Fed Says Dealers Tighten Terms on Hedge-Fund Security Trades

December 29, 2011, 11:22 PM EST By Scott Lanman and Matthew Leising

(Updates with interest-rate swap spread in seventh paragraph.)

Dec. 29 (Bloomberg) -- Wall Street dealers made it tougher for hedge funds to finance trading of securities and derivatives in the three months through November, a Federal Reserve survey showed today.

Responses “indicated a broad but moderate tightening of credit terms applicable to important classes of counterparties,” especially hedge-fund clients, trading real estate investment trusts and nonfinancial corporations, according to the quarterly survey of senior credit officers at 20 dealers covering the period of September to November. The central bank released the report in Washington.

The report adds to evidence of stress in the financial system from Europe’s sovereign-debt crisis. Investor concern about the continent’s turmoil has helped drive the premium banks pay to borrow dollars to the highest in more than two years. The Fed survey didn’t discuss causes of the tighter financing terms.

Respondents reporting tougher borrowing terms for hedge funds “most frequently pointed to a worsening in general market liquidity and functioning and to reduced willingness to take on risk and, to a lesser extent, adoption of more-stringent market conventions and deterioration in the strength of counterparties as the reasons,” the Fed said.

Credit Limits

The Fed’s Senior Credit Officer Opinion Survey on Dealer Financing Terms was conducted from Nov. 15 to Nov. 28. Respondents, who aren’t identified, “account for almost all of the dealer financing of dollar-denominated securities for nondealers and are the most active intermediaries” in over-the- counter derivatives markets, the Fed said.

Measures of stress in credit markets soared during the three-month period surveyed to the worst levels in more than two years as Europe’s fiscal imbalances intensified, fueling concern that the region’s upheaval would taint bank balance sheets globally,

The U.S. 2-year swap spread rose 40 percent in the three- month period to 41.55 basis points as of Nov. 30 after peaking at 59.25 on Nov. 22, according to data compiled by Bloomberg. The difference between the two-year swap rate and the comparable-maturity U.S. Treasury note yield expanded to 48.63 basis points today.

Another signal of weakness in the banking system, the spread between the three-month London interbank offered rate, or Libor, and the overnight index swap rate, has more than doubled in four months to 0.49 percentage point today. That’s the widest since May 2009, as financial markets were still recovering from the collapse of Lehman Brothers Holdings Inc.

Interbank Lending Divergence

While the Fed said today that 80 percent of dealers reported lowering credit limits for some specific financial- institution counterparties, evidence grew that banks were growing more wary of lending to each other.

The gap between the highest and the lowest rates that banks say they can borrow from each other in dollars is close to a 2.5-year high.

The divergence from reported fixings by the 18 banks contributing to the three-month London interbank offered rate reached 28 basis points today, within two basis points of the widest since May 2009. Libor for three-month loans climbed to 0.581 percent, the most since July 2009, even as central banks injected cash into the market.

U.S. economic data released today may point to some easing of terms for bank customers as the world’s largest economy improves. Companies cranked out more goods in December and pending sales of existing homes jumped in November for a second month.

‘Signs of Life’

The Institute for Supply Management-Chicago Inc. said its business barometer was little changed at 62.5 from a seven-month high of 62.6 in November. The index of signed contracts to buy previously owned houses rose 7.3 percent after climbing 10.4 percent the prior month, the National Association of Realtors said. Both figures surpassed the median estimate of economists surveyed by Bloomberg News.

“2011 is ending on a solid note,” said Ryan Sweet, a senior economist at Moody’s Analytics Inc. in West Chester, Pennsylvania, who forecast a reading of 63 for the Chicago index. “Manufacturing has some momentum,” he said, and “we’re starting to see some signs of life in housing.”

Combined with a drop in firings over the past month and improving consumer confidence, the data show the world’s largest economy may be strengthening enough to fend off major damage from the European debt crisis. Stocks rallied, buoyed by the stronger-than-projected readings and by a decline in Italian borrowing costs and a benchmark gauge of U.S. company credit risk dropped to a three-week low.

