August Outlook
August 11, 2020  |  By Hank Cunningham

The rebound in economic activity continues, underwritten by massive monetary and fiscal stimulus. There is a possibility of even more fiscal stimulus. While recent gains in employment are impressive, it is likely that there will be a tapering off of job gains. However, approximately 50% of lost jobs have come back and consumer confidence is high. This argues for further steady improvement in economic performance.

The Fed’s quantitative easing and easy monetary stance have anchored Government bond yields close to all-time lows. Recently, however, there are signs that the tsunami of Government bond issuance to fund the giant fiscal shortfall is nudging these yields higher.

To this date, demand for investment grade corporates has proven to be insatiable, driving yields down to 2.55% while high yield issuance has brought yields to the 4.5-5% range.

The dramatic decline in corporate yields may pause here while the market eyes the forthcoming avalanche of Government bond supply. In addition, traders will cast a wary eye on inflation. The likely outcome will be little change in yields in the coming months.

GDP forecasts point to global growth of -4% in 2020, with the U.S. and Canada forecast to grow at -6% and -6.8% respectively, rebounding in 2021 by plus 4.7% and 5.5% respectively. 

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August Preferred Shares Update
August 10, 2020  |  By Hank Cunningham

Recently, the preferred share market has attracted a significant bid, with an accompanying price rally. ZPR, a popular preferred ETF, has surged some 45% since its low in March.

The catalyst for this change was the introduction of a Tier 1 financing method for the chartered banks. The specific issue that kicked this rally off was the $1.75 billion Royal Bank 4.54% due November 24 2080. This is a Limited Recourse Capital Note (LRCN) and was only sold to institutional investors. As the interest is a tax deduction for RBC, its effective capital cost was 3.1%.

The Office of the Superintendent of Financial Institutions (OSFI) has encouraged this type of financing as opposed to the use of bail-ins in the retail preferred share sector. Immediately, and assuming the other banks follow suit, it brings into play the prospect of certain rate-reset preferred shares being called.

In an excellent and well-attended presentation on Thursday, July 30, Phil Mesman of Picton Mahoney walked through this new approach and indicated, in his view, that there remains the possibility of further opportunities in the preferred market. There are many variables to consider, most importantly is whether the other banks will follow suit once they emerge from their earnings blackout period. This makes it difficult to offer specific advice to investors.

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