PrefBlog

Today the US got a wake-up call:

Standard & Poor’s put a “negative” outlook on the U.S. AAA credit rating, citing rising budget deficits and debt.

“We believe there is a material risk that U.S. policy makers might not reach an agreement on how to address medium-and long-term budgetary challenges by 2013,” New York-based S&P said in a report today. “If an agreement is not reached and meaningful implementation does not begin by then, this would in our view render the U.S. fiscal profile meaningfully weaker than that of peer ‘AAA’ sovereigns.”

The markets reacted immediately:

U.S. stocks sank the most in a month as Standard & Poor’s Ratings Service cut the nation’s long-term credit outlook to negative. Ten-year Treasuries erased earlier gains and the cost to protect corporate bonds from default climbed to the highest level this month.

The S&P 500 declined 1.5 percent to 1,300.24 at 9:58 a.m. in New York, its biggest drop since March 16. The yield on the 10-year Treasury note climbed three basis points to 3.44 percent after declining four basis points earlier. The dollar was up 1.1 percent at $1.4275 per euro. Gold for June delivery advanced 0.5 percent to $1,493.50 an ounce.

This is a prime example of why I want investible entities to have credit ratings. Not because I can’t come to any conclusions myself, not because I worship the credit rating agencies, but because when they alter their opinions it serves as a focal point for discussion.

However, the announcement did not prevent do-goodism:

The U.S. offered a $2.1 billion loan guarantee to help Solar Trust of America LLC build the world’s largest solar-energy generating station in Southern California.

The project will create 484 megawatts of electricity to be transported over an eight-mile transmission line near Blythe, California, about 230 miles (370 kilometers) east of Los Angeles, according to an Energy Department statement.

“This is the largest amount offered to a solar project through the loans program office,” Energy Secretary Steven Chu said today on a conference call.

Oh well … mere loan guarantees never cost any money, right? I couldn’t find any discussion of the relative cost of this plan – which is suggestive in itself – but a 2008 US Government Report put Natural Gas at $61.77 / Mwh, vs. $100.32 for Solar Thermal.

Remember CalPERS? The humongous pension fund that can’t be bothered to do its own credit analysis? Here’s how they assess investment managers:

In late May 2004, Alfred Villalobos hosted a meeting at his home in Nevada, a few miles from Lake Tahoe and the California border. Villalobos, a former member of the CalPERS Board of Administration and a former Deputy Mayor of the City of Los Angeles, was joined by David Snow, the Chairman and Chief Executive Officer of Medco Health Solutions, one of the nation’s largest pharmacy benefit management (“PBM”) companies, and Fred Buenrostro, who was the Chief Executive Officer of CalPERS – a public official – at the time. We will not discuss the reported details of the conversations between Buenrostro, Villalobos and Snow regarding the CalPERS PBM contract Medco had lost years earlier, in deference to law enforcement authority requests and as we understand that the independent directors of the Medco board are also reviewing these events.

Soon after the May 2004 meeting at the Villalobos home, Medco agreed to retain Villalobos as a consultant and pay him $4 million. Medco agreed to pay Villalobos and his firm even though, as we understand it, Villalobos had no prior PBM counseling experience, and even though Medco had already hired another consulting firm to assist it in securing the CalPERS contract.

Snow would return to the Villalobos home for another meeting in September 2004, when we understand that Buenrostro and Villalobos were joined by three long-time colleagues: Charles “Chuck” Valdes, Kurato Shimada and Robert “Bob” Carlson. The five men – Villalobos, Buenrostro, Valdes, Shimada and Carlson – had served together on the CalPERS Board ten years earlier, when Buenrostro served as a representative for other California state officials. Valdes, Shimada and Carlson were all public officials and still members of the Board in 2004, and were reportedly introduced to Snow as such at the meeting. There were apparently other meetings over the next year between Snow and some or all of the five men, including what appear to have been private meetings at a Sacramento hotel and another at Medco’s Las Vegas pharmacy facility. That November, Buenrostro would also allow Villalobos to host Buenrostro’s wedding at the Villalobos home and reportedly pay for the new couple’s related expenses.

