April 22, 2014

April 22nd, 2014

A tiny bit of sanity accidentally crept into the Basel III derivatives rules:

The Basel Committee on Banking Supervision, which set out a year ago to block banks from relying too heavily on each other, changed course last week, opting to let firms preserve most derivatives and repurchase agreements among themselves. The panel revised formulas for evaluating exposure and used a broader definition of capital. Those tweaks spare about $1 trillion in deals at seven of the biggest U.S. banks that would have exceeded proposed limits, according to a November study by the Clearing House, an industry group.

In March 2013, the Basel committee proposed a new way of calculating how much money banks stood to lose on their derivatives deals. While the panel set a ceiling for total exposure to any one party, including nonfinancial firms, at 25 percent of a bank’s capital, 29 institutions deemed systemically important faced a tighter threshold of 10 percent to 15 percent for dealings with each other.

The Clearing House, representing 21 of the largest commercial banks in North America and Europe, released estimates after Basel’s proposal, showing how much seven of the largest banks would collectively exceed exposure limits. The study included scenarios showing the rule’s impact if changes were made to satisfy different objections.

The Basel committee’s most significant changes to the proposed methodology last week affected how derivatives and repo exposures are calculated. It picked 15 percent as the limit for systemic banks instead of 10 percent. The panel also chose Tier 1 capital, which includes preferred securities, instead of only common equity as the base for calculating the exposure ratio.

On the derivatives side, the proposed methodology would have forced banks to report a sixfold increase in the risks they calculate under their internal models, the Clearing House estimated. The final rule only doubles those figures.

The committee also modified a proposal that would have forced banks to add in their exposure to the issuer of a bond used as collateral in a derivatives trade. If a bank buys a credit-default swap from a hedge fund that posts Italian sovereign bonds as collateral, the bank would be exposed both to the Italian government and the fund. That requirement was eliminated in the final rule unless the collateral is issued by another bank or financial institution.

Well, that last bit is just wrong; if a hedge fund posts Italian sovereigns as collateral, the sovereign exposure only kicks in if the hedge fund defaults. Now, there is certainly an amount of correlation between the two – the hedge fund could be taken down by its Italian exposure – that that correlation is certainly less than 100%.

There’s more news about NY Attorney-General Schneiderman’s crusade against the 21st century – he’s upset with AirBnB:

In an effort to jam the wheels of Airbnb’s juggernaut, Mr. Schneiderman subpoenaed the company in October to hand over data concerning some 15,000 New Yorkers who have advertised rooms on the website’s booking service. The attorney-general isn’t, apparently, chasing legitimate householders offering up a spare room, but those who are violating state laws by renting out multiple rooms in the manner of a hotel or even a brothel.

Or even a Satanic slaughterhouse run by pedophiles, eh, Schneiderman? It’s all for the public good, all for consumer protection … right? Wrong. It’s all box-ticking:

Nearly two-thirds of New York city apartments recently listed on Airbnb were illegal sublets, according to an affidavit from the state Attorney General’s office, the newspaper said.

The affidavit, which is expected to be filed in court on Monday by the AG’s office, shows 64 percent of Airbnb’s 19,500-plus offerings for January 31 cover an “entire apartment,” the NY Post said. (r.reuters.com/sun68v)

More than 200 of the offerings came from just five “hosts,” suggesting third parties were renting out pads on behalf of their owners, the newspaper said.

Schneiderman opened an investigation last year into whether hosts on Airbnb, a Silicon Valley venture capital-backed website that lets people put up spare rooms or couches for rent, are breaking a 2010 law that prohibits renters from subletting their room for less than 30 days.

I often point out that the whole HFT kerfuffle is due to the old-boys having their lunch eaten by the geeky outsiders; I should point out that it is not just the old-boys who prefer to compete by regulation. Very often, it is the new kids on the block who prefer to compete on grounds other than price and performance:

But let me tell you, trailing commissions make previous battles look like minor skirmishes. The industry has drawn a line in the sand and brought out the heavy artillery. With few exceptions, the fund companies, dealers and banks have formed a united front and nobody is stepping out of line. The message is clear – banning embedded commissions will destroy the industry and make it difficult for small investors to get advice. The status quo should be maintained. In other words, “Just let us charge most of our clients too much (unknowingly) so we can subsidize the small clients (thank you, thank you, thank you).”

Yeah, yeah. Your business practices are the only moral ones – in fact, they define morality – and competition should be illegal. Next!

I recently became aware of a piece by Larry Swedroe titled Why you should avoid preferred stocks. It’s not very interesting – the usual qualitative bad points are compared to the usual qualitative good points, and a quantitative decision appears by magic – but it did have one interesting feature:

Of even greater concern is that a five-factor regression shows that not only do preferred shares have significant exposure to equity risk (0.42 loading on the market factor) and significant exposure to value stocks (0.43 loading), but much greater exposure to default risk than high-yield bonds. The loading on default for preferred stocks was 1.5, as compared to the default loading for 1-10 year high-yield bonds of 0.54 and for 10-30 year high-yield bonds of 0.77. (All the figures are statistically significant.) In other words, preferred stocks had about three times the exposure to default risk as 1-10 year high-yield bonds and about twice that of 10-30 year high-yield bonds.

A five-factor regression? Interesting. Mr. Google finds a reference to a paper by Eugene F. Fama and Kenneth R. French titled Common risk factors in the returns on stocks and bonds:

For corporate bonds. shifts in economic conditions that change the likelihood
of default give rise to another common factor in returns. Our proxy for this default factor, DEF, is the difference between the return on a market portfolio of long-term corporate bonds (the Composite portfolio on the corporate bond module of Ibbotson Associates) and the long-term government bond return.

So right away, I’m suspicious. Although comparing returns on long-term corporates vs. long-term governments is reasonable enough in terms of return analysis, it is not particularly focussed on default risk; spreads between the two in terms of yield – and hence on returns, when looking backward – are more of a liquidity indicator than a default-risk indicator.

The factors were used in a piece by James L. Davis of Dimensional Fund Advisors titled Investment Characteristics of Preferred Stock to decompose returns in the American market as:

FiveFactor
Click for Big

So – assuming this was Mr. Swedroe’s source – one declared result is that preferred stock returns are relatively uncorrelated with the five magic factors. A lack of correlation is supposed to be good in Modern Portfolio Theory, isn’t it?

It’s an interesting approach and I’ll think about it, but the problem with this kind of ‘Look-Mummy-I-Gotta-Spreadsheet’ investment analysis is that correlations are extremely dependent upon the time period chosen and the sampling frequency. Not only is any given sample period not necessarily representative of any future sample period – which is a standard criticism of virtually any quantitative work – but there is not a jot of evidence presented that these factors are stable even when subjected to small changes in period. I’ll think about this … it might be worth an article.

It was a good day for the Canadian preferred share market, with PerpetualDiscounts winning 19bp, FixedResets up 9bp and DeemedRetractibles gaining 6bp. Volatility was non-existent, even technically, for the second day running, which might even be a record. Volume was extremely low.

HIMIPref™ Preferred Indices
These values reflect the December 2008 revision of the HIMIPref™ Indices

Values are provisional and are finalized monthly
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 0.3341 % 2,407.1
FixedFloater 4.67 % 3.90 % 32,927 17.71 1 0.4938 % 3,678.1
Floater 3.03 % 3.16 % 49,836 19.32 4 0.3341 % 2,599.0
OpRet 4.36 % -3.90 % 37,618 0.11 2 0.0582 % 2,694.2
SplitShare 4.80 % 4.29 % 63,509 4.22 5 0.0715 % 3,090.1
Interest-Bearing 0.00 % 0.00 % 0 0.00 0 0.0582 % 2,463.6
Perpetual-Premium 5.54 % -6.77 % 107,295 0.09 13 0.1559 % 2,390.5
Perpetual-Discount 5.40 % 5.35 % 110,594 14.62 23 0.1923 % 2,495.8
FixedReset 4.68 % 3.61 % 191,760 4.17 79 0.0913 % 2,535.2
Deemed-Retractible 5.03 % -0.78 % 146,637 0.15 42 0.0556 % 2,496.0
FloatingReset 2.66 % 2.45 % 174,323 4.24 5 -0.0159 % 2,481.2
Performance Highlights
Issue Index Change Notes
No individual gains or losses exceeding 1%!
Volume Highlights
Issue Index Shares
Traded
Notes
RY.PR.Z FixedReset 166,615 National bought 10,000 from TD at 25.54. RBC crossed blocks of 50,000 and 49,200, both at 25.54. Scotia crossed 10,900 at 25.54.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2019-05-24
Maturity Price : 25.00
Evaluated at bid price : 25.52
Bid-YTW : 3.49 %
TD.PR.E FixedReset 33,452 Called for redemption.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-05-30
Maturity Price : 25.00
Evaluated at bid price : 24.99
Bid-YTW : 5.38 %
BNS.PR.Z FixedReset 19,904 YTW SCENARIO
Maturity Type : Hard Maturity
Maturity Date : 2022-01-31
Maturity Price : 25.00
Evaluated at bid price : 24.34
Bid-YTW : 3.61 %
RY.PR.F Deemed-Retractible 19,215 YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-05-24
Maturity Price : 25.50
Evaluated at bid price : 25.69
Bid-YTW : -8.30 %
RY.PR.I FixedReset 17,089 TD crossed 10,000 at 25.58.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2019-02-24
Maturity Price : 25.00
Evaluated at bid price : 25.52
Bid-YTW : 3.00 %
BAM.PR.M Perpetual-Discount 17,015 Nesbitt crossed 14,300 at 20.80.
YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-22
Maturity Price : 20.81
Evaluated at bid price : 20.81
Bid-YTW : 5.77 %
There were 16 other index-included issues trading in excess of 10,000 shares.
Wide Spread Highlights
Issue Index Quote Data and Yield Notes
IFC.PR.A FixedReset Quote: 24.06 – 24.48
Spot Rate : 0.4200
Average : 0.2723

