Variable-rate note now harder to sell
Reuters reports that major banks including UBS AG and Citigroup are now making it harder to sell what used to be one of the safest alternatives to cash — so-called variable-rate demand notes — sources familiar with industry practices say. Major banks are now being more cautious due to their desire to reduce risk. The new procedure is costing sellers a loss in business and profit models are at an all time low.
“I heard everybody’s doing it,” one of the sources said on Monday.
Previously, investors who wanted to sell these floating- rate notes just had to contact the banks, which would either resell the debt or salt it away in their inventory.
But now, because banks are afraid of taking on any more risk, they are taking advantage of the slower and more cumbersome procedures spelled out in the debt’s legal papers, which oblige would-be sellers to go through the tender agents.
As a result, this $400 billion market is starting to freeze up — much like the market for auction-rate paper — as the banks put their need to save cash ahead of the investors’ desire for them to buy their debt to keep the market liquid.
One of the main culprits causing the market for variable-rate demand notes to seize up is the troubled bond insurers that guarantee them. This is the same factor that has caused the $330 billion auction-rate note market to get hit with billions of dollars of failed auctions every day since late January.
I’m surprised to see that these notes will no longer be treated as “safe”, but rather with a bright yellow “caution” sign written all over them. Although I can understand that banks don’t want to take on the higher risk along with the deadweight from these notes if would-be sellers do give them away, but making it harder for these notes to go back into the market will surely hurt the market in which these notes are sold and bought. Hopefully, this will only be temporary as within the near future, our market economy will become more stable. Variable rates are often one of the driving motivations behind mortgage acceleration decisions. Homeowners do not want to pay rates that they cannot control or predict, and thus budget for.
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