On October 18, 2005, the nine-member Health Benefits Committee of the CalPERS Board convened at a regularly scheduled meeting to interview finalists and to recommend to the full CalPERS Board the award of the PBM contract. Buenrostro attended as CalPERS CEO and was joined by Board members Valdes, Carlson and Shimada. Snow spoke on behalf of Medco, whom the CalPERS staff had already ranked as first choice among the candidates. Although it is unclear how it happened, Medco apparently obtained an internal copy of the Health Benefits Committee’s background documents. Health Benefits Committee members Valdes and Carlson voted in favor of awarding the contract to Medco, with Valdes making the motion to recommend the award of the PBM contract to Medco. That motion passed and Medco was awarded the contract. (Years later, as has been publicly reported, Valdes would invoke his Fifth Amendment right against self-incrimination when government attorneys questioned him about the PBM contract.) Notably, Board member Shimada also attended the Committee meeting and asked a number of questions of the candidates, even though he was not a Health Benefits Committee member. While there, Shimada asked that his questions be reflected in the official record, along with unspecified others that he said he had planned to ask but that had already been posed by the members of the Health Benefits Committee.

Medco apparently had a check cut for hand-delivery that same day – a $1 million payment to Villalobos, the final installment of the initial $4 million agreement. Thereafter, Medco would pay Villalobos a $20,000 monthly retainer, reportedly until sometime in 2009 when Villalobos’ placement agent activities relating to investment managers came under public scrutiny.

They’re not alone. This is an ongoing scandal in the US.

Some shops aren’t just buying gold – they’re buying physical gold:

Dallas hedge-fund manager J. Kyle Bass helped advise the University of Texas Investment Management Co. on taking delivery of 6,643 gold bars, worth $987 million on April 15, now stored in a bank warehouse in New York.

Bass, who made $500 million with 2006 bets on a U.S. subprime-mortgage market collapse, said managers of the endowment, known as UTIMCO, sought board approval to convert its gold investments into bullion this year. A board member, Bass, 41, said he was asked to help with that process.
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The Texas fund’s $19.9 billion in assets ranked it behind only Harvard University’s endowment as of August, according to the National Association of College and University Business Officers. Last year, UTIMCO added about $500 million in gold investments to an existing stake, said Bruce Zimmerman, the endowment’s chief executive officer. The fund’s managers sought to take delivery of bullion to protect against demand for the metal overwhelming supply, according to Bass.

Open interest in gold futures and options traded on the Comex typically exceeds supplies held in its warehouses. If the holders of just 5 percent of those contracts opted to take delivery of the metal, there wouldn’t be enough to cover the demand, Bass said.

The Finns are kicking about paying for Greece:

Finland’s euro-skeptic bloc is poised to form a government with the pro-Europe National Coalition led by Finance Minister Jyrki Katainen after voters used yesterday’s election to protest against funding bailouts.

The True Finns, whose leader Timo Soini says taxpayers shouldn’t have helped rescue Greece or Ireland, jumped almost 15 points to 19 percent, the Justice Ministry said. Katainen’s National Coalition won 20.4 percent to become Finland’s biggest party for the first time. Prime Minister Mari Kiviniemi’s Center Party got 15.8 percent and the Social Democrats, which also opposed bailouts for Greece and Ireland, won 19.1 percent. Kiviniemi will lead her party in opposition after its “huge defeat,” she told broadcaster YLE.

“They could not leave the True Finns out of government after this landslide,” said Tuomo Martikainen, professor emeritus in political science at the University of Helsinki, by phone. “It would be making a mockery of democracy.”

Perhaps Mr. Martikainen should consult our own What-Debt? about the construction of coalitions in a democracy!

There were very disparate returns in the Canadian preferred share market today, with PerpetualDiscounts gaining 37bp, FixedResets losing 4bp and DeemedRetractibles getting whacked for 26bp. Volatility was fair, with five entries in the Performance Highlights table. Volume was on the light side.

The Bank of England has released a working paper by Iryna Kaminska, Andrew Meldrum and James Smith titled A global model of international yield curves: no-arbitrage term structure approach:

This paper extends a popular no-arbitrage affine term structure model to model jointly bond markets and exchange rates across the United Kingdom, United States and euro area. Using a monthly data set of forward rates from 1992, we first demonstrate that two global factors account for a significant proportion in the variation of bond yields across countries. We also show that, in order to explain country-specific movements in yield curves, local factors are required. Although we implement a very general factor structure, we find that our global factors are related to global inflation and global economic activity, while local factors are closely linked to monetary policy rates. In this respect our results are similar to previous work. But an important advantage of our joint international model is that we are able to decompose interest rates into risk-free rates and risk premia. Additionally, we are able to study the implications for exchange rates. We show that while differences in risk-free rates matter, to a large extent changes in the exchange rate are determined by time-varying exchange rate risk premia.

