10 Responses to “October 10, 2008”

1. lystgl says:

   October 10, 2008 at 9:19 pm

   Lawrence Olivier to Dustin Hoffman in “Marathon Man” – “Is it safe”?

2. prefhound says:

   October 11, 2008 at 12:32 pm

   BNA.PR.B had a positive day! Wonder why?

   A re-read of the prospectus indicates these are retractible any time for $25 less 5% of NAV less $1.00, which might be about $21.30 ($25 – 5%x$54 Est – 1) these days — a heck of a lot better than $19. Retraction has to be based on month end valuation, so could change in the next two weeks. Any comment on the prospect of actually getting retraction?

   BNA.PR.C, on the other hand, is retractible for a debenture yielding only slightly more — but, more importantly, ranking higher in priority than the prefs. Unfortunately said debentures are limited to 5% of NAV (I think) and not marketable. Is it worth retracting to improve one’s standing in the pecking order? Any other thoughts on this feature?

   btw I looked at BAM options. Based on Oct 10 closing at C$21.75, the Jan 2010 at the money put implied volatility was 72%. Since BNA.PR.B/C have maturity dates further out than 2010 (7.5 and 10.25 years respectively), I looked at implied volatility of 72% and 36%:

   Short put values for BNA.PR.B: $9.09 at 72% or $2.11 at 36%
   BNA.PR.C: $9.79 at 72% or $2.58 at 36%

   36% volatility seems more realistic — higher in the near term, but hopefully lower in the middle to longer term. Thus about $2 of these pref values can currently be attributed to the short put — but this is offset by the retractible features discussed above.

3. Louis says:

   October 11, 2008 at 1:17 pm

   “Unbelievable” indeed but my purpose here is not to cry over spilt milk (there is just so much tears one can produce) but to run by you a possible “solution” to the present turmoil since you are the most knowledgeable and reputable person I know on Economy and Financial matters patient enough to read and reply to its assiduous readers.

   The underlying basic idea here is not from me but I will expand a bit on it. Should you find it worth to be explored, discussed and publicised in one of your blog’s daily comments or elsewhere, I would be more than happy. My only purpose here is trying to spread what I do verily believe would greatly assist a prompt mitigation of the damages the present crisis is causing all of us:

   1. Whatever is the true cause of the current mess, it is clear to me that loss of confidence and panick is making things worse to a point that this is what be addressed to first.

   2. Anedoctolly but not totally out of topic, the number #1 request received this week over and over by the legal department of a finanical institution here in the Province of Quebec was whether a type of deposit, GIC or other instrument was insured by the Canadian insurance deposit. In my humble opinion, the decision of the US and of some European States to increase deposit insurance to 200k or to an unlimited amount was not a good idea at all. While it may have been justified to increase deposit insurance to a certainl level when a bank in difficulty was raided. It should have been done on a bank by bank basis with a reasonable limit (The US 200k figure in the US is ok in that respect). This being said, I hereby grant the “how-to-exacerbate a panick award” to the Irish government and its followers. In my humble opinion, one effect of their unlimited guarantee on all bank deposits has been to put in everyone’s mind the fear that the banking situation must indeed be so bad that even bank deposits, in whichever bank they are, are in jeopardy. It is also my understanding that having huges some of money in bank deposits rather than directly invested by their depositors into securities (corporate obligations, shares, prefs, etc.) is far less beneficial to the economy since, unlike investors, banks must maintain minimal reserves for each amount deposited and simply do not have the staff to promptly re-invest the remainder of such monies into the market as investors normally do.

   While the majority of the educated investors still believe that U.S bonds are an extremely safe investment there might very well be someone in China managing a couple of trillion dollars in value of US bonds who might (rightfully in my opinion) fear that the US deficits, war expenses and trillions invested to salvage their financial system will at some point cause a drop of the US notes credit dropping such that more and more people are now likely to seek shelter in bank deposits. I even read / heard “said to be renowned financial analysts” that putting your savings under your mattress was the safest thing to do… (those too deserve one of my awards, let’s call it the “I-did-help-too-scuttling-our-economy” award).

