Interesting External Papers

Origin of US Treasury Bill Market

OK, this is way off topic. I admit that freely. But I really enjoyed the paper by Kenneth D. Garbade recently published by the New York Fed: Why the US Treasury Began Auctioning Treasury Bills in 1929:

The U.S. Treasury began auctioning Treasury bills in 1929 to correct several flaws in the post-war structure of Treasury financing operations. The flaws included underpricing securities sold in fixed-price subscription offerings, infrequent financings that necessitated borrowing in advance of need, and payment with deposit credits that gave banks an added incentive to oversubscribe to new issues and contributed to the appearance of weak post-offering secondary markets for new issues.

All three flaws could have been addressed without introducing a new class of securities. For example, the Treasury could have begun auctioning certificates of indebtedness (instead of bills), it could have begun offering certificates between quarterly tax dates, and it could have begun selling certificates for immediately available funds. However, by introducing a new class of securities, the Treasury was able to address the defects in the existing primary market structure even as it continued to maintain that structure. If auction sales, tactical issuance, and settlement in immediately available funds proved successful, the new procedure could be expanded to notes and bonds. If subsequent experience revealed an unanticipated flaw in the new procedure, however, the Treasury was free to return to exclusive reliance on regularly scheduled fixed-price subscription offerings and payment by credit to War Loan accounts. The introduction of Treasury bills in 1929 gave the Treasury an exit strategy—as well as a way forward—in the development of the primary market for Treasury securities.

I also found the following to be amusing:

Bidding on a price basis insulated the Treasury from specifying how bids in terms of interest rates would be converted to prices. Market participants used a variety of conventions. For example, the price of a bill with n days to maturity quoted at a discount rate of D is P = 100 – (n/360)×D. The price of the same bill quoted at a money market yield of R is P = 100/[1+.01×(n/360)×R]. In the case of a ninety-day bill quoted at 4.50 percent, P = 98.875 if the quoted rate is a discount rate, that is, if D = 4.50 percent, and P = 98.888 if the quoted rate is a money market yield, that is, if R = 4.50 percent.

Some things never change!

Regulatory Capital

NA Capitalization: 3Q08

NA has released its Third Quarter 2008 Report and Supplementary Package, so it’s time to recalculate how much room they have to issue new preferred shares – assuming they want to!

Step One is to analyze their Tier 1 Capital, reproducing the prior format:

NA Capital Structure
October, 2007
& July, 2008
  4Q07 3Q08
Total Tier 1 Capital 4,442 5,534
Common Shareholders’ Equity 95.0% 84.3%
Preferred Shares 9.0% 14.0%
Innovative Tier 1 Capital Instruments 11.4% 15.0%
Non-Controlling Interests in Subsidiaries 0.4% 0.5%
Goodwill -15.8% -13.0%
Miscellaneous NA -0.7%
‘Miscellaneous’ includes ‘short positions of own shares’ and ‘securitization related deductions’

Next, the issuance capacity (from Part 3 of the introductory series):

NA
Tier 1 Issuance Capacity
October 2007
& July 2008
  4Q07 3Q08
Equity Capital (A) 3,534 3,930
Non-Equity Tier 1 Limit (B=A/3), 4Q07
(B=0.428*A), 2Q08		 1,178 1,682
Innovative Tier 1 Capital (C) 508 830
Preferred Limit (D=B-C) 670 852
Preferred Actual (E) 400 774
New Issuance Capacity (F=D-E) 270 78
Items A, C & E are taken from the table
“Risk Adjusted Capital Ratiosl”
of the supplementary information;
Note that Item A includes everything except preferred shares and innovative capital instruments

Item B is as per OSFI Guidelines; the limit was recently increased.
Items D & F are my calculations

and the all important Risk-Weighted Asset Ratios!

