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correction: if the shares go to zero, the only loss of Citi will be the 20m shares (even if this happens, they will still get some money from part of these shares on loan to the shorters).
correction: if the shares go to zero, Citi would keep the initial value of the swapped shares (the value of the shares goes to zero; while Citi would get interest plus the initial value of the shares at the contract date, i.e., all the initial value becomes the spread).
Simpl, as you mentioned if 46m before the the SM bond critical date, it would has no hedging effort. The latest changes in today RNS include:
- nearly 20m shares (9.7m shares, 10m shares on loan; almost the same as before; recalled 3.5m)
- ES 106m shares (increased from 95m to 106m, all after the MS bond critical date)
- Exchangeable bond: 226m shares (the same as before)
The major change is to move the 46m to a date after the life/death date of the Initial Bonds.
The total number of shares in the swaps also increased from 95m to 106m (almost the same as in the first RNS). This conformed our hypothesis that the initial equity swap contract was signed before August 1 when the life/death date of the Initial Bonds was expected on the 9th of August (therefore the first swap date was the 3rd of September). As the revisit date will be in early September and the deadline of the initial will be the end of September, therefore, the series of swaps changed. The counter party seems to be very confident on the success of the bond. For Citi, this is still a safe play. The equity swaps more hedge all the risk of its shares; actually, if the shares go to zero, they would double the value of the swapped shares; and the money on the exchangeable bonds would return to them from the escrow. If the stage 2 successful, then they would enjoy the big return from the 246m shares; and the return of the 106m shares will be bank to them when all the pre-set dates passed by.
Citi adjusting their holdings again. Further shares bought but now no equity swap on the 3rd of September. Further confidence for long shares?
Just seen, little interest in the German 30 yr bonds launched today which will hopefully push yields up and push cash towards riskier bonds
Wwguk- well would you look at that! Lastest RNS has altered the dates of maturity- original Sept 3 2019 (46m) has now been moved to Sept 2020.
Thornback, I don’t know but the same thought did cross my mind. As for passing on the fees of the equity swap to SM as a service charge, I very much doubt that, IMO.
Simpl/wwguk, very interesting stuff..!
I'm just thinking aloud, I'm thinking, could JPM be the counterparty, they've got the financial backing, they have a vested interest in these bonds getting away...!
If this is possible, would it also be possible for the counterparty to pass on a charge to SM for the "service" provided and to ensure the bonds go..?
Possibility one: to me, the first ‘leg’ seems too heavily weighted for that to be the case. But I do see your point.
Possibility two: we have seen from the two RNSs that these equity swaps can be altered; ‘leg 2’ has been significantly reduced. If that date was no longer relevant perhaps some of the impetus (circa 50% of the entire swap) would have been taken off it?
Simpl: "On another note, which makes me feel there may be a little more to this, is that if there’s no news by 3rd Sept".
One possibility is that when they negotiated the series of swaps, they need to balance the gain/risk at the contract time for each party. Therefore, some dates are good for Citi; while others are good for the other party.
Another possibility is that the contract was signed before August 1 (the day when Trump made the comments). At that time the unknown party had planned to backstop the bonds (with the amount they and SM/JPM had expected (Citi and other IIs would not know this, as the negotiation might be one-one between SM/JPM and each of potential purchasers)), however, after the Trump comment relating to the trade war, market sentiment changed and some potential purchasers retreated, which made the unknown party not afford to make up all the shortfall (but would still committed to the amount they had planned to purchase when SM revisit the market).
Wwguk, great explanation of Citi’s position. And an interesting perspective on why the counterparty don’t just buy the shares... perhaps they don’t have the funds at hand because they are commited to buying a chunk of the bonds? Best of both world’s in this case for them.
On another note, which makes me feel there may be a little more to this, is that if there’s no news by 3rd Sept -and as you say, there will probably have been little movement in price.... but may about to be- there seems little point in this leg of the swap, as it basically just cancels itself out, and it’s almost 50% of the entire swap! What’s in it then for the counterparty trying to capitalise on SXX SP gains, they’re just handing Citi the interest payment are they not? This just gives me an inkling that something might have already happened by then.
Didn’t Fraser say in an article somewhere that it’s now just a case of good execution. Perhaps there won’t be a whole 3 day process of pricing and placement, perhaps it’s all ready to go, just a case of signing on the dotted line. They could go quick.
