Notes From Underground: Swiss go CucKOO for COCOs

Something to put on your radar screens for the new year: contingent capital, or CoCo bonds. These instruments are contingent convertible and will be a very respected form of TIER 1 capital under the foggy regulations of Basel 3. The regulators like these instruments as they are DEBT that converts to equity if/when the bank-in-question’s equity/capital ratio falls below a certain level. Rather than the BOND holders getting a free ride and the equity owners bearing the burden with an equity raise, the CoCos will automatically convert to EQUITY, which will lower the level of DEBT and increase equity capital to a regulatory acceptable level. Credit Suisse announced it’s going to do a $30 billion CoCo so you can be certain that other large multinational banks will be joining in. It has yet to be determined what effect CoCos will have on the markets overall. If its popularity catches on, as I suspect, it could provide a boost to the global behemoths as it would lower the need to float more stock to reach the needed capital levels.

The U.S. data train is in full force Tuesday as retail sales are announced at 7:30 a.m. CST. The market is looking for a 0.7 percent increase in the core number and 0.6% percent, excluding autos. The PPI will be released simultaneously and the consensus is for a headline of 0.6 percent and core 0.2 percent. If there is a surprise it would seem that the retail sales number will be higher as the holiday season responds to the rally in the equity markets and Bernanke can get a positive result from the “wealth effect.”

Later in the day we get the FOMC announcement and there are no great surprises expected. The FED will tell us that the QE2 is available, if needed, employment remain weak, inflation is worrisome on the downside, and the equity markets are sensing better growth. Jobs will be the mainstay of the discussion so the extended period will remain. If there was a surprise, it would be that the FED will accelerate the QE2 purchasing as some conspiratorial types have raised the issue that chairman Bernanke will rush to put in place all the voted-upon stimulus ahead of RON PAUL taking over the reins of FED OVERSIGHT.

It is an interesting point but I don’t think the FED chairman is that type of controversial soul. The FOMC voting members will change for the new year and some of the previous more hawkish non-voters will now be voting members. If unemployment had not jumped to 9.8 percent in November, the tone of the meeting may have been more adversarial from the hawks but it should be all quiet on the Eastern Front. The fact that long rates have backed up 50 basis points on the long end should give everyone at the table pause to reflect. Steady as she goes!

The most important new story today was the speech by Bank of Canada Governor Mark Carney. I advise everyone to read the speech, “LIVING WITH LOW FOR LONG.” This is a clear, concise statement about the global economy and its impact upon Canadian growth prospects. Carney warns Canadian households about taking on too much DEBT just because rates are low. The RBC is worried that household debt is growing faster than incomes. Just because rates are presently low does not mean that will always be. Carney also warns about “evergreening”–when businesses borrow at low rates to pay interest as they cannot make the principle, thus stating current but really having a stressed balance sheet.

Overall,the RBC will leave rates low as long as inflation is within the allowed range. Also, Carney is still very concerned about the U.S. and the fallout from the European sovereign debt crisis. Interesting that on Friday’s CANADIAN TRADE BALANCE, it was revealed that Canadian exports to the U.S. (as a percentage of Canadian trade) were at the lowest level since 1988–70 percent, down from 75.2 percent in June. The Canadians have done a good job of seeking other markets as exports to the EU rose to 10.5 percent, the highest since JULY 1981. While the world is in turmoil, Canada is seeking new ports and calmer seas.

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3 Responses to “Notes From Underground: Swiss go CucKOO for COCOs”

  1. Arthur Says:

    Thank you so much for the reading recommendation. Mark Carney has done a very good job. Let me point out four highlights:

    1) Current turbulence in Europe is a reminder that the crisis is not over, but has merely entered a new phase.

    2) The international monetary system is sliding towards a massive dollar block.

    3) The adjustment will come through inflation in emerging economies and disinflation in major advanced economies.

    4) Advanced economies and may necessitate further rounds of quantitative easing

  2. yra Says:

    arthur–i am still not putting you on the payroll–but glad you added the note for otherwise the blog gets too long–again thanks

  3. Arthur Says:

    An INTERNSHIP would be enough. Thanks!

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