NA
Risk-Weighted Asset Ratios
October 2007
& July 2008
  Note 2007 3Q08
Equity Capital A 3,534 3,930
Risk-Weighted Assets B 49,336 55,557
Equity/RWA C=A/B 7.16% 7.07%
Tier 1 Ratio D 9.0% 10.0%
Capital Ratio E 12.4% 13.9%
Assets to Capital Multiple F 18.6x 15.7x
A is taken from the table “Issuance Capacity”, above
B, D & E are taken from RY’s Supplementary Report
C is my calculation
F is taken from the OSFI site for 4Q07. The 2Q08 figure is approximated by subtracting goodwill of 707 from total assets of 123,608 to obtain adjusted assets of 122,901 and dividing by 7,353 total capital. The result of 16.7x was in agreement with the figure ultimately reported by OSFI. The 3Q08 figure subtracts goodwill of 722 from total assets of 121,931 [Page 1 of Sup] to obtain adjusted assets of 121,209 and dividing by 7,730 total capital.

National Bank does not disclose its Assets-to-Capital Multiple. Their Report to Shareholders simply states (Note 4):

In addition to regulatory capital ratios, banks are expected to meet an assets-to-capital multiple test. The assets-to-capital multiple is calculated by dividing a bank’s total assets, including specified off-balance sheet items, by its total capital. Under this test, total assets should not be greater than 23 times the total capital. The Bank met the assets-to-capital multiple test in the third quarter of 2008.

Well … at least they’re delevering! It is also interesting to note that they have – basically – maxed out on their expanded allowance of non-equity Tier 1 Capital.

Regulatory Capital

TD Capitalization: 3Q08

TD has released its Third Quarter 2008 Report and Supplementary Package, so it’s time to recalculate how much room they have to issue new preferred shares – assuming they want to!

Step One is to analyze their Tier 1 Capital, reproducing the prior format:

TD Capital Structure
October, 2007
& July, 2008
  4Q07 3Q08
Total Tier 1 Capital 15,645 17,491
Common Shareholders’ Equity 131.5% 164.3%
Preferred Shares 6.2% 12.4%
Innovative Tier 1 Capital Instruments 11.1% 10.0%
Non-Controlling Interests in Subsidiaries 0.1% 0.1%
Goodwill -49.0% -84.4%
Miscellaneous NA -2.5%
‘Common Shareholders Equity’ includes ‘Common Shares’, ‘Contributed Surplus’, ‘Retained Earnings’ and ‘FX net of Hedging’
‘Miscellaneous’ includes ‘Securitization Allowance’, ‘ALLL/EL shortfall’ and ‘Other’.

Next, the issuance capacity (from Part 3 of the introductory series):

TD
Tier 1 Issuance Capacity
October 2007
& July 2008
  4Q07 3Q08
Equity Capital (A) 12,931 13,563
Non-Equity Tier 1 Limit (B=A/3), 4Q07
(B=0.428*A), 2Q08		 4,310 5,805
Innovative Tier 1 Capital (C) 1,740 1,753
Preferred Limit (D=B-C) 2,570 4,052
Preferred Actual (E) 974 2,175
New Issuance Capacity (F=D-E) 1,346 1,877
Items A, C & E are taken from the table
“Regulatory Capital”
of the supplementary information;
Note that Item A includes everything except preferred shares and innovative instruments

Item B is as per OSFI Guidelines; the limit was recently increased.
Items D & F are my calculations

and the all important Risk-Weighted Asset Ratios!

TD
Risk-Weighted Asset Ratios
October 2007
& July 2008
  Note 2007 3Q08
Equity Capital A 12,931 13,563
Risk-Weighted Assets B 152,519 184,674
Equity/RWA C=A/B 8.48% 7.34%
Tier 1 Ratio D 10.3% 9.5%
Capital Ratio E 13.0% 13.4%
Assets to Capital Multiple F 19.7x 17.9x
A is taken from the table “Issuance Capacity”, above
B, D & E are taken from TD’s Supplementary Report
C is my calculation.
F is from Note 9 of the quarterly report

The reported Assets-to-capital multiple reflects that goodwill is deducted from total capital (the denominator) AND FROM TOTAL ASSETS (the numerator); given TD’s huge goodwill, this makes rather a difference! It is noteworthy that they have delevered so much in the past year.

The average credit risk-weight of the assets has increased to 26.6% in 3Q08 from 24.6% in 1Q08, largely due to Corporate lending, which during this period has increased to 26.0% from 24.8% of total exposure and to 46.2% from 40.6% of risk-weighted exposure.