YTW SCENARIO
Maturity Type : Hard Maturity
Maturity Date : 2025-01-31
Maturity Price : 25.00
Evaluated at bid price : 24.06
Bid-YTW : 4.20 %

RY.PR.C Deemed-Retractible Quote: 25.51 – 25.78
Spot Rate : 0.2700
Average : 0.1641

YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-05-22
Maturity Price : 25.50
Evaluated at bid price : 25.51
Bid-YTW : -0.78 %

GWO.PR.N FixedReset Quote: 22.33 – 22.65
Spot Rate : 0.3200
Average : 0.2435

YTW SCENARIO
Maturity Type : Hard Maturity
Maturity Date : 2025-01-31
Maturity Price : 25.00
Evaluated at bid price : 22.33
Bid-YTW : 4.41 %

TRP.PR.C FixedReset Quote: 22.35 – 22.67
Spot Rate : 0.3200
Average : 0.2448

YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-22
Maturity Price : 21.83
Evaluated at bid price : 22.35
Bid-YTW : 3.71 %

HSE.PR.A FixedReset Quote: 22.90 – 23.09
Spot Rate : 0.1900
Average : 0.1253

YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-22
Maturity Price : 22.57
Evaluated at bid price : 22.90
Bid-YTW : 3.87 %

IAG.PR.A Deemed-Retractible Quote: 22.43 – 22.70
Spot Rate : 0.2700
Average : 0.2090

YTW SCENARIO
Maturity Type : Hard Maturity
Maturity Date : 2025-01-31
Maturity Price : 25.00
Evaluated at bid price : 22.43
Bid-YTW : 5.97 %

NEW.PR.C Refunding To Proceed

April 21st, 2014

Scotia Managed Companies has announced:

that the final condition required to extend the term of the Company for an additional five years to June 26, 2019 has been met as holders of 97.2% of Class A Capital Shares have elected to extend. Holders of Class A Capital Shares previously approved the extension of the term of the Company subject to the condition that a minimum of 1,287,000 Class A Capital Shares remain outstanding after giving effect to the special retraction right (the “Special Retraction Right”).

Under the Special Retraction Right, 72,755 Class A Capital Shares have been tendered to the Company for retraction on June 26, 2014. The holders of the remaining 2,500,623 Class A Capital Shares will continue to enjoy the benefits of a leveraged participation in the capital appreciation of the Company’s portfolio while potentially deferring any capital gains tax liability which would otherwise be realized on the redemption of their Class A Capital Shares. As part of the extension, the Company’s portfolio of common shares of Canadian chartered banks, telecommunication, utility and pipeline companies will be expanded to include selected issuers in the oil and gas sector and will be rebalanced to equal weight.

The Company’s Class B preferred shares, Series 2 (the “Series 2 Preferred Shares”) will be redeemed by the Company on June 26, 2014 in accordance with their redemption provisions at a price per share equal to the lesser of $13.70 and the Net Asset Value per Unit. In order to maintain the leveraged “split share” structure of the Company, the Company intends to create and issue a third series of Class B preferred shares (the “Series 3 Preferred Shares”), which are expected to be issued immediately following this redemption. In addition, the Company may also undertake a concurrent public offering of additional Class A Capital Shares at the same time the Series 3 Preferred Shares are offered.

NewGrowth Corp. is a mutual fund corporation whose Class A Capital Shares and Preferred Shares are listed for trading on the Toronto Stock Exchange under the symbols NEW.A and NEW.PR.C respectively.

The refunding has been discussed on PrefBlog. NEW.PR.C is tracked by HIMIPref™ but is assigned to the Scraps index on volume concerns.

LCS.PR.A To Get Bigger

April 21st, 2014

Brompton Funds has announced:

that the Company’s treasury offering of class A and preferred shares has been priced at $7.00 per class A share and $10.00 per preferred share. The final class A share and preferred share offering prices were determined so as to be non-dilutive to the net asset value per unit of the Company on April 16, 2014, the most recently calculated net asset value, as adjusted for dividends and certain expenses accrued prior to or upon settlement of the offering.

Brompton Lifeco Split Corp. invests in a portfolio, on an approximately equal weight basis, of common shares of Canada’s four largest publicly-listed life insurance companies: Great-West Lifeco Inc., Industrial Alliance Insurance and Financial Services Inc., Manulife Financial Corporation and Sun Life Financial Inc.

The Company intends to file a final prospectus in each of the provinces and territories of Canada in connection with the offering. The offering is expected to close on or about May 1, 2014 and is subject to customary closing conditions including approvals of applicable securities regulatory authorities and the Toronto Stock Exchange.

The syndicate of agents for the offering is being led by RBC Capital Markets, CIBC, and Scotiabank, and includes BMO Capital Markets, National Bank Financial Inc., GMP Securities L.P., Raymond James Ltd., Desjardins Securities Inc., Dundee Securities Ltd., Mackie Research Capital Corporation, and Manulife Securities Incorporated.

On February 18, shareholders approved a term extension:

At a special meeting of preferred and class A shareholders (“Shareholders”) of Brompton Lifeco Split Corp. (“LCS”) held today, shareholders approved a special resolution to extend the term of LCS for approximately 5 years to April 29, 2019 and thereafter for successive terms of up to 5 years as determined by the LCS board of directors. Holders of Class A Shares voted approximately 99% in favour of the extension and holders of Preferred Shares voted approximately 97% in favour of the extension. The extension allows Shareholders to continue their investment in LCS’ portfolio of common shares of four Canadian life insurance companies (Great-West Lifeco Inc., Industrial Alliance Insurance and Financial Services Inc., Manulife Financial Corporation and Sun Life Financial Inc.). Shareholders will continue to have monthly and annual retraction rights.

In addition to the daily liquidity provided by the TSX listings, shareholders who do not wish to continue their investment may redeem either their preferred shares or class A shares on April 30, 2014 and each extension of the term thereafter on the same terms that currently exist. Further details are available in the management information circular dated January 15, 2014.

Prior to that (as a sweetener!) the company announced the dividend rate for the extension:

As previously announced, Brompton Lifeco Split Corp. (“LCS” or the “Fund”) will hold a special meeting of shareholders on February 18, 2014 to consider the proposed extension of the term of the Class A Shares and Preferred Shares of the Fund. If approved, shareholders will be able to continue their investment in the Fund beyond its currently scheduled termination date of April 30, 2014. The proposed extension will not result in any changes to shareholder redemption rights and is subject to shareholder approval. In the event that the proposed extension is not approved by shareholders, the Fund will terminate and Class A and Preferred shareholders will receive net asset value per Class A and Preferred Share, respectively.

If the extension is approved, the term of the Class A Shares and Preferred Shares will be extended to April 29, 2019 and the distribution rate for the Fund’s Preferred Shares for the new term commencing on May 1, 2014 will be $0.575 per share per annum payable quarterly. This represents a 5.75% yield on the par value ($10.00) of the Preferred Share and is based on current market rates for preferred shares with similar terms. In addition, the Fund intends to maintain the targeted monthly Class A Share distribution at $0.075 per Class A Share.

LCS invests in a portfolio, on an approximately equal weight basis, of common shares of Canada’s 4 largest publicly-listed life insurance companies: Great-West Lifeco Inc., Industrial Alliance Insurance and Financial Services Inc., Manulife Financial Corporation and Sun Life Financial Inc.

The information circular for the term extension was published in January.