All in all, I think I’m right in believing that ‘someone’ is betting c8.5m on the bonds going, as if they don’t they owe it all to Citi. That’s some bet. Who at this stage is that confident, besides ‘someone’ who knows they can get them gone?
Sorry for typo, I mean big guys - big players, big IIs.
Simpl and Thornback, I hope that your speculated scenario is true; i.e., the other party in the swap may be a very powerful one that can backstop the $500m bond sell, therefore, very sure the bond issuance will be successful. Given the feedback from their own negotiation participation before, in, and after the roadshow, they can infer how much shortfall SM/JPM may have to reach the $500m; and they know they have the money (this is not inside trade, as they would still take some risk (due to the changing situation)).
It could also be a combination of the scenario I mentioned and yours, i.e., the other party in this swap used their fixed income investment for the exchange of cashflow (at the current extreme low share price); and then use the money at hand in September to purchase the SM H.Y.bonds.
The big gays have all the legal means/ways to earn big money safely (often or always at the expense of the small PIs).
Simpl: "why [the other party] not just buy the shares? "
The other party wants to enjoy the return of the SM shares. They could buy these shares from the market at the recent extremely low price if they had the money. However, their money may have been invested in other financial products, for example, savings of fixed interest rate for fixed years, or savings with a float interest 2 points above the central bank interest rate, or treasure bonds. They cannot draw-down or sell these immediately to raise the cash for purchasing SM shares. By signing the equity swap contract with Citi, they can exchange the cashflow (return) of their financial product with the cashflow (return) of the SM shares own by Citi (of the same value of their own financial product at the contract time) ; they can then enjoy the return of these shares, as if they own these shares, of course, they also possibly suffer from the return of these shares (as the return may be negative if the share price on the pre-set future date (and their agreed time) would be lower than the price when the contract was signed.
Both Citi and the other party would not know for sure if the future price at all those pre-set dates would be higher or lower than the price at time the equity swap contract was signed.
They may know some of them, for example, they both would know the price at the 3rd of September (i.e., the one involving 46.6m shares) may be one (possible around current price) before a big jump (e.g., over 17p) or big drop (e.g., 4p) as by then SM bond has not been issued (the very beginning of September is a time when H.Y.bond investors just return from their summer holidays, and SM is to revisit the market to reengage with the potential purchasers, come up with price range, and then close/end the deal in three days after a guide price is given).
However, for those swaps after the first swap, i.e., those in Oct, Nov, dec this year, august next year, and the ones in 2021, 2022, and 2023; the share price would be either 0 (stage 2 failed) or much higher (after a successful stage close, say at 17p, 20p, 30p, 40p) than the price (when the contract was signed say 8.5p).
Citi, of course, know the positive potential, and they still have enough shares (20m shares) and convertible bonds (of 226m shares' value) to enjoy the up side; however, due to the uncertainty (i.e., the possibility of a stage 2 failure), they would be willing to give up the positive potential (up to 2023) of around 95m shares by making a bet on the opposite direction using the equity swap derivative.
After 2027 (when all the pre-set time passed), if the SM shares are still on market, they will enjoy the high price of all the shares they once swapped. They have just "shorted"part of their own SM shares for a short period of times (from a few months up to 4 years); but would still own and long the shares over 100 years if they wish.
Can’t find this feeling anymore.keep on loving you.
Hi Simpl, so with your hypothetical agreement the counterparty want a little sweetener in order for the bonds to be sold..?
If the counterparty are instrumental into whether the bonds go or not then they would have plenty of financial clout and also be able to potentially take on some bonds of their own..! They get the sweetener, Citi get the long term growth and everyone is happy..? or am I way of the mark lol...
The profits gained would would also compensate them if Sirius struggled with the repayment..?
wwguk / simpl
Good read, thanks for that. You are moving us closer to the truth :)
Ultimately then, none of this is really about Citi- they stand to lose or gain nothing in the short term (apart from agreed % interest from counterparty). This is so so sooo much more about the mysterious counterparty who are betting the value of 46m shares that the bonds are gone by Sept 3. But what’s in it for them, why not just buy the shares? Ahh, maybe because after the bond sale they would have 46m shares to dump in order to realise their profits... too much work? Perhaps this is a route to quicker/easier profits?
But then we have another dilemma, if this counterparty seems so sure that the bonds will go and the SP will rise, why would Citi so willingly give them their profits from the equity they already own... for a measly (let’s call it 6%)?
UNLESS....... this said counterparty is instrumental to whether bonds go or not?
So a hypothetical agreement (to try and get some kind of possible understanding of what’s going on) might be...