Regulatory Capital

RY Capitalization: 3Q08

RY has released its Third Quarter 2008 Report and Supplementary Package, so it’s time to recalculate how much room they have to issue new preferred shares – assuming they want to!

Step One is to analyze their Tier 1 Capital, reproducing the prior format:

RY Capital Structure
October, 2007
& July, 2008
  4Q07 3Q08
Total Tier 1 Capital 23,383 24,150
Common Shareholders’ Equity 95.2% 111.6%
Preferred Shares 10.0% 10.6%
Innovative Tier 1 Capital Instruments 14.9% 15.3%
Non-Controlling Interests in Subsidiaries 0.1% 1.5%
Goodwill -20.3% -36.7%
Miscellaneous NA -2.3%
‘Miscellaneous’ includes ‘Substantial Investments’, ‘Securitization-related deductions’, ‘Expected loss in excess of allowance’ and ‘Other’

Next, the issuance capacity (from Part 3 of the introductory series):

RY
Tier 1 Issuance Capacity
October 2007
& July 2008
  4Q07 3Q08
Equity Capital (A) 17,545 17,892
Non-Equity Tier 1 Limit (B=A/3), 4Q07
(B=0.428*A), 2Q08		 5,848 7,658
Innovative Tier 1 Capital (C) 3,494 3,706
Preferred Limit (D=B-C) 2,354 3,952
Preferred Actual (E) 2,344 2,552
New Issuance Capacity (F=D-E) 10 1,400
Items A, C & E are taken from the table
“Regulatory Capital”
of the supplementary information;
Note that Item A includes everything except preferred shares and innovative capital instruments

Item B is as per OSFI Guidelines; the limit was recently increased.
Items D & F are my calculations

and the all important Risk-Weighted Asset Ratios!

RY
Risk-Weighted Asset Ratios
October 2007
& July 2008
  Note 2007 3Q08
Equity Capital A 17,545 17,892
Risk-Weighted Assets B 247,635 254,189
Equity/RWA C=A/B 7.09% 7.04%
Tier 1 Ratio D 9.4% 9.5%
Capital Ratio E 11.5% 11.7%
Assets to Capital Multiple F 19.8x 19.4x
A is taken from the table “Issuance Capacity”, above
B, D, E & F are taken from RY’s Supplementary Report
C is my calculation.

It’s good to see that RY has reduced its Assets-to-Capital multiple to within normal bounds (this has not always been the case) – even if we follow international practice and retain the EL/ALLL deductions, the ratio is 19.8x.

We see from the supplementary data that the average credit risk weight of their assets has increased from 23% in 2Q08 to 25% in 3Q08, which ties in with the minimal change in their capital ratios. This, in turn, is due to a decline in their “Trading-Related” exposure, in which “Repo-Style Transactions”, with a risk-weight of 2%, has declined to total exposure of $151-billion from $168-billion.

Miscellaneous News

Fannie Mae Preferreds: Count Towards Bank Capital?

Via Dealbreaker comes a WSJ Deal Journal post that makes the following rather odd claim:

But the fact remains that the government allowed banks to count Fannie and Freddie preferred shares toward their capital ratios, which made them appear safe.

I don’t understand this. I do see from the enormous Federal Reserve Bank Supervision Manual that:

U.S. government–sponsored agencies are agencies originally established or chartered by the federal government to serve public purposes specified by the U.S. Congress. Such agencies generally carry out functions performed directly by the central government in other countries. The obligations of government-sponsored agencies generally are not explicitly guaranteed by the full faith and credit of the U.S. government. Claims (including securities, loans, and leases) on, or guaranteed by, such agencies are assigned to the 20 percent risk category. U.S. government–sponsored agencies include, but are not limited to, the College Construction Loan Insurance Association, Farm Credit Administration, Federal Agricultural Mortgage Corporation, Federal Home Loan Bank System, Federal Home Loan Mortgage Corporation (FHLMC or Freddie Mac), Federal National Mortgage Association (FNMA or Fannie Mae), Financing Corporation (FICO), Postal Service, Resolution Funding Corporation (REFCORP), Student Loan Marketing Association (SLMA or Sallie Mae), Smithsonian Institution, and Tennessee Valley Authority (TVA).