The Germans are laying the groundwork for a Greek default:

A Greek debt restructuring “would not be a disaster” and Germany would back a voluntary effort to ease the struggling euro member’s payment terms, Deputy Foreign Minister Werner Hoyer said. The euro and Greek bonds fell after his comments.

The remarks by Hoyer were the most explicit by a European official showing a 110 billion-euro ($159 billion) bailout for Greece may fail to prevent the first default by a euro country. His message contrasts with Greek Prime Minister George Papandreou’s pledge to avoid a restructuring.
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Bonds of Europe’s most indebted nations fell for a third day after a Moody’s Investors Service downgrade of Ireland to the lowest investment grade and Hoyer’s comments. The yield on 10-year Greek debt jumped 55 basis points to 13.83 percent, widening the spread over German bunds to a record 1,045 basis points. The euro weakened 0.2 percent to $1.4454 at 12:10 p.m. in New York.

S&P has revised the trend on Sun Life Financial to “Stable” from “Negative”:

Sun Life’s 2010 after-tax operating earnings of C$1.58 billion–including C$301 million from the recovering U.S. insurance operations–met our expectations. In addition, earnings diversity and lower restrictions on dividends in Canada minimally support the continued narrowed notching between the holding-company and operating-company ratings. Consequently, we have revised the outlook on the holding company to stable from negative; the outlook on SLF’s North American subsidiaries remains stable. In addition, we have affirmed the ‘A’ rating on Sun Life Financial Inc. and the ‘AA-‘ ratings on its North American subsidiaries. On April 15, 2011, Standard&Poor’s Ratings Services revised its outlook on Sun Life Financial Inc. (SLF) to stable from negative.

Another depressing day for the Canadian preferred share market, with PerpetualDiscounts off 7bp, FixedResets down 1bp and DeemedRetractibles losing 11bp. Volatility continued to be minimal, with only one entry in the Performance Highlights table. Volume picked up, but not to any notable level.

Debt holders’ rights are being trampled in Ireland:

Ireland’s Finance Minister Michael Noonan said Allied Irish Bank Plc will seek to buy back subordinated debt in coming weeks and threatened to impose losses on holders that refuse the offer.

The government will “take whatever other action is necessary to ensure appropriate burden-sharing” with the lender’s remaining junior bondholders, Noonan said in a statement today. He didn’t give any terms of the buyback.

“They’re clearly trying to spook the market with a view to push bond prices lower so that they can get a decent take-up for any voluntary offer,” said Jim Ryan, director at Dublin-based Glas Securities. “The statement is suitably vague.”
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Work is also underway to ensure “appropriate burden sharing” for subordinated bondholders of Bank of Ireland Plc and Irish Life & Permanent Plc, with “a further statement on this in the coming weeks,” Noonan said.

He reiterated that the government doesn’t plan to enforce losses on senior bondholders of Allied Irish, Bank of Ireland, EBS Building Society and Irish Life, the country’s so-called viable lenders.

Some other European bonds declined as well:

Greek and Portuguese bonds led a slump in the securities of Europe’s most indebted nations amid mounting investor concern that some may be forced to restructure their debts.

The declines pushed the yields on Greek and Portuguese 10- year bonds to euro-era records after German Finance Minister Wolfgang Schaeuble said that Greece may need to renegotiate its debt burden if an audit in June questions its ability to pay creditors. Standard & Poor’s head of European sovereign ratings, Moritz Kraemer, said the risk of such an event has risen. Greek two-year yields climbed the most since January 27.
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The yield on 10-year Greek debt jumped 36 basis points to 13.27 percent as of 4:38 p.m. in London, the highest since at least 1998 when Bloomberg began collecting the data. The two- year note yield surged as much as 103 basis points to 17.96 percent.

Portuguese 10-year yields added 14 basis points to 8.88 percent, after reaching 8.89 percent, the most since at least 1997. Two-year note yields were 26 basis points higher at 9.31 percent.

Schaeuble told Germany’s Die Welt newspaper that Greece may have to restructure because creditors can’t be forced to take losses until Europe’s permanent rescue system for the euro starts up in mid-2013.

The US Senate has been astonished to learn that financial markets are not a cooperative game.

The IMF has released the April 2011 Global Financial Stability Report.

A British court has ruled “kettling” illegal:

The kettling of G20 protesters in London was illegal, a British High Court has ruled in a case with sweeping implications in Toronto.