LCS.PR.A was placed under Review-Positive by DBRS:

As part of the term extension, the fixed cumulative quarterly distributions to the Preferred Shares will be increased to $0.14375 per preferred share starting May 1, 2014, yielding 5.75% annually on their issue price of $10.00 per share (up from 5.25% previously). Holders of the Class A Shares are expected to continue receiving regular monthly targeted cash distributions of $0.075 per share, yielding 6% annually on their issue price of $15.00 per share. Class A Share distributions were suspended in March 2011, due to the net asset value of the Company falling below $15.00 per unit (i.e., 33% downside protection), but were reinstated in July 2013.

On December 23, 2013, DBRS upgraded the ratings of the Preferred Shares to Pfd-4 (high) from Pfd-5 (high). Since then, the performance of the Company has been generally stable, although downside protection has fallen slightly in April (37.2% as of April 10, 2014). Despite the drop, downside protection remains above levels typically seen at the Pfd-4 (high) level, and as a result, the rating of the Preferred Shares has been placed Under Review with Positive Implications.

The company’s upgrade to Pfd-4(high) by DBRS was reported on PrefBlog. LCS.PR.A is not tracked by HIMIPref™ as it is a very small issue – less than 1.7-million units are outstanding … let’s hope that changes!

April 21, 2014

April 21st, 2014

Felix Salmon writes a good piece on Michael Lewis’s flawed new book (Flash Boys) [emphasis added]:

And he also mentions that while you used to be able to drive a truck through the bid-offer prices on stocks, pre-decimalization, nowadays prices are much, much tighter — with the result that trading is much, much less expensive than it used to be. Given all that, it stands to reason that even if the HFT shops are making good money, they’re still making less than the big broker-dealers used to make back in the day. But that’s not a calculation Lewis seems to have any interest in.

In his introduction to the book, Lewis writes this:

The average investor has no hope of knowing, of course, even the little he needs to know. He logs onto his TD Ameritrade or E*Trade or Schwab account, enters a ticker symbol of some stock, and clicks an icon that says “Buy”: Then what? He may think he knows what happens after he presses the key on his computer keyboard, but, trust me, he does not. If he did, he’d think twice before he pressed it.

This is silly. I’ll tell you what happens when the little guy presses that key: his order doesn’t go anywhere near any stock exchange, and no HFT shop is going to front-run it. Instead, he will receive exactly the number of shares he ordered, at exactly the best price in the market at the second he pressed the button, and he will do so in less time than it takes his web browser to refresh. Buying a small number of shares through an online brokerage account is the best guarantee of not getting front-run by HFT types. And there’s no reason whatsoever for the little guy to think twice before pressing the button.

And that emphasis, boys and girls, is the reason why there’s such a big fuss about High Frequency Trading. But don’t forget the lawsuits!

The stuff the complaint complains about, by the way, is mostly just what’s in “Flash Boys.” Basically it’s that high-speed traders trade faster than low-speed traders, via latency arbitrage or moving in reaction to orders in the market or co-location or direct data feeds or … there’s some weird stuff here, like an accusation that high-frequency traders trade in advance of index-fund rebalancing, which is just intelligently making use of public information but which these lawyers find objectionable.[Footnote]

[Footnote reads]:Like:

Most retirement savings, such as public and private pension funds or 401(k) and individual retirement accounts in the United States, are invested in mutual funds, the most popular of which are index funds which periodically “rebalance” or adjust their portfolio to account for current prices and market capitalization of the underlying securities in the stock or other index that they track. This allows trading algorithms to anticipate and trade ahead of stock price movements caused by mutual fund rebalancing, making a profit on advance knowledge of the large institutional block orders. This results in profits being transferred from investors to algorithmic traders, estimated to be at least 21 to 28 basis points annually for S&P 500 index funds, and at least 38 to 77 basis points per year for Russell 2000 funds.

I do not get it. Index rebalancing is public information. If you have a computer that does the math and calculates that people will be buying a lot of stock on an index add, and you buy some of that stock to profit from that calculation — what is illegal or fraudulent or whatever about that? This is not in the book, by the way; they came up with this on their own.

The old guard’s next line of attack might be best execution in a rebate environment:

Brokers entrusted with orders in the U.S. stock market can choose from dozens of exchanges and private venues. Some money managers such as T. Rowe Price Group Inc. (TROW) have told regulators that incentives offered by exchanges for attracting orders can put a broker’s financial interest at odds with the customer’s.

Brokers can face a conflict of interest as they select where to send customer orders. Brokers can either capture a rebate or pay a fee to an exchange depending on the type of order used, while private venues known as dark pools charge lower fees but don’t have to disclose how they treat customers.

While improved disclosure is helpful, the SEC should experiment with altering the economic incentives that affect how orders are handled, [T. Rowe Price head of equity trading Andy] Brooks said. T. Rowe has joined the New York Stock Exchange, Royal Bank of Canada and IEX Group Inc. in lobbying regulators to ban the “maker-taker” system, which pays rebates to large brokers to attract trades.

Brokerages often put their own self-interest in front of their clients’ under maker-taker, according to a study by Robert Battalio and Shane Corwin of the University of Notre Dame and Robert Jennings of Indiana University.

The linked study is titled Can Brokers Have It All? On the Relation between Make Take Fees & Limit Order Execution Quality:

We identify retail brokers that seemingly route orders to maximize order flow payments: selling market orders and routing limit orders to venues paying large liquidity rebates. Because venues offering high rebates also charge liquidity demanding investors high fees, fee structure may affect the arrival rate of marketable orders. If limit orders on low-fee venues fill when similarly priced orders on high-fee venues do not, routing orders to maximize rebates might not always be in customers’ best interests. Using proprietary limit order data, we document a negative relation between several measures of limit order execution quality and the relative fee level. Specifically, we show that when ‘identical’ limit orders are concurrently displayed on two venues, orders routed to the low-fee venue execute more frequently and suffer lower adverse selection. Using the NYSE’s TAQ data, we show that the negative relation between take fees and execution quality extends beyond our proprietary dataset.

The big problem in Europe is deflation:

Inflation in Europe has been in decline since late 2011, thanks to gruesome unemployment, excess manufacturing capacity, the weak recovery, falling energy prices and the rising euro. At last count, it was running at 0.5 per cent, well below the ECB’s [European Central Bank's] target rate of slightly under 2 per cent. The question is whether 0.5 per cent is the bottom or close to it. The International Monetary Fund says that Greece alone will post a slightly negative inflation rate in 2014 and most economists forecast inflation at 0.9 per cent to 1.5 per cent for the euro zone his year, rising marginally next year.

The figures don’t suggest deflation is coming. Yet the ECB in its last governing council meeting signalled it was ready to haul out the heavy artillery. Besides another interest rate cut, the options include quantitative easing, in which the ECB would make large-scale purchase of government and private debt (more likely the former) to boost money supply, or charge banks a fee to park their funds at the ECB.

As soon as [ECB honcho] Mr. Draghi said the ECB was ready to launch son of “whatever it takes,” bond yields fell in the expectation that the ECB is about to buy every bond in sight. In the past month, the yields of Portugal’s 10-year dropped 0.7 of a percentage point, to 3.7 per cent, which is only one point higher than U.S. Treasury yields. Remember, this was a country on the verge of bankruptcy not long ago. Italy’s yields have slumped to 3.1 per cent. They were double that level, or higher, two or three years ago. Greece’s yields fell so far so fast – they’re now below 6 per cent – that the country considered the prime candidate to bolt from the euro zone in 2012 is back in the debt markets. Last week, it couldn’t keep up with demand for its new five-year bonds.

It’s always interesting to read how the competition is doing:

Merrill Lynch & Co. Inc. is dangling a new incentive in front of its brokers by creating a “recognition club” for those who bring in $8-million (U.S.) or more a year from clients, more than doubling the top goals set by its securities industry rivals.

The new “Pinnacle Club” will pay its members $10,000 in cash and additional benefits if they produce $8-million of revenue or build up five million of production credits.

Club membership also gives members bragging rights as elite brokers, the ability to advertise their status on their websites, and priority when accounts of departing brokers are redistributed or when customers are referred to the broker-dealer from other parts of Bank of America, according to a description of the recognition clubs in Merrill’s 2014 compensation booklet.

Brokers who qualify for Pinnacle as well as for Merrill’s seven lower-tier recognition clubs also can participate with their significant others in “Top Advisor Summits” that are usually held over several days in resort areas.

In reporting first-quarter earnings last week, Merrill said its 13,725 brokers were on target to produce an average of $1.06-million each this year, one of the highest averages in the brokerage industry. The average is skewed, however, by heavy hitters who could qualify for the new club. Fewer than 5,200 of its advisers had $1-million or more of production in 2013.

Treasuries are, on the whole, doing better than the Street expected:

One reason yields have fallen is the U.S. labor market, which has yet to show consistent improvement.