I assume “securities” includes preferred shares, but I can’t find that in so many words. If so, then FNM prefs would be assigned a 20% risk weight rather than the normal 100% … in much the same way as AAA sub-prime paper was assigned a 20% risk-weight! See The role of ratings in structured finance: issues and implications :

Standardised risk weights for securitisation exposures: AAA to AA–, 20%; A+ to A–, 50%; BBB+ to BBB–, 100%; BB+ to BB– receive 350% for investors, but deduction for originators; B+ and below and unrated positions will have to be deducted in all cases, with the exceptions mentioned above. See Himino (2004) for a short overview of the Basel II framework.

This little example of what I suspect is a simple error would not normally be worth a post all to itself – but I think I’ve seen this claim elsewhere and find it puzzling. What on earth does the WSJ mean by saying that Fannie Mae prefs can count towards a bank’s capital? Any elucidation would be appreciated.

Update: Dealbreaker says:

Regulators require to banks to maintain a capital cushion against losses on loans. This capital requirement can be met by holding cash or cash equivalents and certain investments that were considered relatively risk-free.

… which makes no sense to me at all. I’ve asked for clarification in the comments.

Felix Salmon asks why the prefs were being held at all; the first commenter responds:

I believe that the capital requirements for GSE equity differ among the regulators. I think the risk weight is as low as 20% for GSE equity per at least one of the agencies.

… which makes perfect sense, but is not what is being said by Dealbreaker and the WSJ.

Update: OK, there’s a commentator on Dealbreaker who states:

The biggest owners of GSE pfds relative to the size of their balance sheet are smaller banks — state-chartered and thrifts. State-chartered banks and thrifts have a 100% risk weighting on GSE preferreds, while national banks have only a 20% risk weighting.

… but he doesn’t give chapter and verse.

In the “oldie but goodie” category comes a paper from the Cato Institute – The Mounting Case for Privatizing Fannie Mae and Freddie Mac … dated December 29, 1997! Anyway, any specifics in this paper with respect to bank supervision will have been long superseded, but it is claimed that:

12 C.F.R. 3-Appendix A(3)(a)(2)(vi) (Office of the Comptroller national bank regulations). Such securities are given a 20 percent risk weight, which is not as favorable as the 0 percent risk weight of U.S. government securities, but is more favorable than the 50 percent risk weight generally placed on privately issued mortgage-backed securities. The Office of Thrift Supervision’s regulation, 12 C.F.R. 567.6(a)(1)(ii)(H), has slightly different standards than the banking agencies, allowing certain “high quality mortgage-related securities” other than GSE securities to be accorded a 20 percent risk weight. 12 U.S.C. 24(7) details diversification standards for national banks.

And finally … the Holy Grail … Assessing the Banking Industry’s Exposure to an Implicit Government Guarantee of GSEs … and FDIC paper from 2004. Now I have to find something more recent that links to it!

There were no links I could find … but there is a fascinating letter from the Federal Home Loan Bank of New York.

Market Action

August 27, 2008

Yesterday, Citigroup was reported to have advised that Fannie & Freddie aren’t dead yet. Today it was Merrill’s turn:

Merrill Lynch & Co. analysts said a bailout of the mortgage-finance companies is “premature” because losses won’t cause capital to deplete for several quarters.
…
The market may be premature in expecting a rescue is imminent because the companies may not need to raise more capital to meet current requirements, the analysts said.

It’s not clear that Fannie and Freddie “need a capital injection,” [Kenneth] Bruce and [Cyrus] Lowe said in two separate reports. Still “policy makers may be forced by the controversy playing out in the market to consider various options to stabilize” the companies.
…
The two mortgage-finance companies “will likely be plagued by poor visibility into the future of credit losses and the uncertainty surrounding the possible public policy actions that could jeopardize shareholders,” the analysts wrote. “Risks of further contraction in the mortgage market are as unpalatable as a high-profile bail-out.”

Both stocks are rated “underperform” at Merrill, the reports said.