   3. Ironically, govermental insurance is the solution but not on deposits beyond the figure a normal houselhold / small cap company should maintain!

   4. If I understand correctly, the banking system is so nervous itself that banks do not lend to each other at a reasonable costs for short term interbank loans thus depriving again the market of large amounts of much needed liquidities. This situation has all the potential of plunging us in a quick and deep depression. If a company cannot have short term credit as a result of this, it can only lay off employees, cut spendings, what will in turn drag into the same situation their suppliers, etc…

   5. The TED spread, which is the difference between what banks charge each other for three-month dollar loans (three-month Libor) and what the government pays (three-month T-Bill) is now at 4.64%. For comparison, the TED spread averaged 0.36% in 2006. This is, in my humble opinion(and in the opinion of far more educated & knowledgeable people than I am), what has to be fixed WITHOUT ANY FURTHER DELAYS. Whatever are the merits of Paulson’s 700 billion plan which I still don’t fully understand, its effects are way too slow as evidenced by what we have been through this week.

   6. Why then not provide governmental insurance to these interbank loans such that the money between banks resume flowing thus allowing them to resume lending more money at more reasonable prices?

   7. My limited contribution to this proposed solution is to expand on it suggesting that this governemental interbank (or inter-financial institutions) loan insurance would provide insurance of the interbank loans up to say 90 or 95% of the loan value (just to make sure that the banks do a little bit of their homeworks) PROVIDED that the loan is made at a maximum TED spread of say 0.50% plus say 0.10% as premium payable to the government for the provision of such insurance. This measure could overnight lower the TED spread from its current 4.6% to 0.60%, using my above figures pulled out from my hat. This would fix what the Central Banks’ joint rate cut of 0.50% of last week failed to achieve.

   7. This solution could be put into place in a matter of days thus allowing banks to resume lending to the non-financial market in a more normal way.

   Mr. Hymus, what do you think? If you agree, please help whoever had that basic idea first (I unfortunately don’t know who should be praised for it) bringing it to the attention of the Paulsen’s, Bernanke’s, Flaherty’s etc. of this world. If you have direct access to them, I will be more then happy to reimburse you the long distance charges. If not, let’s try to make as much public noise about it as we can as I fear we are running out of time.

   Best regards,

4. Annette says:

   October 12, 2008 at 5:43 pm

   I take it that this is amongst the measures taken by the Europeans this Sunday to guarantee interbank loans. Is this something the US should do too?

5. PrefBlog » Blog Archive » Weekend Bank Rescues says:

   October 13, 2008 at 1:33 pm

   […] Reader louis made a very good suggestion in the comments to October 10 that is worthy of being highlighted – particularly in the light of the extraordinary policy actions […]

6. jiHymas says:

   October 13, 2008 at 1:43 pm

   prefhound … I see that following the European bail-outs and the Fed action in flooding the system with money, BAM is up over 11% in New York today … your NAV figures will have to be redone!

   Many split-share corporations have a monthly retraction feature that looks extremely interesting as of Sept 30 … and, I assume will be absolutely fascinating using October 10 numbers. This will be the topic of my next article in Canadian Moneysaver … it will be most interesting to see what amount of delevering happens between now and year-end!

7. prefhound says:

   October 13, 2008 at 6:36 pm

   It is nice that BAM has moved up with the market today, but the larger driver of an out-of-the-money put value is the assumed volatility (which is certainly not reduced by the largest up day in 69 years!)

   Meanwhile, I shall hope that pref share yields can follow Libor down rapidly and erase recent losses.

   But, I am interested in your thoughts about whether it is worthwhile to retract BNA.PR.C — not for cash, but for an unmarketable debenture paying only slightly more (4.45 vs 4.35% on the pref face value) and tax-disadvantaged (though it could be held in an RRSP without tax disadvantage) BUT ranking higher in the financial pecking order in the event of a market collapse.

