | 6.11 | 21 | 0.1625 % | 2,772.4 |
| Perpetual-Discount | 5.29 % | 5.28 % | 86,657 | 15.02 | 15 | 0.3805 % | 2,921.5 |
| FixedReset | 4.32 % | 4.31 % | 183,149 | 6.40 | 98 | 0.1931 % | 2,403.5 |
| Deemed-Retractible | 5.07 % | 5.43 % | 118,120 | 6.15 | 30 | 0.3254 % | 2,851.9 |
| FloatingReset | 2.59 % | 2.95 % | 43,114 | 4.29 | 10 | 0.1988 % | 2,632.1 |
| Performance Highlights | |||
| Issue | Index | Change | Notes |
| BIP.PR.A | FixedReset | -1.53 % | YTW SCENARIO Maturity Type : Limit Maturity Maturity Date : 2047-07-19 Maturity Price : 22.88 Evaluated at bid price : 23.78 Bid-YTW : 5.22 % |
| GWO.PR.I | Deemed-Retractible | 1.02 % | YTW SCENARIO Maturity Type : Hard Maturity Maturity Date : 2025-01-31 Maturity Price : 25.00 Evaluated at bid price : 21.69 Bid-YTW : 6.86 % |
| GWO.PR.Q | Deemed-Retractible | 1.07 % | YTW SCENARIO Maturity Type : Hard Maturity Maturity Date : 2025-01-31 Maturity Price : 25.00 Evaluated at bid price : 24.51 Bid-YTW : 5.55 % |
| GWO.PR.R | Deemed-Retractible | 1.18 % | YTW SCENARIO Maturity Type : Hard Maturity Maturity Date : 2025-01-31 Maturity Price : 25.00 Evaluated at bid price : 23.17 Bid-YTW : 6.10 % |
| HSE.PR.A | FixedReset | 1.21 % | YTW SCENARIO Maturity Type : Limit Maturity Maturity Date : 2047-07-19 Maturity Price : 16.70 Evaluated at bid price : 16.70 Bid-YTW : 4.61 % |
| TRP.PR.A | FixedReset | 1.23 % | YTW SCENARIO Maturity Type : Limit Maturity Maturity Date : 2047-07-19 Maturity Price : 20.50 Evaluated at bid price : 20.50 Bid-YTW : 4.18 % |
| PWF.PR.S | Perpetual-Discount | 1.37 % | YTW SCENARIO Maturity Type : Limit Maturity Maturity Date : 2047-07-19 Maturity Price : 22.57 Evaluated at bid price : 22.91 Bid-YTW : 5.24 % |
| TRP.PR.H | FloatingReset | 1.39 % | YTW SCENARIO Maturity Type : Limit Maturity Maturity Date : 2047-07-19 Maturity Price : 15.27 Evaluated at bid price : 15.27 Bid-YTW : 3.23 % |
| TRP.PR.B | FixedReset | 1.54 % | YTW SCENARIO Maturity Type : Limit Maturity Maturity Date : 2047-07-19 Maturity Price : 15.85 Evaluated at bid price : 15.85 Bid-YTW : 4.27 % |
| MFC.PR.M | FixedReset | 2.06 % | YTW SCENARIO Maturity Type : Hard Maturity Maturity Date : 2025-01-31 Maturity Price : 25.00 Evaluated at bid price : 22.33 Bid-YTW : 5.72 % |
| BAM.PR.K | Floater | 3.22 % | YTW SCENARIO Maturity Type : Limit Maturity Maturity Date : 2047-07-19 Maturity Price : 14.76 Evaluated at bid price : 14.76 Bid-YTW : 3.52 % |
| BAM.PR.B | Floater | 3.23 % | YTW SCENARIO Maturity Type : Limit Maturity Maturity Date : 2047-07-19 Maturity Price : 14.68 Evaluated at bid price : 14.68 Bid-YTW : 3.54 % |
| BAM.PR.C | Floater | 3.44 % | YTW SCENARIO Maturity Type : Limit Maturity Maturity Date : 2047-07-19 Maturity Price : 14.75 Evaluated at bid price : 14.75 Bid-YTW : 3.52 % |
| Volume Highlights | |||
| Issue | Index | Shares Traded |
Notes |
| CM.PR.R | FixedReset | 553,775 | YTW SCENARIO Maturity Type : Call Maturity Date : 2022-07-31 Maturity Price : 25.00 Evaluated at bid price : 25.09 Bid-YTW : 4.48 % |
| RY.PR.Q | FixedReset | 134,714 | YTW SCENARIO Maturity Type : Call Maturity Date : 2021-05-24 Maturity Price : 25.00 Evaluated at bid price : 26.97 Bid-YTW : 3.54 % |
| BNS.PR.E | FixedReset | 122,300 | YTW SCENARIO Maturity Type : Call Maturity Date : 2021-04-25 Maturity Price : 25.00 Evaluated at bid price : 26.67 Bid-YTW : 3.57 % |
| TRP.PR.J | FixedReset | 121,500 | YTW SCENARIO Maturity Type : Call Maturity Date : 2021-05-31 Maturity Price : 25.00 Evaluated at bid price : 26.90 Bid-YTW : 3.60 % |
| TD.PF.G | FixedReset | 90,900 | YTW SCENARIO Maturity Type : Call Maturity Date : 2021-04-30 Maturity Price : 25.00 Evaluated at bid price : 26.68 Bid-YTW : 3.55 % |
| TD.PF.I | FixedReset | 86,431 | YTW SCENARIO Maturity Type : Limit Maturity Maturity Date : 2047-07-19 Maturity Price : 23.17 Evaluated at bid price : 25.08 Bid-YTW : 4.39 % |
| There were 25 other index-included issues trading in excess of 10,000 shares. | |||
| Wide Spread Highlights | ||
| Issue | Index | Quote Data and Yield Notes |
| CU.PR.E | Perpetual-Discount | Quote: 23.75 – 24.20 Spot Rate : 0.4500 Average : 0.2911 YTW SCENARIO |
| PWF.PR.T | FixedReset | Quote: 23.12 – 23.50 Spot Rate : 0.3800 Average : 0.2698 YTW SCENARIO |
| TD.PF.D | FixedReset | Quote: 23.70 – 24.00 Spot Rate : 0.3000 Average : 0.1987 YTW SCENARIO |
| MFC.PR.N | FixedReset | Quote: 22.01 – 22.35 Spot Rate : 0.3400 Average : 0.2438 YTW SCENARIO |
| BAM.PR.M | Perpetual-Discount | Quote: 21.63 – 21.87 Spot Rate : 0.2400 Average : 0.1510 YTW SCENARIO |
| BIP.PR.A | FixedReset | Quote: 23.78 – 24.00 Spot Rate : 0.2200 Average : 0.1502 YTW SCENARIO |