Fannie & Freddie sold some more money market paper today:

Investors have been watching the debt sales for any “tell- tale” signs that Washington-based Fannie and McLean, Virginia- based Freddie can’t fund themselves, UBS AG analysts in New York including William O’Donnell wrote in a report. Today’s spreads were wide enough to attract demand, yet narrow enough to dim speculation that the government-sponsored enterprises will be forced to turn to Treasury Secretary Henry Paulson for support.
…
Fannie sold $1 billion of three-month notes at a yield of 2.58 percent, the company said.
…
Freddie raised $1 billion of one-month debt at a yield of 2.28 percent, or 66 basis points more than Treasuries and 18 basis points less than one-month Libor, separate data shows.
…
Fannie also sold $1 billion of six-month debt today at a yield of 2.87 percent, about 93 basis points above Treasury bills

Geez, I wish that reporters would learn some of the jargon of the trade! I was all excited about the “short term notes” headline – indicating a 1-5 year term – only to find out it was money-market paper.

Assiduous Reader prefhound noted in yesterday’s comments:

You noted the other day that they needed to rollover about $120B of debt in the next 35 days. This looks to be about 7.5% of their combined debt of $1.6T, which seems an odd calendar concentration. Their recent tendency to go short term (in response to market conditions?) could make rollovers get bigger quite quickly.

Some long overdue poking around in Fannie Mae’s website uncovered their Monthly Summary Archive, which includes their Summary for July 2008. According to Table 7 of this summary, FNM has slightly under $273-billion in money market issuance outstanding and $573-billion in bonds, for a total of $846-billion. The ratio of Money-Market to Bonds outstanding has increased from 1:3.7 in July 2007 to 1:2.0 in July 2008, which is kind of interesting. It might be analytically important; it might be a cause for concern; it might not be. It is certainly something that should be understood before plunking money down on the table, however!

Anyway, if we say that one-quarter of the MM paper outstanding needs to be rolled every month (which assumes an average 4-month initial term; I have no idea how accurate this assumption might be), we arrive at required gross issuance of $68-billion monthly in MM paper simply to refinance the programme.

Bond issuance has totalled $190-billion year-to-date (compared to $194-billion for all of 2007!). If we assume that the YTD rate is representative, this comes to monthly gross issuance of $16-billion bonds.

The total comes to $84-billion to be financed monthly, which makes the figure of $120-billion in the five weeks to September 30 that I passed on in the August 25 report look at least halfway credible.

This level of dependence upon the wholesale market has been blamed for (among other things) the Northern Rock debacle; the Economist has dealt with the subject:

Start with liquidity, the obvious gap in the regulatory firewall. Liquidity risk is barely mentioned in the Basel 2 accord, largely because capital and liquidity were seen as separate (if entwined). The Basel rulemakers are due to issue an updated set of liquidity standards later this year, but devising a sensible regime is no easy task. “Liquidity risk is a kind of catastrophic risk—you either have it or you don’t,” says a senior regulator.

Authoritative references to the Northern Rock fiasco may be found in my post Earth to Regulators: Keep Out!.

Now, I don’t want anybody running out and shorting Fannie Mae because I’ve pointed out that they have an awful lot of short term financing to roll! I will simply point out that a rational investor will understand the nature and vulnerability of their funding mismatch – if any – prior to plunking money down on the table. I will stress yet again that I do not have a view on the investment merits of Fannie Mae preferreds; I’m simply pointing out the various considerations that never make it into the press due to the number of syllables in the words required to explain them.

Scared enough yet? Bloomberg reported a Moody’s press release on prime-Jumbo loans, inter alia:

The performance of mortgage pools in Jumbo transactions from 2006 and 2007 has also weakened relative to that of prior years. While the absolute level of delinquencies remains low in comparison to other RMBS segments, Jumbo delinquencies are building more quickly in recent months.

Moody’s had previously identified some recent-vintage Jumbo transactions that were at risk of downgrade based upon the performance data available at the beginning of 2008. Given the continued performance deterioration in the Jumbo sector, Moody’s is currently reviewing all Jumbo transactions that were originated in 2006 and 2007 .

Second lien pools, a much smaller proportion of RMBS issuance in comparison to first liens, have also experienced extreme poor performance. Moody’s expects 2005 vintage subprime closed-end second (CES) pools to lose 17% on average, 2006 vintage pools to lose 42% on average, and 2007 pools to lose 45% on average. However, given the wide range of deal characteristics and pool performance among transactions, Moody’s expectations for any given transactions can vary significantly.

