PrefBlog

We are most used to thinking of financial repression as being applied by governments through a low-interest-rate policy, but as noted on June 2, 2015, for instance, another way is to require regulated entities to hold government debt. This sometimes has spectacular effects:

A trio of Canadian banks is facing the fallout from a debt restructuring in Barbados that will slash the value of hundreds of millions of dollars worth of government paper they collectively own.

Canadian Imperial Bank of Commerce, Royal Bank of Canada and Bank of Nova Scotia are the largest lenders in the Caribbean, and each has direct exposure to Barbados. The country is home to one of the region’s largest economies, but the government’s finances have deteriorated over time.
…
To help turn the economy around, the International Monetary Fund is working with Barbados to formulate a financial rescue plan. As part of this effort, the government proposed a debt restructuring in September that would amend the terms of its existing domestic debt. On Sunday, Ms. Mottley announced the restructuring plan will proceed.

Through the restructuring, Canadian banks will face losses on their debt holdings because Barbados has forced them to hold a greater percentage of their reserves in government debt, to help fund its deficits. These securities must now be held for much longer, and their coupons will also be cut, so the lenders will receive much lower returns on their money.

The total impact on Canadian lenders is still being calculated, but the three affected banks hold a substantial amount of Barbados debt. As of January, 20 per cent of their Barbadian reserves had to be held in government debt.

PerpetualDiscounts now yield 5.69%, equivalent to 7.40% interest at the standard equivalency factor of 1.3x. Long corporates now yield a little over 4.15%, so the pre-tax interest-equivalent spread is now about 325bp, a significant widening from the 315bp reported October 10.

This entry was posted on Wednesday, October 17th, 2018 at 6:05 pm and is filed under Market Action. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.