The decision Thursday by the Queen’s Bench justices said police were working “in good faith” but still overreacted when they corralled 4,500 people inside a Climate Camp in London for three hours on April 1, 2009.

“The police may only take such preventive action as a last resort catering for situations about to descend into violence,” the Queen’s Bench justices.

“The test of necessity is met only in truly extreme and exceptional cases.”

For the life of me, I don’t understand why this method of detention without cause wasn’t understood to be illegal from the beginning, but better late than never.

The Canadian preferred share market was mostly down today, with PerpetualDiscounts losing 18bp, FixedResets gaining 4bp and DeemedRetractibles off 14bp. Volatility picked up a little with four entries in the Performance Highlights table. Volume was anemic.

The Bank of Canada has released the April 2011 Monetary Policy Report:

The Bank expects core inflation to rise gradually to 2 per cent as excess supply in the economy is slowly absorbed and inflation expectations remain well anchored (Table 3 and Chart 32). As in January, this increase reflects the unwinding of the transitory influences currently dampening core inflation, including the effects of HST-related tax refunds passed on by businesses. The combination of ongoing modest growth in labour compensation and higher productivity is expected to continue to dampen inflationary pressures, with the higher assumed value of the Canadian dollar providing further restraint.

Although core inflation has been slightly weaker than expected in recent months, it is projected to converge to 2 per cent somewhat more quickly than in the January Report. This reflects the slightly smaller degree of slack in the Canadian economy over the projection horizon, as well as the sharp increases in the prices of agricultural commodities observed in recent months, which are expected to lead to a somewhat larger increase in food prices than had been expected.

DBRS has published its Quarterly SplitShare Market Report:

DBRS has today published its quarterly surveillance report covering the Canadian split share market for Q1 2011. The report provides insight into recent market activity and summarizes the performance of split share funds rated by DBRS. Three main areas are covered in the report: equity performance, existing fund activity and new fund market activity. The appendix provides details on all of the preferred shares and securities rated by DBRS, including current ratings and recent downside protection levels.

A copy of this commentary is available by contacting us at info@dbrs.com

The TMX / LSE deal looks more likely:

The architects of a deal between TMX Group Inc. (X-T39.68-0.16-0.40%) and the London Stock Exchange Group PLC have cleared a major hurdle by winning the backing of an all-party committee of MPPs at the Ontario legislature.

The committee does not have the power to approve or reject the contentious, multi-billion-dollar transaction. However, the committee is throwing its support behind the deal, according to Queen’s Park sources close to the situation, adding a powerful voice in a proposed merger that has been intensely debated in the business community.

Alpha ATS has had its IntraSpread dark orders approved:

Alpha’s IntraSpread will create a third market place, catering only to ‘dark orders’ that hide trade prices and quantities. So if RBC has a big order and doesn’t want anyone to know how much it’s trying to sell, it can enter a dark order. At the moment TMX allows sellers to do the same, but they have to be executed in the ‘lit’ or public market place.

In Alpha’s case, the buying order is completely dark as well. That scares some people. But what got it past the OSC this go around, is that only retail buyers can scoop these dark orders up. Alpha argues that means small orders will finally take priority over the big institutional buyers that have to stay in the other two market places.

Some emerging markets want more control over the World Bank & IMF:

The management structure of the institutions needs to reflect changes in the world economy, the draft statement by Brazil, Russia, India, China and South Africa says, according to the diplomats, who asked not to be identified because the final text isn’t public. The section calls for a bigger role for developing countries in global institutions, a reference to concerns with how leaders are chosen at the World Bank and IMF.

For the life of me, I don’t understand why this needs to be discussed. You want more influence? Pony up more money. You’ve ponied up the money but still don’t have influence? Open your own store. Why is this complicated?

Is anybody else having trouble on the internet lately? When I open the Globe & Bloomberg pages linked above, for instance, my system basically freezes … I think my (IE) browser is executing about 40-bazillion JavaScript applets. How can I test this? I don’t look at dealbreaker.com any more, because by the time a page finally loads, I’ve read the story in the next day’s newspaper.

According to Load Impact, the G&M page has 59 resources and takes 15.06 seconds to load. PrefBlog takes 5.94 seconds with 86 resources (mostly the little green boxes on the right-hand panel). I don’t believe the results, though, because I just checked again and AFTER FIVE MINUTES (literally!) the G&M page is still chewing up all the capacity of one of my dual-processors and is still indicating it’s getting resources.