Prime CES pools have experienced far lower losses than have subprime ones, although, like in every other RMBS sector, 2006 and 2007 vintage delinquencies and losses have been increasing. On average, Moody’s expects 2005 vintage prime CES pools to lose about 6% of their original balance, 2006 vintage pools to lose about 13%, and 2007 vintage pools to lose about 17%.

The performance of recent vintages of home equity line of credit (HELOC) pools has also weakened significantly. Moody’s projects that pool losses on 2005 vintage HELOC transactions will average about 9%, while 2006 vintage transactions will on average lose around 24% and 2007 vintage around 26%.

PerpetualDiscounts were off a bit today, with reasonable volume but a much higher than usual number of big blocks. The average YTW is 6.13%, equivalent to 8.58% interest at the standard conversion factor of 1.4x. Given that long corporates yield about 6.18%, this represents a spread of 240bp; still quite high by historical standards.

Note that these indices are experimental; the absolute and relative daily values are expected to change in the final version. In this version, index values are based at 1,000.0 on 2006-6-30
Index Mean Current Yield (at bid) Mean YTW Mean Average Trading Value Mean Mod Dur (YTW) Issues Day’s Perf. Index Value
Ratchet N/A N/A N/A N/A 0 N/A N/A
Fixed-Floater 4.59% 4.37% 57,583 16.43 7 +0.2953% 1,114.7
Floater 4.06% 4.10% 43,131 17.15 3 +0.0031% 909.7
Op. Retract 4.96% 3.85% 111,064 2.61 17 +0.0625% 1,054.8
Split-Share 5.36% 5.92% 54,780 4.42 14 +0.0097% 1,040.4
Interest Bearing 6.25% 6.62% 45,625 5.26 2 +0.7662% 1,129.2
Perpetual-Premium 6.14% 5.92% 64,885 2.22 1 +0.2362% 995.9
Perpetual-Discount 6.07% 6.13% 191,823 13.71 70 -0.1534% 877.1
Major Price Changes
Issue Index Change Notes
MFC.PR.C PerpetualDiscount -3.0211% Now with a pre-tax bid-YTW of 5.86% based on a bid of 19.26 and a limitMaturity.
BAM.PR.N PerpetualDiscount -1.6471% Now with a pre-tax bid-YTW of 7.26% based on a bid of 16.72 and a limitMaturity.
BMO.PR.H PerpetualDiscount -1.1786% Now with a pre-tax bid-YTW of 6.11% based on a bid of 21.80 and a limitMaturity.
PWF.PR.J OpRet -1.0728% Now with a pre-tax bid-YTW of 4.06% based on a bid of 25.82 and a softMaturity 2013-7-30 at 25.00.
BMO.PR.K PerpetualDiscount -1.0698% Now with a pre-tax bid-YTW of 6.22% based on a bid of 21.27 and a limitMaturity.
IGM.PR.A OpRet +1.3204% Now with a pre-tax bid-YTW of 3.08% based on a bid of 26.45 and a call 2009-7-30 at 26.00.
BSD.PR.A InterestBearing +1.6771% Asset coverage of just under 1.6:1 as of August 22, according to Brookfield Funds. Now with a pre-tax bid-YTW of 6.86% based on a bid of 9.55 and a hardMaturity 2015-3-31 at 10.00. Went ex-Dividend today, but nobody noticed.
IAG.PR.A PerpetualDiscount +1.7457% Now with a pre-tax bid-YTW of 6.12% based on a bid of 18.80 and a limitMaturity.
Volume Highlights
Issue Index Volume Notes
SLF.PR.B PerpetualDiscount 234,957 Desjardins crossed 30,000 at 19.71 and 150,000 at 19.75. RBC crossed 50,000 at 19.70. Now with a pre-tax bid-YTW of 6.13% based on a bid of 19.61 and a limitMaturity.
BNS.PR.M PerpetualDiscount 218,850 CIBC crossed 109,200 at 19.31 and National Bank crossed 10,000 at 19.25. Now with a pre-tax bid-YTW of 5.94% based on a bid of 19.20 and a limitMaturity.
TD.PR.P PerpetualDiscount 187,243 National Bank crossed blocks of 100,000 and 85,000, both at 23.05. Now with a pre-tax bid-YTW of 5.76% based on a bid of 23.05 and a limitMaturity.
CM.PR.I PerpetualDiscount 126,960 Nesbitt crossed 100,000 at 18.50. Now with a pre-tax bid-YTW of 6.43% based on a bid of 18.53 and a limitMaturity.
BNS.PR.L PerpetualDiscount 123,429 National Bank crossed 100,000 at 19.25. Now with a pre-tax bid-YTW of 5.93% based on a bid of 19.23 and a limitMaturity.
RY.PR.B PerpetualDiscount 118,990 CIBC crossed 100,000 at 19.51. Now with a pre-tax bid-YTW of 6.10% based on a bid of 19.41 and a limitMaturity.