The world’s largest economy added fewer jobs on average in the first three months of the year than in the same period in the prior two years, data compiled by Bloomberg show. At the same time, a slowdown in China and tensions between Russia and Ukraine boosted demand for the safest assets.

Wall Street firms known as primary dealers are getting caught short betting against Treasuries.

They collectively amassed $5.2 billion of wagers in March that would profit if Treasuries fell, the first time they had net short positions on government debt since September 2011, data compiled by the Fed show.

It was a mixed day for the Canadian preferred share market, with PerpetualDiscounts and FixedResets both gaining 9bp, while DeemedRetractibles were off 2bp. Volatility was not even technically existent. Volume was very low.

HIMIPref™ Preferred Indices
These values reflect the December 2008 revision of the HIMIPref™ Indices

Values are provisional and are finalized monthly
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 -0.3455 % 2,399.0
FixedFloater 4.69 % 4.24 % 33,145 17.96 1 0.0989 % 3,660.0
Floater 3.03 % 3.17 % 50,576 19.31 4 -0.3455 % 2,590.3
OpRet 4.36 % -4.48 % 39,066 0.11 2 -0.0194 % 2,692.6
SplitShare 4.81 % 4.33 % 62,120 4.23 5 0.1352 % 3,087.8
Interest-Bearing 0.00 % 0.00 % 0 0.00 0 -0.0194 % 2,462.1
Perpetual-Premium 5.54 % -6.95 % 108,684 0.09 13 0.0786 % 2,386.8
Perpetual-Discount 5.41 % 5.35 % 111,987 14.67 23 0.0934 % 2,491.0
FixedReset 4.68 % 3.69 % 194,754 4.33 79 0.0857 % 2,532.9
Deemed-Retractible 5.02 % -0.57 % 144,681 0.15 42 -0.0239 % 2,494.6
FloatingReset 2.66 % 2.44 % 180,893 4.25 5 -0.0080 % 2,481.6
Performance Highlights
Issue Index Change Notes
No individual gains or losses exceeding 1%!
Volume Highlights
Issue Index Shares
Traded
Notes
BNS.PR.X FixedReset 181,639 TD crossed 75,000 at 25.00; Scotia crossed 104,600 at 24.99.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-05-25
Maturity Price : 25.00
Evaluated at bid price : 24.99
Bid-YTW : 5.08 %
BAM.PF.E FixedReset 65,025 RBC crossed 49,800 at 25.05.
YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-21
Maturity Price : 23.11
Evaluated at bid price : 25.01
Bid-YTW : 4.22 %
ENB.PR.Y FixedReset 57,412 Scotia crossed blocks of 35,000 and 15,000, both at 23.99.
YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-21
Maturity Price : 22.70
Evaluated at bid price : 23.87
Bid-YTW : 4.23 %
BNS.PR.R FixedReset 45,751 Nesbitt crossed 40,000 at 25.68.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2019-01-26
Maturity Price : 25.00
Evaluated at bid price : 25.63
Bid-YTW : 3.25 %
FTS.PR.E OpRet 41,530 TD crossed 41,500 at 25.95.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-06-01
Maturity Price : 25.50
Evaluated at bid price : 25.94
Bid-YTW : -4.48 %
TRP.PR.E FixedReset 33,950 Nesbitt crossed 25,000 at 25.40.
YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-21
Maturity Price : 23.24
Evaluated at bid price : 25.34
Bid-YTW : 3.92 %
There were 19 other index-included issues trading in excess of 10,000 shares.
Wide Spread Highlights
Issue Index Quote Data and Yield Notes
FTS.PR.F Perpetual-Discount Quote: 24.39 – 24.86
Spot Rate : 0.4700
Average : 0.2698

YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-21
Maturity Price : 24.09
Evaluated at bid price : 24.39
Bid-YTW : 5.08 %

POW.PR.A Perpetual-Discount Quote: 25.11 – 25.48
Spot Rate : 0.3700
Average : 0.2584

YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-05-21
Maturity Price : 25.00
Evaluated at bid price : 25.11
Bid-YTW : 1.36 %

PWF.PR.H Perpetual-Premium Quote: 25.30 – 25.50
Spot Rate : 0.2000
Average : 0.1327

YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-05-21
Maturity Price : 25.00
Evaluated at bid price : 25.30
Bid-YTW : -10.24 %

ENB.PR.A Perpetual-Premium Quote: 25.40 – 25.64
Spot Rate : 0.2400
Average : 0.1758

YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-05-21
Maturity Price : 25.00
Evaluated at bid price : 25.40
Bid-YTW : -4.52 %

ENB.PF.A FixedReset Quote: 25.23 – 25.39
Spot Rate : 0.1600
Average : 0.1047

YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-21
Maturity Price : 23.20
Evaluated at bid price : 25.23
Bid-YTW : 4.25 %

BNS.PR.R FixedReset Quote: 25.63 – 25.84
Spot Rate : 0.2100
Average : 0.1575

YTW SCENARIO
Maturity Type : Call
Maturity Date : 2019-01-26
Maturity Price : 25.00
Evaluated at bid price : 25.63
Bid-YTW : 3.25 %

April 17, 2014

April 17th, 2014

The Globe ran a piece on an upcoming insurance pow-wow in Toronto:

“The irony of the way insurance works, as opposed to the way banking works, is that it’s not always clear that capital is the relevant solution,” he said. “It’s often not, because insurance companies get into trouble in different ways.”

For example, insurance companies wouldn’t experience a ‘run’ on deposits, Mr. McGavick said, when reserves may not be able to cover mass customer withdrawals in the same way a bank would.

This seems like an odd remark to me, because while bank runs may be rooted in capital problems, they are made possible by liquidity problems – this is the old illiquid vs. insolvent distinction that I frequently mentioned during the Credit Crunch and which is well illustrated by the Panic of 1907.

Anyway, the Geneva Association produced an analysis titled Variable Annuities — An Analysis of Financial Stability, which references (among other things):

Key Financial Stability Issues in Insurance, released in July 2010, comprises analytical work carried out on specific issues that had been raised by regulatory and supervisory counterparts in areas such as investment management, liquidity management, limits of insurability, crisis resolution mechanisms in insurance and the confused concept of an “insurance run” (supposedly akin to a bank run).

and Key Financial Stability Issues in Insurance, which is quite interesting, but which the dorks have copy-protected so I can’t copy-paste the good parts.

Capital is virtually irrelevant during a bank run (although loss of capital might trigger the run); capital is actually more important in the insurance game. While it is quite true that Segregated Fund owners can’t take their money and run – eliminating much of the need for liquidity – a lack of capital will have severe effects on the viability of the operation – as Manulife very nearly found out during the crisis.

DGS.PR.A was confirmed at Pfd-3 by DBRS:

The net asset value (NAV) of the Company has increased steadily since the last rating confirmation in April 2013. As of April 3, 2014, the downside protection available to the Preferred Shares is approximately 46.9% and the dividend coverage ratio is approximately 1.1 times. The Pfd-3 rating of the Preferred Shares is based primarily on the downside protection available and the additional protection provided by an asset coverage test, which does not permit any distributions to holders of the Class A Shares if the NAV of the Company falls below $15.

It was a good day for the Canadian preferred share market, with PerpetualDiscounts winning 16bp, FixedResets gaining 3bp and DeemedRetractibles up 13bp. Volatility was minimal. Volume … was peculiar. Very little breadth, but quite a lot of depth! A very high proportion of the volume leaders have been called for redemption.