Corporate Credit Risk

The Markit CDX North America Investment Grade Index of credit-default swaps, which investors use to hedge against losses on corporate debt or to speculate on creditworthiness, declined 2 basis points to a mid-price of 119.9 basis points at 4:52 p.m. in New York, according to data provider Markit Group Ltd.

The swaps index, which typically falls as investor confidence improves and rises as it deteriorates, has declined from 127.8 on Nov. 30. It rose from 114.5 at the end of August to 150.1 on Oct. 3, the highest level since May 2009.

Credit swaps pay the buyer face value if a borrower fails to meet its obligations, less the value of the defaulted debt. A basis point equals $1,000 annually on a contract protecting $10 million of debt.

The Standard & Poor’s 500 Index climbed 1 percent to 1,263.02 at 4:33 p.m. in New York. The yield on the benchmark 10-year Treasury note fell two basis points, or 0.02 percentage point, to 1.9 percent, according to Bloomberg Bond Trader prices.

Dealer Report

The Federal Reserve began querying dealers in 2010 as part of efforts to boost surveillance of financial markets following the panic of 2007-2008 that caused the worst economic downturn since the Great Depression.

The prior survey, covering June through August, showed that 86 percent of respondents reported that the number of dealers tightening financing rates outnumbered those easing.

The latest responses “reflect an apparent continuation and intensification of developments already in evidence in the September survey,” the Fed said today. About one-third of respondents tightened pricing terms, such as financing rates, to hedge funds, while one-fourth reported tightening nonprice terms including maximum maturity, the central bank said.

Hedge Fund Leverage

At the same time, more than half of dealers “indicated that hedge funds’ use of financial leverage, considering the entire range of transactions with such clients, had decreased somewhat over the past three months,” the Fed said.

The Fed survey also found that liquidity and functioning were little changed in the U.S. Treasury securities market since the second quarter, while one-fifth of respondents said equity- market functioning had “deteriorated somewhat.”

The European Central Bank’s balance sheet ballooned this month to a record 2.73 trillion euros ($3.53 trillion) on a surge in loans to financial institutions. The ECB last week awarded 523 banks three-year loans totaling 489 billion euros to encourage lending to companies and households and prevent a credit shortage.

The Fed’s balance sheet has also increased this month to a record, reaching $2.92 trillion last week, on dollar loans to European banks through currency-swap lines.

The ECB this month cut its benchmark interest rate to 1 percent, matching a record low, as the debt crisis threatened to engulf Italy and Spain, the euro area’s third- and fourth- largest economies. The Fed has been considering further measures to ease U.S. borrowing costs and protect the economy from the European turmoil.

--With assistance from Bob Willis in Washington and Anchalee Worrachate in London. Editors: Pierre Paulden, Alan Goldstein

To contact the reporters on this story: Scott Lanman in Washington at slanman@bloomberg.net; Matthew Leising in New York at mleising@bloomberg.net

To contact the editors responsible for this story: Carlos Torres at ctorres2@bloomberg.net; Alan Goldstein at agoldstein5@bloomberg.net

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GAO to Retirees: Delay Social Security

July 01, 2011, 11:01 AM EDT By Margaret Collins

(Updates with additional comment from Harvard economics professor Laibson in 18th paragraph.)

July 1 (Bloomberg) -- Retirees may have to delay Social Security benefits and buy an annuity to have enough money for retirement, said a U.S. government study.

“The risk that retirees will outlive their assets is a growing challenge,” according to a study from the Government Accountability Office released today. Increased life expectancies and health-care costs coupled with declines in financial markets and home equity over the last few years have “intensified” workers’ concerns about how to manage their savings in retirement, the report said.

Annuities are insurance contracts that can offer a steady stream of income for life. High-income households generally don’t need them, according to experts the GAO consulted. Middle- income households, defined in the study as having a net worth of about $350,000 including their homes, that don’t have traditional pensions should consider using a portion of their savings to purchase an inflation-adjusted annuity, the study said. Lower-income families need to accumulate some cash savings first.

The study recommended that retirees make withdrawals from their investment portfolios at a rate of 3 percent to 6 percent annually. Many also should wait to take Social Security until at least the full retirement age, or 66 for those born from 1943 to 1954.