There were twenty-three other index-included $25-pv-equivalent issues trading over 10,000 shares today.

Interesting External Papers

IIAC 2Q08 Issuance Report

The IIAC has released its Equity New Issues and Trading 2Q08 Report:

Preferred share issuance continued to rise with $2.3 billion in capital raised — up 59% from Q1 and 49.2% from a year ago (Chart 4). For the second straight quarter we saw increased issuance from financial institutions in measures to beef up their balance sheets in the wake of a series of write downs in the sector.

Hat Tip: Streetwise Blog.

New Issues

New Issue: CM Fixed-Reset 5.35%+218bp

And now there are nine. One more and I’ve got to get cracking with a – thankfully, rather minor – HIMIPref™ upgrade to put them in the database.

CM has announced:

it had entered into an agreement with a group of underwriters led by CIBC World Markets Inc. for an issue of 9 million non-cumulative Rate Reset Class A Preferred Shares, Series 33 (the “Series 33 Shares”) priced at $25.00 per Series 33 Share to raise gross proceeds of $225 million.

CIBC has granted the underwriters an option, exercisable in whole or in part prior to closing, to purchase an additional 3 million Series 33 Shares at the same offering price. Should the underwriters’ option be fully exercised, the total gross proceeds of the financing will be $300 million.

The Series 33 Shares will yield 5.35% per annum, payable quarterly, as and when declared by the Board of Directors of CIBC, for an initial period ending July 31, 2014. On July 31, 2014 and on July 31 every five years thereafter, the dividend rate will reset to be equal to the then current five-year Government of Canada bond yield plus 2.18%.

Holders of the Series 33 Shares will have the right to convert their shares into non-cumulative Floating Rate Class A Preferred Shares, Series 34 (the “Series 34 Shares”), subject to certain conditions, on July 31, 2014 and on July 31 every five years thereafter. Holders of the Series 34 Shares will be entitled to receive a quarterly floating rate dividend, as and when declared by the Board of Directors of CIBC, equal to the three-month Government of Canada Treasury Bill yield plus 2.18%.

Holders of the Series 34 Shares may convert their Series 34 Shares into Series 33 Shares, subject to certain conditions, on July 31, 2019 and on July 31 every five years thereafter.

The expected closing date is September 10, 2008. The net proceeds of this offering will be used for general purposes of CIBC.

Issue: Canadian Imperial Bank of Commerce Non-Cumulative Rate Reset Class A Preferred Shares, Series 33

Size: 9-million shares (=$225-million), greenshoe for 3-million shares (=$75-million) exercisable before closing.

Initial Dividend: 5.35% p.a., paid quarterly, until the first Exchange Date

Subsequent Dividends: 5-year Canadas +218bp, reset on Exchange Dates

Exchange Date: July 31, 2014 and every five years thereafter.

Exchange Option: Exchangeable to and from Series 34, which pays 3-month bills + 218bp, on Exchange Dates, reset quarterly.

Redemption: Series 33 (5-year-rate) redeemable every Exchange Date at $25.00. Series 34 (floater) is redeemable every Exchange Date at $25.00 and at all other times at $25.50.

It is interesting that the spread to the BNS new issue announced yesterday is 35bp for the initial period and 30bp thereafter. There are currently seven CM perpetualDiscounts, trading to yield between 6.43% and 6.68% at their bids; there are six BNS perpetualDiscounts, trading to yield between 5.73% and 5.90% at their bids. So the spread for seasoned issues is about 70bp, roughly double the spread on new issues. Live and learn.

