Underfunding Pension Funds and Senior Bank Bondholder Haircuts
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Posted 18 July 2012 - 08:47 AM
The WSJ reports that the European Central Bank, in a sharp turnaround, has advocated imposing losses on holders of senior bonds issued by the most severely damaged Spanish savings banks, though finance ministers have for now rejected the approach, according to people familiar with discussions.The ECB’s new position was made clear by its president, Mario Draghi, to a meeting of euro-zone finance ministers discussing a euro-zone rescue for Spain’s struggling local lenders in Brussels the evening of July 9. It marks a contrast from the position the central bank adopted during the 2010 bailout of Irish banksIf these bank bondholder impairments are for real (?) this will mark the light the end of the tunnel for Spain, and any of the other PIGGS who go this route. The shrinkage and liquidation of many of these albatross banks will be a liberation and bullish. I would look to buy non-financial Spanish stocks like TEF. Unfortunately the Finance Ministers involved aren’t interested. Further as this story evolved the impact will only be applied to smaller, less connected, “less critical” banks.This bears watching as European stocks are now a huge discount to US stocks.Back in the USA, the pension funds are even more underfunded and damaged from ZIRP. Aggravating this even further is the pension have dove right into the bond bubble increasing exposure. In the case of states and localities the rating agencies are repeating their behavior during the mortgage fiasco.S&P: The U.S. equity market, as measured by the S&P 500, showed flat performance in 2011. Combined with the S&P Global BMI non-U.S.decline of 16.6% and lower interest rates, this flat market has significantly reduced S&P 500 pension funding, resulting in record liabilities and record underfunding. Year-over-year comparisons from 2010 to 2011 indicate:-Pension underfunding increased to USD 355 billion from USD245 billion.-The pension funding rate decreased to 78.8% from 83.9%.-The expected return rate declined to 7.60% from 7.73%.Funds reduced equity exposure and increased fixed income exposure in an attempt to manage forward risk from markets.-Equity allocations declined to 48.4% from 51.0%.-Fixed income allocations increased from 35.9% to 40.9%.As investor chase some yield, regulated utilities are selling at a 15 PE and yielding 4.1%. Payout ratios are nearly 70% of slow-growing earnings, making this sector just one more example of overpriced chasing of yield.Using more fairy dust of cutting capex, headcount, and stock buybacks: 73% of companies reporting so far have surprised positively on EPS while 65% have surprised negatively on revenues.
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