Tremendous Benefits

The Social Security program lets recipients take reduced payments as early as age 62. It provides full benefits at age 66 and increases payouts for those who wait up to age 70. Almost three-quarters of individuals took payouts before age 65, the GAO said. Monthly benefits received at age 70 are increased by at least 32 percent compared with taking them at 66, according to the study.

“The benefits are tremendous especially if you’re married and the higher wage earner waits until 70,” said Christine Fahlund, senior financial planner at T. Rowe Price Group Inc. The amount retirees receive each year almost doubles from age 62 to age 70 in terms of purchasing power, Fahlund said. As long as retirees live to age 77, delaying payments until age 70 is usually worth it, said Fahlund.

Social Security’s trustees said in May that it wouldn’t be able to pay recipients in full beginning in 2036. The bipartisan U.S. deficit commission has recommended increasing the retirement age to cut costs.

Can’t Cover Expenses

The GAO study was requested by Senator Herb Kohl, a Wisconsin Democrat and chairman of the Senate Special Committee on Aging. The shift by employers from traditional pension plans, which generally guarantee income for life, to 401(k) savings accounts has put more responsibility on Americans for managing their “hard-earned savings” during retirement, Kohl said.

Almost half of those near retirement are predicted to run out of money and won’t be able to cover their basic expenses and uninsured health-care costs, July 2010 data from the Washington- based Employee Benefit Research Institute show. A husband and wife who are both 65 years old have about a 47 percent chance that at least one of them will live until 90, the GAO report said.

An immediate annuity can protect retirees from the risk of outliving their savings, according to the study. For example, a contract purchased for $95,500 by a 66-year-old couple in Florida may provide $4,262 a year until the death of the surviving spouse and include increases for inflation, the report said. Six percent of workers with a 401(k)-type plan opted for an annuity at retirement, said the study.

Resistance to Annuities

Americans have resisted buying annuities for reasons including concern about fees and the desire for control of assets, said David Laibson, an economics professor at Harvard University. Employers have held off on adding them to 401(k) savings plans because they’re worried about litigation and lack clarity on how to proceed, Laibson said.

“The problem right now is interest rates are so low you’re not getting a great return for that chunk of cash you’re handing the insurance company,” said Liz Weston, author of “The 10 Commandents of Money.” That’s why retirees may want to purchase a contract with some of their money now and buy another in the future when rates may be higher, said Weston, who’s based in Los Angeles.

The Labor and Treasury departments are considering ways to encourage lifetime-income options in 401(k)-type plans, including showing the potential income streams from account balances in participants’ statements.

“We anticipate issuing our first set of relevant guidance or rules in this area later this year,” Assistant Secretary of Labor Phyllis Borzi said in an e-mail.

State Street, BlackRock

Asset managers and insurers understand that annuitization may need to be part of the retirement savings system as people live longer and have fewer defined benefit pension plans, said Harvard’s Laibson. “Everyone’s racing to be at the head of that pack when the ice breaks,” he said.

State Street Global Advisors, a unit of State Street Corp., is planning to announce a 401(k) investment this fall that will include a built-in annuity, said Kristi Mitchem, head of the company’s global defined contribution business, which had $166 billion in plan assets at the end of last year.

BlackRock Inc., the world’s biggest money manager, has a target-date fund with a fixed deferred annuity from MetLife Inc. for 401(k)s that’s available to employers, said Brian Beades, a spokesman for the firm. No companies had adopted it as of June 27, he said.

‘Guinea Pig Employer’

“The thing that will be the icebreaker eventually is that one of these providers is going to come up with a product that finally gets traction,” Laibson said. “There’s huge resistance to being the guinea pig employer that adopts it first.”

Individuals should consult with a fee-only planner before committing to any retirement strategy, said Weston, the author. That’s because many things can go wrong when spending down savings, such as withdrawing funds too fast or tapping pots of money in an incorrect order, she said.

“It’s really not a do-it-yourself project,” Weston said.

--With assistance from Elizabeth Ody in New York. Editors: Alexis Leondis, Rick Levinson.

To contact the reporter on this story: Margaret Collins in New York at mcollins45@bloomberg.net.

To contact the editor responsible for this story: Rick Levinson at rlevinson2@bloomberg.net.