CM announced this issue immediately after their 3Q08 Earnings Release … this is getting to be a habit!

I have written an article on the analysis of Fixed-Resets.

Update, 2014-05-06: Trades as CM.PR.K

Regulatory Capital

CM Capitalization: 3Q08

CIBC (Stock symbol CM … I can never quite decide how to present it!) has released its Third Quarter 2008 Report and Supplementary Package, so it’s time to recalculate how much room they have to issue new preferred shares – assuming they want to!

Step One is to analyze their Tier 1 Capital, reproducing the prior format:

CM Capital Structure
October, 2007
& July, 2008
  4Q07 3Q08
Total Tier 1 Capital 12,379 11,626
Common Shareholders’ Equity 90.1% 92.7%
Preferred Shares 23.7% 25.2%
Innovative Tier 1 Capital Instruments 0% 0%
Non-Controlling Interests in Subsidiaries 1.1% 1.3%
Goodwill -14.9% -16.6%
Misc. NA -2.6%
‘Misc.’ is comprised of Basel II adjustments to Tier 1 Equity

Next, the issuance capacity (from Part 3 of the introductory series):

CM
Tier 1 Issuance Capacity
October 2007
& July 2008
  4Q07 3Q08
Equity Capital (A) 9,448 8,695
Non-Equity Tier 1 Limit (B=A/3), 4Q07
(B=0.428*A), 3Q08		 3,149 3,721
Innovative Tier 1 Capital (C) 0 0
Preferred Limit (D=B-C) 3,149 3,721
Preferred Actual (E) 2,931 2,931
New Issuance Capacity (F=D-E) 218 790
Items A, C & E are taken from the table
“Regulatory Capital”
of the supplementary information;
Note that Item A includes Goodwill, FX losses, non-controlling interest, Gains on sale of securitizations and 50/50 deductions

Item B is as per OSFI Guidelines; the limit was recently increased.
Items D & F are my calculations

and the all important Risk-Weighted Asset Ratios!

CM
Risk-Weighted Asset Ratios
October 2007
& July 2008
  Note 4Q07 3Q08
Equity Capital A 9,448 8,695
Risk-Weighted Assets B 127,424 118,500
Equity/RWA C=A/B 7.41% 7.33%
Tier 1 Ratio D 9.7% 9.8%
Capital Ratio E 13.9% 14.4%
Assets to Capital Multiple F 19.0x 17.7x
A is taken from the table “Issuance Capacity”, above
B, D & E are taken from CM’s Supplementary Report
C is my calculation.
F is from Page 26 of the quarterly report
Note that CM reports “Common Equity to risk-weighted assets” of 9.1%. They do not include “non-controlling interests”, “goodwill” and the Basel II adjustments in the numerator; I do.

Again, the 4Q07 figures are not directly comparable with the 3Q08 figures due to the change from Basel I to Basel II.

On a Basel I basis, the Tier I and Total Capital ratios got a big boost in the first quarter with the capital raise, but have since declined; the Tier 1 ratio is now the lowest it has been in the last two years, but the total capital ratio has improved since the second quarter. The improvement in the total capital ratio over the quarter may be attributed to issues of sub-debt.

Further, on a Basel I basis, Total Risk Weighted Assets have increased somewhat since 4Q07, basically due to an increase of $5-billion in the risk-weight of “Other Loans”. It is not entirely clear what these other loans are; the balance sheet amounts for Personal Loans and Credit Card Loans are up $2.2-billion and $1.4-billion, respectively, but that doesn’t account for the increase. It may possibly be the risk weighting that has changed rather than the unadjusted balance sheet value.

Publications

Research: Split Shares and the Credit Crunch

OK, we all know that The Great Credit Crunch of 2007-?? had a grim effect on financial companies and an even more grim effect on their share prices. But, for preferred share investors, the important thing is: what was the effect on preferred shares of split-share corporations backed by financial issues?

The July, 2008, edition of Canadian Moneysaver includes my efforts to review the situation. Look for the research link!

And I can offer a bonus spreadsheet that includes a little information that couldn’t be squashed in to the article.