Counterparty to Citi- ‘you can have the long term appreciation that completion of st.2 financing delivers, that incidently we can ensure happens, we just want the profits from the initial spike such news will inevitably cause.. without the exposure. It’s the least we deserve for taking these bonds!’
This is of course all my opinion and my way of trying to make sense of the recent RNS. Any further thoughts welcome. Would this hypothetical scenario constitute ‘insider dealing’?
Oh, and this is all before we even get started on the ‘Exchangable Bonds’!!!!
wwguk you are in danger of becoming a real investor!
As you recognise, Citi's investment here is low cost, low risk, substantial reward. We know what the position is they have taken , but not what is has cost, what the operative SP is, nor who the counterparty is. But we do know that a sharp SP rise is likely to be profitable and an SP fall will cost little .Equally, we know that another holder is monetising their holding by "selling" an option ie agreeing to lose their shares (at a higher price than now, at a date in the future, for cash today). In essence both sides of the trade are looking to profit and will if the SP rises,(if it falls Citi will be out a small amount and the counterparty will have an equivalent cash compensation),quite what the share of that profit is , will remain a secret.The logic behind the trade for both parties is the high volatility in SXX shares because of the binary nature of the ST2 funding outcome.
Glorious day here in California, off to see REO speedwagon tonite(sp!) rec for the first to name their two biggest hits!!
Simpl, equity swaps often made in a series of tranches with different dates.
At the time the contract is made, it must not be obvious which party in these swaps (of the cashflows) will gain in the end. Both parties would know if the share price increase, the positive cashflow from shares would be higher than the interest (i.e., the cashflow from the other party's investment product). However, if the share price drops to below the price at the contract on the pre-set date, the share owner (citi) would get the spread plus the interest, i.e., the other party would get the negative return from the shares.
The party swapped with Citi is the same as us who expect/bet stage 2 would succeed, and the cashflow from the shares would be positive.
For Citi, they have a lot of stake in SM (i.e., shares and CBs in the long position); the swapped shares are just a hedge for the worst case scenarios (unlike us would loose all if the share goes to zero, Citi would still get all the principal back).
Simpl, to my understanding all the shares used in the Equity Swap are in short position from the share owner point of view. Equity swap for II shareholders is a hedging tool (short-term short, but long-term long ).
In general, if a share is in upper trend, its return would be higher than the return (i.e., interest) from saving (fixed or flexible income). When Citi did the swap, they must expect that the earning from the shares could be less than the earning from the interest (at certain percentage) of the principal (the number of the shares x the price at the swap), of course, the other party may believe the opposite (the same as that in each stock transaction, the party who sells believes that the price may drop; while the party buy believes that it may rise).
WW... how do you know whether Citi are in the long or short position of the swap?
Equity Swap -- a great hedging tool for Citi:
When the SP goes down, Citi will get all the return as they would get in shorting (they will give the other party a Negative Return from the swapped shares (in effect getting the money)) plus an interest income from the notional principal (the amount of shares at the price when the contract was made) ;
When the SP goes up, Citi will still get the interest from the principal; they just give up the positive return from the shares to the the other party;
Citi will keep the long term potential of the shares (that used in equity swap) by maintaining the ownership of these shares. After reaching the set dates on each tranche of the swap and they will get the return (positive or negative) from the shares. They get back (the return of) all these (swapped) shares in 2027. They will start to collect the interests of the exchangeable bonds, if the the senior debt event happened, if not the money kept in escrow will be return to them.
We have learnt a lot from Capital, Citi, and JPM on how to investment in risk ones safely; but unfortunately we have no power to play with a combination of those financial tools. We have made a one or nothing bet in one direction - just hope its a promising bet.
The macroeconomic outlook does not seem to be as doom-laden as it was last week. If things tick along like this into next month and central banks signal some stimulus may be on its way (and the Fed hints at a rate cut), the SM bond sale will probably go through.
From facebook group:-
"share holding decreased slightly (from 35.4m to 6.2m);
However, shares lend to other increased (from 8.7m to 14m, i.e., more share just lend out);
particularly important to note that Equity Swap after 3 September (i.e., after potential $500m bond issuance) decreased (i.e., short bet on stage 2 decreased)!
while the Exchangeable Bond (i.e., long bet on the stage 2 increased (203.8m to 226m)!
Copied from wwguk few different factors. Citi must have crossed below the 0.5% on Friday then a bit throughout this week likely."