HIMIPref™ Preferred Indices
These values reflect the December 2008 revision of the HIMIPref™ Indices

Values are provisional and are finalized monthly
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 0.1875 % 2,407.4
FixedFloater 4.70 % 4.24 % 32,743 17.96 1 -0.2465 % 3,656.4
Floater 3.02 % 3.15 % 50,422 19.38 4 0.1875 % 2,599.3
OpRet 4.36 % -4.39 % 36,175 0.12 2 -0.0388 % 2,693.2
SplitShare 4.81 % 4.38 % 60,411 4.24 5 -0.1112 % 3,083.7
Interest-Bearing 0.00 % 0.00 % 0 0.00 0 -0.0388 % 2,462.6
Perpetual-Premium 5.55 % -6.02 % 107,298 0.09 13 0.0272 % 2,384.9
Perpetual-Discount 5.41 % 5.39 % 115,531 14.65 23 0.1591 % 2,488.7
FixedReset 4.68 % 3.64 % 195,270 4.34 79 0.0347 % 2,530.7
Deemed-Retractible 5.02 % -0.54 % 146,596 0.16 42 0.1331 % 2,495.2
FloatingReset 2.64 % 2.41 % 182,485 4.26 5 0.0159 % 2,481.7
Performance Highlights
Issue Index Change Notes
MFC.PR.F FixedReset 1.23 % YTW SCENARIO
Maturity Type : Hard Maturity
Maturity Date : 2025-01-31
Maturity Price : 25.00
Evaluated at bid price : 23.10
Bid-YTW : 4.25 %
Volume Highlights
Issue Index Shares
Traded
Notes
TD.PR.G FixedReset 338,738 Called for Redemption.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-05-30
Maturity Price : 25.00
Evaluated at bid price : 24.97
Bid-YTW : 5.44 %
BNS.PR.T FixedReset 315,839 Called for redemption.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-05-25
Maturity Price : 25.00
Evaluated at bid price : 24.98
Bid-YTW : 4.93 %
CM.PR.L FixedReset 244,798 Called for redemption.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-05-30
Maturity Price : 25.00
Evaluated at bid price : 24.98
Bid-YTW : 5.27 %
TRP.PR.E FixedReset 223,516 Desjardins crossed blocks of 23,900 and 50,800, both at 25.42. TD crossed 40,000 and RBC crossed 100,000, all at the same price.
YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-17
Maturity Price : 23.26
Evaluated at bid price : 25.41
Bid-YTW : 3.86 %
ENB.PF.A FixedReset 182,613 Nesbitt crossed 30,00 at 25.37. TD bought 25,000 from anonymous and crossed blocks of 77,000 and 13,500, all at the same price.
YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-17
Maturity Price : 23.24
Evaluated at bid price : 25.36
Bid-YTW : 4.18 %
FTS.PR.E OpRet 177,950 Nesbitt crossed 175,000 at 25.95.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-06-01
Maturity Price : 25.50
Evaluated at bid price : 25.95
Bid-YTW : -4.39 %
NA.PR.S FixedReset 172,080 RBC crossed blocks of 100,000 and 30,000, both at 25.43. TD crossed 40,000 at the same price.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2019-05-15
Maturity Price : 25.00
Evaluated at bid price : 25.43
Bid-YTW : 3.67 %
TD.PR.E FixedReset 155,319 Called for redemption.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-05-30
Maturity Price : 25.00
Evaluated at bid price : 24.98
Bid-YTW : 5.09 %
MFC.PR.L FixedReset 142,354 RBC crossed 120,900 at 24.85.
YTW SCENARIO
Maturity Type : Hard Maturity
Maturity Date : 2025-01-31
Maturity Price : 25.00
Evaluated at bid price : 24.85
Bid-YTW : 4.01 %
RY.PR.I FixedReset 114,223 Scotia crossed 50,000 at 25.60. RBC crossed 50,000 at the same price.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2019-02-24
Maturity Price : 25.00
Evaluated at bid price : 25.60
Bid-YTW : 3.11 %
VNR.PR.A FixedReset 111,594 RBC crossed 100,500 at 25.37; Scotia crossed 10,000 at the same price.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2017-10-15
Maturity Price : 25.00
Evaluated at bid price : 25.36
Bid-YTW : 3.93 %
ELF.PR.H Perpetual-Discount 102,208 RBC crossed 100,000 at 24.50.
YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-17
Maturity Price : 24.01
Evaluated at bid price : 24.41
Bid-YTW : 5.65 %
There were 17 other index-included issues trading in excess of 10,000 shares.
Wide Spread Highlights
Issue Index Quote Data and Yield Notes
CIU.PR.C FixedReset Quote: 20.82 – 21.32
Spot Rate : 0.5000
Average : 0.3521

YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-17
Maturity Price : 20.82
Evaluated at bid price : 20.82
Bid-YTW : 3.76 %

POW.PR.B Perpetual-Discount Quote: 24.32 – 24.67
Spot Rate : 0.3500
Average : 0.2323

YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-17
Maturity Price : 24.06
Evaluated at bid price : 24.32
Bid-YTW : 5.53 %

PWF.PR.P FixedReset Quote: 23.89 – 24.22
Spot Rate : 0.3300
Average : 0.2261

YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-17
Maturity Price : 23.53
Evaluated at bid price : 23.89
Bid-YTW : 3.50 %

CGI.PR.D SplitShare Quote: 24.77 – 25.08
Spot Rate : 0.3100
Average : 0.2096

YTW SCENARIO
Maturity Type : Soft Maturity
Maturity Date : 2023-06-14
Maturity Price : 25.00
Evaluated at bid price : 24.77
Bid-YTW : 3.93 %

ENB.PR.H FixedReset Quote: 23.64 – 23.97
Spot Rate : 0.3300
Average : 0.2445

YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-17
Maturity Price : 22.65
Evaluated at bid price : 23.64
Bid-YTW : 4.02 %

POW.PR.D Perpetual-Discount Quote: 23.27 – 23.58
Spot Rate : 0.3100
Average : 0.2320

YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-17
Maturity Price : 23.01
Evaluated at bid price : 23.27
Bid-YTW : 5.39 %

FFN.PR.A: Term Extension Details

April 17th, 2014

Financial 15 Split Corp. II has released the Management Information Circular for its May 14 meeting.

The Articles of the Company currently provide that the Preferred Shares and the Class A Shares shall be redeemed by the Company on the Termination Date, which is currently scheduled for December 1, 2014. Shareholders are being asked to pass a special resolution which would, among other things, extend the Termination Date initially to December 1, 2019.

OK, a five year extension is fine since there is a Special Retraction Rights for preferred shareholders:

If the extension of the Termination Date is approved, a Shareholder who retracts a Class A Share under the 2014 Special Retraction Right will receive a retraction price per Class A Share equal to the net asset value per Unit calculated on June 13, 2014, less $10.00. A Shareholder who retracts a Preferred Share under the 2014 Special Retraction Right will receive a retraction price per Preferred Share equal to the lesser of (i) $10.00 and (ii) the net asset value per Unit calculated on June 13, 2014. Shareholders wishing to take advantage of the 2014 Special Retraction Right must surrender their Shares for retraction no later than the close of business on June 4, 2014. Payment for the Class A Shares or Preferred Shares so tendered for retraction pursuant to the 2014 Special Retraction Right will be made no later than June 27, 2014.

Similarly, there will be a Continuing Special Retraction Right, particularly necessary since there will be no vote on further extensions:

By approving the special resolution to extend the Termination Date of the Company to December 1, 2019, Shareholders will also be approving the extension of the Company for an additional term of five years as determined by the Board of Directors of the Company. The Termination Date may then be a further extended for additional successive terms of five years each in the discretion of the Board of Directors. Shareholders will be able to redeem their Shares in connection with any such five year extension by exercising an additional retraction right (the Continuing Special Retraction Right) which is again designed to provide Shareholders with an opportunity to retract their Shares and receive a retraction price that is calculated in the same way that such price would be calculated if the Company were to terminate on its scheduled Termination Date.

Similarly to FTN.PR.A, there’s a peculiar price calculation in the event of a semi-forced liquidation:

In the event the Company were to receive notice from the TSX that the Preferred Shares and the Class A Shares are to be delisted by the TSX, or if the net asset value of the Company were on any Valuation Date (as defined below) be less than $5,000,000 (each such event a Liquidation Event), the Manager could determine to cause the Company to redeem all outstanding Preferred Shares and Class A Shares on a date determined by the directors of the Company (the Liquidation Date) upon payment: (a) of an amount (the Preferred Share Liquidation Redemption Amount) in respect of each Preferred Share to be so redeemed equal to (i) (A) the net asset value of the Company on the Liquidation Date multiplied by a fraction, the numerator of which is the volume-weighted average trading price on the TSX (the VWAP) of the Preferred Shares calculated over the 20 trading days ending immediately prior to the announcement by the Company of the occurrence of the Liquidation Event and the denominator of which is the aggregate VWAP of the Preferred Shares and the Class A Shares calculated over the 20 trading days ending immediately prior to such announcement, divided by (B) the number of Preferred Shares outstanding on the Liquidation Date, plus (ii) all accrued and unpaid and declared and unpaid dividends on a Preferred Share to be so redeemed to but excluding the Liquidation Date;

As with FTN.PR.A, I don’t like it but it’s a minor issue.

The dividend will remain unchanged for the first extension:

For the fiscal year of the Company commencing December 1, 2014 and ending November 30, 2015, the dividend rate on the Preferred Shares will remain unchanged, such that holder of the Preferred Shares will continue to be entitled to receive fixed, cumulative, preferential monthly cash dividends of $0.04375 per Preferred Share. The special resolution will also permit the Company to set the prescribed minimum dividend rate on the Preferred Shares for the five year period commencing December 1, 2014 and for any five year extension of the term of the Company thereafter. This minimum rate would continue to be 5.25% of the Preferred Share Repayment Amount for the five year period from December 1, 2014 to November 30, 2019. The press release referred to above announcing the annual dividend rate for the Preferred Shares would also specify the minimum dividend rate established by the Company.

