U.S. Floating Rate Notes

The Treasury Department is continuing the discussion of floating rate Treasury notes it intends to begin issuing within the next year. One of the items still open for discussion is the choice of the index to which the coupon rate will be tied. Industry representatives seem to prefer the repo rate, which is calculated using repurchase agreements. Repurchase agreements are the simultaneous sale of a security with the agreement to buy the security back in the future at a higher price. Repos are generally short-term, often overnight. The second choice for the index appears to be three-month Treasury bills. The Treasury bill rate is less volatile and more transparent. Given the recent problems with LIBOR and EURIBOR rates, Treasury bill rates offer less opportunity for similar market manipulation.

Want A Big Mac? Stay Away From Venezuela

The Economist has come out with the January 2013 Big Mac Index. Leading the way is Venezuela, whose currency is overvalued by more than 100 percent according to the the index. The map with the currency valuations relative to the U.S. dollar is interesting since many of the undervalued currencies are in Asia and Eastern Europe. The average price of a Big Mac in the U.S. was $4.37, while it was only $2.57 in China. Both the Indian rupee and South African rand were undervalued by more than 50 percent.

The Option To Contract

The U.S. Post Office announced its intention to take advantage of the option to contract when it announced that it would eliminate Saturday delivery. By eliminating Saturday mail delivery, the Post Office expects to save $2 billion per year.

Justice Department Sues S&P

The Justice Department (DOJ) announced that it was suing credit rating agency S&P for "Knowingly and with the intent to defraud, devised and participated in and executed a scheme to defraud investors." in the company's rating of mortgage backed securities. S&P argued that not only did it not intend to defraud, but that Moody's and Fitch, which were not sued, had similar ratings on the bonds. The absence of Moody's and Fitch from the lawsuit has led to speculation that the S&P lawsuit is payback for the downgrade of U.S. government bonds by S&P in August 2011. The DOJs lawsuit argues that S&P should have updated its computer models to LEVELS 6.0 from LEVELS 5.6, which would have reduced the credit rating for at least some of the bonds.

Executive Pay And Bond Ratings

So what determines a bond's credit rating? There are a lot of factors including the debt-equity ratio, liquidity ratios, industry forecasts, etc. The Jeffries Group recently paid its top executives a total of $78 million, including $19 million to chief executive Richard B. Handler. In general, bond ratings are not directly affected by executive compensation. However, in this case, Moody's warned that the Jeffries Group bond rating was "credit negative," meaning that the pay could result in a downgrade on the company's bonds. Moody's felt that the pay could result in excessive risks at the company.

Capital Ratio

In the text, we discuss a number of financial ratios. These are only some of the most common ratios and, in fact, there are many different financial ratios. For example, the capital ratio, or capital adequacy ratio, is used by banks, regulators, and investors to determine a bank's ability to meet its liabilities. The ratio is calculated as the bank's core capital divided by its risk weighted assets. Banks will soon be required to reveal more about how the calculation is done by the bank. As with any ratio, it is possible to manipulate the outcome. For example, even though Deutsche Bank lost €2.5 billion ($3.4 billion), its capital ratio increased because the bank changed the method it used to calculate the risk weighted assets. The moral of the story: The interpretation of any ratio depends on how it is calculated. To understand the ratio, you must know exactly how the numbers used in the calculation are derived.

Pension Writeoffs

Low interest rates have caused large noncash charges at AT&T ($10 billion), Verizon Communications ($7 billion), and UPS ($3 billion). The low market interest rate caused the present value of pension liabilities to increase. In AT&T's case, a one percent change in the discount rate resulted in a $12 billion loss, which was partially offset by an increase in the value of the pension assets. The losses are accounting charges, which other than tax effects, will not directly affect cash flows.