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Medicare, Social Security Funds Expiring Sooner

May 13, 2011, 4:44 PM EDT By Drew Armstrong and Brian Faler

(Adds trust projection change in 16th paragraph.)

May 13 (Bloomberg) -- Medicare, the U.S. health insurance program for the elderly and disabled, and the Social Security trust for the disabled and retirees are running out of money sooner than the government had projected.

While Medicare won’t have sufficient funds to pay full benefits starting in 2024, five years earlier than last year’s estimate, Social Security’s cash to pay full benefits runs short in 2036, a year sooner than the 2010 projection, the U.S. government said today in an annual report.

Both forecasts were affected by a slower-than-anticipated economic recovery, the government said. The estimates for funding add urgency to talks between Democrats and Republicans on ways to cut spending to reduce the U.S. budget deficit.

“Projected long-run program costs for both Medicare and Social Security are not sustainable under currently scheduled financing, and will require legislative corrections if disruptive consequences for beneficiaries and taxpayers are to be avoided,” according to the report summary.

The 2010 health-care overhaul backed by Democrats extended the life of Medicare, though a greater effort is needed to shore up the program’s long-term funding, Treasury Secretary Timothy Geithner said in a statement distributed with the report.

“If we do not do more to contain health-care costs, our commitments will become unsustainable,” said Geithner, managing trustee of Medicare and Social Security, in the statement.

Debt-Limit Deal

When Medicare and Social Security funds run short, they will pay less in benefits rather than stop paying entirely. Social Security would have to cut payments by 23 percent, while Medicare would reduce by 10 percent what it pays hospitals and other inpatient care providers.

Congress is debating potentially sweeping changes in the federal budget as part of a deal to raise the government’s $14.3 trillion debt limit, which the Treasury Department said will be needed by Aug. 2.

Two groups of lawmakers have held private meetings to negotiate a deficit-reduction plan while President Barack Obama met yesterday with Senate Republicans, a day after meeting with their Democratic counterparts.

Republicans demanding that the U.S. cut its budget deficit have proposed privatizing Medicare by giving individuals a subsidy to buy coverage from private insurers. Lawmakers such as House Budget Committee Chairman Paul Ryan, Republican of Wisconsin, said today’s forecasts were justification for action.

“Leadership is required from both sides to ensure that Medicare and Social Security are saved for current seniors and strengthened to meet the need of future generations,” he said.

Time To Respond

Democrats, who have resisted changes to Social Security, said the trustees’ analysis shows there’s time to respond.

“The current situation does not necessitate rushed or severe action,” said Senate Finance Committee Chairman Max Baucus, Democrat of Montana. “We must continue to protect the Social Security benefits our seniors count on.”

The Social Security trust fund that finances aid to about 10 million disabled Americans and their dependents will be the first to dry up, with funding scheduled to run out in 2018, according to the trustees.

The fund, when combined with a separate and much larger trust fund paying benefits to seniors, has enough money to stay solvent until 2036.

The new projections partly roll back last year’s trustees analysis, which credited the 2010 health care overhaul with expanding the life of the Medicare trust fund by 12 years.

Spending Law

Social Security law requires program spending to match revenue, so a lack of action by lawmakers by that time will mean benefits will have to be cut 23 percent -- or the Social Security payroll tax increased to 16 percent, or a combination, the report said. Congress has never allowed the program’s two trust funds to be depleted.

Medicare, to stay solvent for the next 75 years, would have to immediately raise payroll taxes by 24 percent, or cut current benefit payments by 17 percent, Cori Uccello, a senior health fellow with the American Academy of Actuaries in Washington, said in a phone interview.

The longer the U.S. waits to address the coming shortages in Medicare and Social Security, the more painful it may be, said Uccello. A U.S. delay in extending Medicare’s fiscal life may force cuts for current beneficiaries rather than diminishing them for people who enter the program several years from now.

--Editors: Steve Walsh, Adriel Bettelheim

To contact the reporter on this story: Drew Armstrong in Washington at darmstrong17@bloomberg.net;

To contact the editor responsible for this story: Adriel Bettelheim at abettelheim@bloomberg.net.

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