The monthly retraction formula is being changed in favour of retractors and the manager, to the disadvantage of the continuing shareholders:

Shareholders are being asked at the Meeting to approve a reduction in the discount to net asset value applicable on monthly redemptions of Shares from 4% to 2%. That is, holders of Preferred Shares would be entitled to receive a price per share equal to the lesser of (i) $10.00 and (ii) 98% of the net asset value per Unit determined as of the applicable retraction date, less the cost to the Company of the purchase of a Class A Share in the market for cancellation and less any other applicable costs and holders of Class A Shares would be entitled to receive a retraction price per share equal to 98% of the net asset value per Unit determined as of the applicable retraction date, less the cost to the Company of the purchase of a Preferred Share in the market for cancellation and less any other applicable costs.

The manager has the ability to earn a performance ha-ha fee:

Under the Investment Management Agreement, the Manager is currently entitled to a performance fee equal to 20% of the total return per Unit of the Company for a financial year (which includes all cash distributions per Unit made during the year and any increase in the net asset value per Unit from the beginning of the year after the deduction on a per Unit basis of all fees, other expenses and distributions) that exceeds 112% of the Bonus Threshold. The “Bonus Threshold”, for any financial year immediately following a year for which a performance fee is payable, is equal to the net asset value per Unit at the beginning of that financial year. The “Bonus Threshold”, for any financial year immediately following a year for which a performance fee is not payable, is equal to the greater of (i) the net asset value per Unit at the end of the immediately prior financial year; and (ii) the Bonus Threshold for the prior year, minus the Adjustment Amount. The “Adjustment Amount” for any financial year is the amount, if any, by which the net asset value per Unit at the end of the immediately prior financial year plus dividends paid in that prior year exceeds the Bonus Threshold for that prior year.

It will be somewhat easier for the manager to “earn” a performance fee:

Accordingly, Shareholders are being asked to pass a resolution to approve changes to the Investment Management Agreement to provide for the deletion of the $25.00 Condition and the Ratings Condition. In their place, a new condition would be imposed, such that no performance fee could be paid to the Manager in respect of any fiscal year of the Company unless, at the end of such fiscal year, the net asset value per Unit of the Company was at least two times the amount of the Preferred Share Repayment Amount (representing a minimum coverage requirement of 200% for the Preferred Shares). As the Preferred Share Repayment Amount is currently $10.00 per Preferred Share, this would require the net asset value per Unit of the Company to be at least $20.00 before any performance fee could be paid.

The performance fee is nonsensical and constitutes yet another reason not to buy the Capital Units. The return on the fund is going to be overwhelmingly determined by the performance of the benchmark; manager skill is secondary. If they really wanted to be paid for performance, the calculation would depend on the fund performance relative to a benchmark over a period of not less than four years.

But it doesn’t matter to preferred shareholders. Nothing will be payable unless there’s Asset Coverage of at least 2:1, which is fine, and every penny of the fee comes out of the Capital Unitholders’ hide anyway. So who cares?

The final item fraught with interest is the NAV test, whereby there are no distributions to Capital Units if the NAV is less than $15.00. This will remain unchanged.

All in all, it’s a good deal for preferred shareholders. I recommend that Preferred Shareholders vote in favour of the Special Resolution.

FTN.PR.A: Term Extension Proposal Details

April 17th, 2014

Financial 15 Split Corp. has released the Management Information Circular for its May 14 meeting.

The Articles of the Company currently provide that the Preferred Shares and the Class A Shares shall be redeemed by the Company on the Termination Date, which is currently scheduled for December 1, 2015. Shareholders are being asked to pass a special resolution which would, among other things, extend the Termination Date initially to December 1, 2020.

OK, a five year extension is fine. What’s more, there is not just one, but two, count ‘em, two Special Retraction Rights for preferred shareholders:

If the extension of the Termination Date is approved, a Shareholder who retracts a Class A Share under the 2014 Special Retraction Right will receive a retraction price per Class A Share equal to the net asset value per Unit calculated on June 13, 2014, less $10.00. A Shareholder who retracts a Preferred Share under the 2014 Special Retraction Right will receive a retraction price per Preferred Share equal to the lesser of (i) $10.00 and (ii) the net asset value per Unit calculated on June 13, 2014. Shareholders wishing to take advantage of the 2014 Special Retraction Right must surrender their Shares for retraction no later than the close of business on June 4, 2014. Payment for the Class A Shares or Preferred Shares so tendered for retraction pursuant to the 2014 Special Retraction Right will be made no later than June 27, 2014.

If the extension of the Termination Date is approved, a Shareholder who retracts a Preferred Share under the 2015 Special Retraction Right will receive a retraction price per Preferred Share equal to the lesser of (i) $10.00 and (ii) the net asset value per Unit calculated on November 30, 2015. Shareholders wishing to take advantage of the 2015 Special Retraction Right must surrender their Preferred Shares for retraction no later than the close of business on November 13, 2015. Payment for the Preferred Shares so tendered for retraction pursuant to the 2015 Special Retraction Right will be made no later than December 15, 2015.

They don’t want to take another vote in five years:

By approving the special resolution to extend the Termination Date of the Company to December 1, 2020, Shareholders will also be approving the extension of the Company for an additional term of five years as determined by the Board of Directors of the Company. The Termination Date may then be further extended for additional successive terms of five years each in the discretion of the Board of Directors. Shareholders will be able to redeem their Shares in connection with any such five year extension by exercising an additional retraction right (the Continuing Special Retraction Right) which is again designed to provide Shareholders with an opportunity to retract their Shares and receive a retraction price that is calculated in the same way that such price would be calculated if the Company were to terminate on its scheduled Termination Date.

Oddly, there is a strange price calculation in the event of a (semi-)forced liquidation:

In the event the Company were to receive notice from the TSX that the Preferred Shares and the Class A Shares are to be delisted by the TSX, or if the net asset value of the Company were on any Valuation Date (as defined below) be less than $5,000,000 (each such event a Liquidation Event), the Manager could determine to cause the Company to redeem all outstanding Preferred Shares and Class A Shares on a date determined by the directors of the Company (the Liquidation Date) upon payment:

(g) of an amount (the Preferred Share Liquidation Redemption Amount) in respect of each Preferred Share to be so redeemed equal to (i) (A) the net asset value of the Company on the Liquidation Date multiplied by a fraction, the numerator of which is the volume-weighted average trading price on the TSX (the VWAP) of the Preferred Shares calculated over the 20 trading days ending immediately prior to the announcement by the Company of the occurrence of the Liquidation Event and the denominator of which is the aggregate VWAP of the Preferred Shares and the Class A Shares calculated over the 20 trading days ending immediately prior to such announcement, divided by (B) the number of Preferred Shares outstanding on the Liquidation Date, plus (ii) all accrued and unpaid and declared and unpaid dividends on a Preferred Share to be so redeemed to but excluding the Liquidation Date; and

I don’t understand the necessity for this and don’t like it, but the chances of it being triggered are remote and the ill effects if it is are fairly muted, so we’ll let it pass.

A critical issue is the dividend rate on the preferreds:

The special resolution will permit the Company to file an amendment to the Articles that will permit the Company to determine the annual rate of cumulative preferential monthly dividends for the Preferred Shares for the one year period commencing December 1, 2015 and for each fiscal year of the Company thereafter, subject to prescribed minimum annual dividend. Such determination will be made no later than September 30 (or the first business day thereafter, if September 30 is not a business day) each year during the term of the Company and announced by press release.

The special resolution will also permit the Company to set the prescribed minimum dividend rate on the Preferred Shares for the five year period commencing December 1, 2015 and for any five year extension of the term of the Company thereafter. This minimum rate would be a specified percentage of the Preferred Share Repayment Amount. The Preferred Share Repayment Amount is the amount payable per Preferred Share on the Termination Date and is currently $10.00 per Preferred Share. In the event of any subdivision or consolidation of the Preferred Shares, the Preferred Share Repayment Amount would be adjusted accordingly. The press release referred to above announcing the annual dividend rate for the Preferred Shares would also specify the minimum dividend rate established by the Company.

The prescribed minimum dividend amount for the Preferred Shares would be set at 5.25% of the Preferred Share Repayment Amount for the initial five year extension term beginning on December 1, 2015 and ending on November 30, 2020. This change will provide the Board of Directors with the opportunity to make any appropriate changes to the amounts paid on the Preferred Shares in the context of market conditions existing at the relevant time. As there would no longer be a fixed Termination Date for the Company, the Board of Directors believes it important to provide for additional flexibility in this regard.