8. jiHymas says:

   October 13, 2008 at 7:07 pm

   I am interested in your thoughts about whether it is worthwhile to retract BNA.PR.C

   Assiduous Reader prefhound is referring to a mechanism that is summarized as:

   Class AA Series 3 Preferred Shares may be surrendered for retraction at any time. The Class AA Series 3 Retraction Price will be equal to the lesser of (i) Net Asset Value per Unit (ii) $25.00. Retraction Consideration will be a number of Series 1 Debentures determined by the dividing the Retraction Price by $25.00.

   The Series 1 Debentures will have a principal amount of $25.00 per debenture and will mature on January 10, 2019. Holders of the Series 1 Debentures will be entitled to recieve quarterly fixed interest payments at a rate of 4.45% per annum paid on or about the 7th day of March, June, September and December in each year. The Series 1 Debentures shall be redeemable by the Company at any time. The Series 1 debentures may not be retracted.

   I would say no. Not until there was some actual company news from BAM that would lead me to believe that the principal was actually in danger. At the moment, with BAM.A getting pounded, and an asset coverage ratio in excess of 2:1 despite that pounding, I don’t see any big need to retract.

   I’m more interested in the potential for retractions of BNA.PR.A and BNA.PR.B!

9. prefhound says:

   October 13, 2008 at 9:27 pm

   BUT, the retractibility of BNA.PR.C is limited to 5% of NAV — so it is important to be first in line for retracting into debentures. If we wait, everyone will want to retract (it is only permitted monthly). Furthermore, the payment of debenture interest will take priority over other pref dividends, so would be safer in the event BAM reduced its dividend. At $13 BNA.PR.C as a debenture would yield 13.0% to maturity in 10.25 years — a junk bond yield from good quality debt. Perhaps the debentures would be sufficient annoyance to BAM Split and its sponsors that they would redeem early.

   BNA.PR.B retraction seems to be a no-brainer for me (which is why I closed that half of a short BNA.PR.B / long BNA.PR.C “arbitrage” trade last week at $17.10). Buy at $19.5 (mid of bid/ask) and tender for something like $21. If lots of folks do this AND it doesn’t have an adverse effect on BAM when BAM split responds by selling BAM (rather than the also permitted writing call options on BAM), then the capital units (and hence NAV) benefit by the 5% plus $1.00 discount to NAV imposed on the BNA.PR.B retractor. This makes more sense at $17 than $19.50, but seems a nice 1-month trade. We had such a sharp rally in BNA.PR.B last week, that a few folks may have gotten the idea.

   BNA.PR.A retraction seems hardly worth it. Again, it is monthly (at a different Valuation date in mid-month, instead of the 30th for BNA.PR.B/C) with a 5% NAV + $1.00 discount. At 2.4X asset coverage ($60 NAV; $24 BAM) this is about $25 – 5%*60 – 1.00 = $21.00 for a pref closing Friday at Bid $20 ask $22.97, there is likely no benefit.

   Furthermore, I bet all this changes daily this week! Such is life for a thinly traded pref in a super volatile market for both prefs and BAM.

10. prefhound says:

    October 13, 2008 at 9:57 pm

    I forgot to add that, even in taxable accounts, a debenture from BNA.PR.C will have a better-than-income after-tax return — there is a huge capital gain component providing deferred tax at a lower rate.

    BNA.PR.C gross IRR = 12.84%; after tax of 28% on dividends 23.125% on capital gains IRR = 9.4% (BEY = 13.2% at a factor of 1.4X)

    Debenture gross IRR = 13.0%; after tax of 46.25% on interest and 23.125% on capital gains IRR = 8.1%.

    Thus, the real trade-off for the debenture vs pref is 1.3% lower after-tax IRR (gain of 16 bp in an RRSP) and lack of marketability for a decade in exchange for for higher priority in bad scenarios.

    For comparison, TCA.PR.Y yields 6.4% and may not be redeemed, while 8-year TransCanada Pipe debt yields 6.4% (maybe 6.8% at 10-year) — similar gross returns, but proportionally higher taxes on the debt (less of a discount to par). However, TransCanada has lots of debt while BAM split would have very little. In TransCanada’s favor, the debt is at least marketable.

    Can you say what your view is on an appropriate yield premium for non-marketable debt of a public company would be?