Update:: I’ve turned off “Compatibility View” for Bloomberg & G&M; things are much better now.

It was a quiet day with a downish bent in the Canadian preferred share market, with PerpetualDiscounts down 7bp, FixedResets off 3bp and DeemedRetractibles gaining 2bp. Practically no volatility, only one entry in the Performance Highlights table. Volume was average.

PerpetualDiscounts now yield 5.60%, equivalent to 7.28% interest at the standard equivalency factor of 1.3x. Long Corporates yield about 5.6% (maybe a little more) so the pre-tax interest equivalent spread (also called the Seniority Spread) is now about 170bp, a reversal of the sharp tightening reported on April 6.

The US regulatory agencies are seeking comment on Swap Margin and Capital Requirements:

The amount of margin that would be required under the proposed rule would vary based on the relative risk of the counterparty and of the swap or security-based swap. A swap entity would not be required to collect margin from a commercial end user as long as its margin exposure is below an appropriate credit exposure limit established by the swap entity. A swap entity would also not be required to collect margin from low-risk financial end users as long as its margin exposure does not exceed a specific threshold. The proposed margin requirements would apply to new, non-cleared swaps or security-based swaps entered into after the proposed rule’s effective date. The proposal also seeks comment on several alternative approaches to establishing margin requirements.

The BoC did not adjust the overnight rate:

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.
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Overall, the Bank projects that the economy will expand by 2.9 per cent in 2011 and 2.6 per cent in 2012. Growth in 2013 is expected to equal that of potential output, at 2.1 per cent. The Bank expects that the economy will return to capacity in the middle of 2012, two quarters earlier than had been projected in the January MPR.

While underlying inflation is subdued, a number of temporary factors will boost total CPI inflation to around 3 per cent in the second quarter of 2011 before total CPI inflation converges to the 2 per cent target by the middle of 2012. This short-term volatility reflects the impact of recent sharp increases in energy prices and the ongoing boost from changes in provincial indirect taxes. Core inflation has fallen further in recent months, in part due to temporary factors. It is expected to rise gradually to 2 per cent by the middle of 2012 as excess supply in the economy is slowly absorbed, labour compensation growth stays modest, productivity recovers and inflation expectations remain well-anchored.

The persistent strength of the Canadian dollar could create even greater headwinds for the Canadian economy, putting additional downward pressure on inflation through weaker-than-expected net exports and larger declines in import prices.

It was a mixed day for the Canadian preferred share market, with PerpetualDiscounts losing 9bp, FixedResets gaining 11bp and DeemedRetractibles being smacked for a lossof 28bp. Still not too much volatility, with only three entries in the Performance Highlights table. Good volume featured total domination of the highlights table by FixedResets.

Asset Management via mass-customization is attracting attention in the States:

The next thundering herd on Wall Street may be the ranks of low-cost portfolio managers such as MarketRiders and Folio Investing, which cater to self-directed investors like Cohen. Sites that sell prepackaged portfolios have attracted more than $3 billion in assets over the last three years as more investors leave their full-service brokers.

“Individual investors have started to realize they can actually do some things as self-directed investors reasonably well, if they’re given a platform that allows them to invest more intelligently,” said Steven Wallman, chief executive officer of Folio Investing, where investors can purchase predesigned and customized index portfolios for $29 a month.

Some of the firms, such as Flat Fee Portfolios, are too new to have any performance history. MarketRiders can’t track the actual performance of its customers’ accounts, since it doesn’t have custody of their assets. Covestor and Wealthfront Inc., which give users access to third-party investors, publish performance history for the managers they work with on their sites.

Of course, the big problem with mass-customization is that the decision makers won’t play golf with you:

“Who are the people that are advising me when I’m going to a faceless website?” said Chris Walters, head of wealth management for Pasadena, California-based CitizensTrust. He said investors should be concerned by the lack of performance history available from some of the firms.

But we’ll cut Mr. Walters some slack, as a reward for mentioning the word “performance”. Of course, I don’t see a prominent link to “Performance” on his website.

So much fuss over the leaders’ election debate! It’s a disgrace – the boys have a place to debate each other all the time if they want to … it’s called parliament. But I guess they’re too busy playing thumpy-thumpy on their wickle desks.

Another unpleasant day for the Canadian preferred share market, with PerpetualDiscounts down 25bp, FixedResets losing 6bp and DeemedRetractibles hit for 14bp. Volatility remained low, with only three entries on the performance highlights table. Volume was a little below average.