Fair enough. The dividend rate will not go down for the first extension (and if it doesn’t go up enough, we can take advantage of the 2015 Special Retraction Right. The “minimum dividend rate” appears to be setting up for a potential floating rate with a cap and collar, such as is the case with Canadian Banc Corp.

The monthly retraction formula is being changed in favour of retractors and the manager, to the disadvantage of the continuing shareholders:

Shareholders are being asked at the Meeting to approve a reduction in the discount to net asset value applicable on monthly redemptions of Shares from 4% to 2%. That is, holders of Preferred Shares would be entitled to receive a price per share equal to the lesser of (i) $10.00 and (ii) 98% of the net asset value per Unit determined as of the applicable retraction date, less the cost to the Company of the purchase of a Class A Share in the market for cancellation and less any other applicable costs and holders of Class A Shares would be entitled to receive a retraction price per share equal to 98% of the net asset value per Unit determined as of the applicable retraction date, less the cost to the Company of the purchase of a Preferred Share in the market for cancellation and less any other applicable costs.

It is therefore proposed that the 2% discount would be payable to the Manager to partially compensate the Manager for this reduction in management fees.

The manager has the ability to earn a performance ha-ha fee:

Under the Investment Management Agreement, the Manager is currently entitled to a performance fee equal to 20% of the total return per Unit of the Company for a financial year (which includes all cash distributions per Unit made during the year and any increase in the net asset value per Unit from the beginning of the year after the deduction on a per Unit basis of all fees, other expenses and distributions) that exceeds 112% of the Bonus Threshold. The “Bonus Threshold”, for any financial year immediately following a year for which a performance fee is payable, is equal to the net asset value per Unit at the beginning of that financial year. The “Bonus Threshold”, for any financial year immediately following a year for which a performance fee is not payable, is equal to the greater of (i) the net asset value per Unit at the end of the immediately prior financial year; and (ii) the Bonus Threshold for the prior year, minus the Adjustment Amount. The “Adjustment Amount” for any financial year is the amount, if any, by which the net asset value per Unit at the end of the immediately prior financial year plus dividends paid in that prior year exceeds the Bonus Threshold for that prior year.

It will be somewhat easier for the manager to “earn” a performance fee:

Accordingly, Shareholders are being asked to pass a resolution to approve changes to the Investment Management Agreement to provide for the deletion of the $25.00 Condition and the Ratings Condition. In their place, a new condition would be imposed, such that no performance fee could be paid to the Manager in respect of any fiscal year of the Company unless, at the end of such fiscal year, the net asset value per Unit of the Company was at least two times the amount of the Preferred Share Repayment Amount (representing a minimum coverage requirement of 200% for the Preferred Shares).

The performance fee is nonsensical and constitutes yet another reason not to buy the Capital Units. The return on the fund is going to be overwhelmingly determined by the performance of the benchmark; manager skill is secondary. If they really wanted to be paid for performance, the calculation would depend on the fund performance relative to a benchmark over a period of not less than four years.

But it doesn’t matter to preferred shareholders. Nothing will be payable unless there’s Asset Coverage of at least 2:1, which is fine, and every penny of the fee comes out of the Capital Unitholders’ hide anyway. So who cares?

The final item fraught with interest is the NAV test, whereby there are no distributions to Capital Units if the NAV is less than $15.00. This will remain unchanged.

All in all, it’s a good deal for preferred shareholders. I recommend that Preferred Shareholders vote in favour of the Special Resolution.

April 16, 2014

April 16th, 2014

The BoC kept the overnight rate low, with a fairly gloomy outlook:

Inflation in Canada remains low. Core inflation is expected to stay well below 2 per cent this year due to the effects of economic slack and heightened retail competition, and these effects will persist until early 2016. However, higher consumer energy prices and the lower Canadian dollar will exert temporary upward pressure on total CPI inflation, pushing it closer to the 2 per cent target in the coming quarters. We expect total CPI inflation will remain close to target throughout the projection, even as upward pressure from energy prices dissipates, because the impact of retail competition will gradually fade and excess capacity will be absorbed.

The Bank continues to expect Canada’s real GDP growth to average about 2 1/2 per cent in 2014 and 2015 before easing to around the 2 per cent growth rate of the economy’s potential in 2016. Competitiveness challenges continue to weigh on Canadian exporters’ ability to benefit from stronger growth abroad. However, a range of export subsectors have been growing in line with fundamentals, which suggests that as the U.S. recovery gathers momentum and becomes more broadly-based, many of our exports will benefit. The lower Canadian dollar should provide additional support. We continue to believe that rising global demand for Canadian goods and services, combined with the assumed high level of oil prices, will stimulate business investment in Canada and shift the economy to a more sustainable growth track.

In sum, the Bank continues to see a gradual strengthening in the fundamental drivers of growth and inflation in Canada. This view hinges critically on the projected upturn in exports and investment. With underlying inflation expected to remain below target for some time, the downside risks to inflation remain important. At the same time, the risks associated with household imbalances remain elevated. The Bank judges that the balance of these risks remains within the zone for which the current stance of monetary policy is appropriate and therefore has decided to maintain the target for the overnight rate at 1 per cent. The timing and direction of the next change to the policy rate will depend on how new information influences the balance of risks.

… so the loony got knocked:

The Canadian dollar touched the lowest level in more than a week after the Bank of Canada said its next move on interest rates could be up or down as a forecast pickup in business investment has been slow to materialize.

I saw some husked corn for sale at my favourite greengrocer today; but was told that it was from the US so it will be all dried out. Geez, we can get Chilean apples; why can’t we get Brazilian corn?

It was a good day for the Canadian preferred share market, with PerpetualDiscounts winning 11bp, FixedResets gaining 1bp and DeemedRetractibles up 8bp. Brookfield’s floaters got whacked – probably on the BoC announcement – but otherwise volatility was minimal. Volume was low; all the highlights are FixedResets.

HIMIPref™ Preferred Indices
These values reflect the December 2008 revision of the HIMIPref™ Indices

Values are provisional and are finalized monthly
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 -1.1125 % 2,402.9
FixedFloater 4.68 % 4.23 % 34,104 17.98 1 0.6951 % 3,665.4
Floater 3.03 % 3.15 % 51,027 19.37 4 -1.1125 % 2,594.4
OpRet 4.36 % -4.59 % 33,497 0.13 2 0.0194 % 2,694.2
SplitShare 4.81 % 4.37 % 62,595 4.24 5 0.0238 % 3,087.1
Interest-Bearing 0.00 % 0.00 % 0 0.00 0 0.0194 % 2,463.6
Perpetual-Premium 5.55 % -5.26 % 108,806 0.09 13 0.0091 % 2,384.3
Perpetual-Discount 5.42 % 5.40 % 115,367 14.60 23 0.1087 % 2,484.7
FixedReset 4.68 % 3.65 % 195,634 4.19 79 0.0077 % 2,529.9
Deemed-Retractible 5.03 % -0.82 % 147,382 0.13 42 0.0767 % 2,491.9
FloatingReset 2.64 % 2.41 % 189,387 4.26 5 0.0557 % 2,481.4
Performance Highlights
Issue Index Change Notes
BAM.PR.K Floater -1.48 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-16
Maturity Price : 16.60
Evaluated at bid price : 16.60
Bid-YTW : 3.18 %
BAM.PR.B Floater -1.01 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-16
Maturity Price : 16.65
Evaluated at bid price : 16.65
Bid-YTW : 3.17 %
BAM.PR.C Floater -1.00 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-16
Maturity Price : 16.77
Evaluated at bid price : 16.77
Bid-YTW : 3.15 %
GWO.PR.I Deemed-Retractible 1.01 % YTW SCENARIO
Maturity Type : Hard Maturity
Maturity Date : 2025-01-31
Maturity Price : 25.00
Evaluated at bid price : 22.10
Bid-YTW : 6.03 %
Volume Highlights
Issue Index Shares
Traded
Notes
TRP.PR.A FixedReset 154,340 RBC crossed blocks of 50,000 and 100,000, both at 23.53.
YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-16
Maturity Price : 22.85
Evaluated at bid price : 23.50
Bid-YTW : 3.81 %
TD.PR.G FixedReset 131,900 Called for redemption.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-05-30
Maturity Price : 25.00
Evaluated at bid price : 24.99
Bid-YTW : 4.63 %
MFC.PR.L FixedReset 105,350 Scotia crossed 45,000 and 50,000, both at 24.78.
YTW SCENARIO
Maturity Type : Hard Maturity
Maturity Date : 2025-01-31
Maturity Price : 25.00
Evaluated at bid price : 24.78
Bid-YTW : 4.04 %
BNS.PR.X FixedReset 80,700 Nesbitt crossed 75,000 at 24.99.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-05-25
Maturity Price : 25.00
Evaluated at bid price : 24.99
Bid-YTW : 4.42 %
BMO.PR.O FixedReset 60,040 Called for redemption.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-05-25
Maturity Price : 25.00
Evaluated at bid price : 25.35
Bid-YTW : 1.70 %
BAM.PR.T FixedReset 49,150 RBC crossed 39,200 at 24.88.
YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-16
Maturity Price : 23.28
Evaluated at bid price : 24.71
Bid-YTW : 4.02 %
There were 18 other index-included issues trading in excess of 10,000 shares.
Wide Spread Highlights
Issue Index Quote Data and Yield Notes
ELF.PR.G Perpetual-Discount Quote: 21.47 – 22.14
Spot Rate : 0.6700
Average : 0.4575

YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-16
Maturity Price : 21.47
Evaluated at bid price : 21.47
Bid-YTW : 5.57 %

BAM.PF.B FixedReset Quote: 24.80 – 25.06
Spot Rate : 0.2600
Average : 0.1688

YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-16
Maturity Price : 23.10
Evaluated at bid price : 24.80
Bid-YTW : 4.21 %

BAM.PR.R FixedReset Quote: 25.33 – 25.58
Spot Rate : 0.2500
Average : 0.1650

YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-16
Maturity Price : 23.65
Evaluated at bid price : 25.33
Bid-YTW : 3.97 %

GWO.PR.N FixedReset Quote: 22.15 – 22.50
Spot Rate : 0.3500
Average : 0.2651

YTW SCENARIO
Maturity Type : Hard Maturity
Maturity Date : 2025-01-31
Maturity Price : 25.00
Evaluated at bid price : 22.15
Bid-YTW : 4.44 %

MFC.PR.B Deemed-Retractible Quote: 22.51 – 22.78
Spot Rate : 0.2700
Average : 0.1899

YTW SCENARIO
Maturity Type : Hard Maturity
Maturity Date : 2025-01-31
Maturity Price : 25.00
Evaluated at bid price : 22.51
Bid-YTW : 5.99 %

CIU.PR.C FixedReset Quote: 20.89 – 21.16
Spot Rate : 0.2700
Average : 0.1899

YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-16
Maturity Price : 20.89
Evaluated at bid price : 20.89
Bid-YTW : 3.75 %

BMO.PR.O To Be Redeemed

April 16th, 2014

Bank of Montreal has announced:

its intention to redeem all of its $275,000,000 Non-Cumulative 5-Year Rate Reset Class B Preferred Shares Series 21 (“Preferred Shares Series 21″) on May 25, 2014.

The Preferred Shares Series 21 are redeemable at Bank of Montreal’s option on May 25, 2014, at a redemption price of $25.00 per share. Payment of the redemption price will be made by Bank of Montreal on or after May 26, 2014, upon surrender of the Preferred Shares Series 21.

Separately from the payment of the redemption price, the final quarterly dividend of $0.40625 per share for the Preferred Shares Series 21 will be paid in the usual manner on May 26, 2014, to shareholders of record on May 1, 2014.

Notice will be delivered to holders of the Preferred Shares Series 21 in accordance with the terms outlined in the Preferred Shares Series 21 prospectus supplement.

BMO.PR.O is a FixedReset, 6.50%+458, commenced trading 2009-3-20 after being announced 2009-3-11. The size of the Issue Reset Spread means that the redemption shouldn’t come as a surprise to anyone.

April 15, 2014

April 16th, 2014

Nothing happened today.

It was an off day for the Canadian preferred share market, with PerpetualDiscounts down 7bp, FixedResets losing 11bp and DeemedRetractibles off 5bp. Volatility was minor. Volume was average.

HIMIPref™ Preferred Indices
These values reflect the December 2008 revision of the HIMIPref™ Indices

Values are provisional and are finalized monthly
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 0.2287 % 2,429.9
FixedFloater 4.72 % 4.27 % 33,541 17.93 1 -0.5432 % 3,640.1
Floater 3.00 % 3.11 % 51,033 19.45 4 0.2287 % 2,623.6
OpRet 4.36 % -6.53 % 34,879 0.13 2 0.1358 % 2,693.7
SplitShare 4.81 % 4.39 % 64,765 4.24 5 0.0318 % 3,086.4
Interest-Bearing 0.00 % 0.00 % 0 0.00 0 0.1358 % 2,463.1
Perpetual-Premium 5.55 % -4.53 % 105,697 0.09 13 0.0242 % 2,384.1
Perpetual-Discount 5.43 % 5.39 % 116,527 14.60 23 -0.0730 % 2,482.0
FixedReset 4.68 % 3.65 % 199,362 4.19 79 -0.1147 % 2,529.7
Deemed-Retractible 5.03 % -0.58 % 145,125 0.12 42 -0.0498 % 2,490.0
FloatingReset 2.64 % 2.43 % 192,420 4.26 5 0.0000 % 2,480.0
Performance Highlights
Issue Index Change Notes
TRP.PR.C FixedReset -1.19 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-15
Maturity Price : 22.14
Evaluated at bid price : 22.45
Bid-YTW : 3.65 %
FTS.PR.H FixedReset -1.05 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-15
Maturity Price : 21.32
Evaluated at bid price : 21.61
Bid-YTW : 3.68 %
PWF.PR.A Floater 1.46 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-15
Maturity Price : 19.50
Evaluated at bid price : 19.50
Bid-YTW : 2.71 %
Volume Highlights
Issue Index Shares
Traded
Notes
RY.PR.Z FixedReset 282,650 Scotia bought blocks of 14,000 and 16,600 from Instinet at 25.52 and crossed 35,000 at the same price. RBC crossed 99,900 and TD crossed blocks of 25,000 and 50,000, all at the same price again.
YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-15
Maturity Price : 23.32
Evaluated at bid price : 25.52
Bid-YTW : 3.72 %
TRP.PR.A FixedReset 56,288 TD crossed 50,000 at 23.53.
YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-15
Maturity Price : 22.85
Evaluated at bid price : 23.50
Bid-YTW : 3.80 %
GWO.PR.N FixedReset 54,775 Nesbitt crossed 50,000 at 22.40.
YTW SCENARIO
Maturity Type : Hard Maturity
Maturity Date : 2025-01-31
Maturity Price : 25.00
Evaluated at bid price : 22.30
Bid-YTW : 4.37 %
TD.PR.K FixedReset 52,334 RBC crossed 50,000 at 25.31.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-07-31
Maturity Price : 25.00
Evaluated at bid price : 25.27
Bid-YTW : 1.69 %
TD.PR.I FixedReset 51,979 TD crossed 40,000 at 25.30.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-07-31
Maturity Price : 25.00
Evaluated at bid price : 25.29
Bid-YTW : 1.42 %
CU.PR.G Perpetual-Discount 43,207 TD crossed 25,000 at 21.80.
YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-15
Maturity Price : 21.39
Evaluated at bid price : 21.72
Bid-YTW : 5.23 %
There were 30 other index-included issues trading in excess of 10,000 shares.
Wide Spread Highlights
Issue Index Quote Data and Yield Notes
FTS.PR.H FixedReset Quote: 21.61 – 21.89
Spot Rate : 0.2800
Average : 0.1896

YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-15
Maturity Price : 21.32
Evaluated at bid price : 21.61
Bid-YTW : 3.68 %

IGM.PR.B Perpetual-Premium Quote: 25.93 – 26.15
Spot Rate : 0.2200
Average : 0.1446

YTW SCENARIO
Maturity Type : Call
Maturity Date : 2017-12-31
Maturity Price : 25.25
Evaluated at bid price : 25.93
Bid-YTW : 5.00 %

POW.PR.D Perpetual-Discount Quote: 23.15 – 23.39
Spot Rate : 0.2400
Average : 0.1647

YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-15
Maturity Price : 22.89
Evaluated at bid price : 23.15
Bid-YTW : 5.42 %

TRP.PR.E FixedReset Quote: 25.30 – 25.45
Spot Rate : 0.1500
Average : 0.0927

YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2044-04-15
Maturity Price : 23.22
Evaluated at bid price : 25.30
Bid-YTW : 3.88 %

BNS.PR.K Deemed-Retractible Quote: 25.35 – 25.56
Spot Rate : 0.2100
Average : 0.1531

YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-05-28
Maturity Price : 25.00
Evaluated at bid price : 25.35
Bid-YTW : -8.51 %

GWO.PR.I Deemed-Retractible Quote: 21.88 – 22.08
Spot Rate : 0.2000
Average : 0.1438

YTW SCENARIO
Maturity Type : Hard Maturity
Maturity Date : 2025-01-31
Maturity Price : 25.00
Evaluated at bid price : 21.88
Bid-YTW : 6.15 %