Default Swaps Show Acom May Avoid Takefuji’s Fate: Japan Credit

Japan’s biggest banks may rescue the nation’s largest consumer lenders, Acom Co. and Promise Co., after last year’s bankruptcy of rival Takefuji Corp. rattled investors, prices in the credit default swaps market show.

The cost of five-year insurance against a default by Promise fell 187 basis points, or $187,000 per $10 million of face value, to 808 in the first week of January after Sumitomo Mitsui Financial Group Inc., its biggest shareholder, said last month it may raise its 21 percent stake. Swaps on debt of Acom, 40 percent owned by Mitsubishi UFJ Financial Group Inc., declined by 83 to 624.

The drop in default swaps prices may show the industry is poised to recover after complaints over collection practices and annual lending rates as high as 29 percent prompted a regulatory backlash in 2006. The Topix stock index group of 21 non-bank financial firms fell 74 percent in the last four years, the worst performer, as legal changes enforced 20 percent caps on rates and allowed claims from those who were overcharged. Takefuji’s default swaps peaked at 8,853 on Sept. 27, a day before it collapsed under the strain of these payments.

“There is optimism consumer lenders are beginning to receive fewer interest-refund claims,” said Akira Nomura, a credit analyst overseeing the consumer-lending industry at Mizuho Securities Co. “Expectations are emerging that it may be just a matter of time before concerns surrounding the consumer- lending industry subside.”

Acom shares climbed 8.7 percent to 1,431 yen in Tokyo today, and have surged 42 percent this year after a 29 percent decline in 2010. Promise, which rose 9.8 percent to 671 yen today, has jumped 44 percent this year after plunging 34 percent last year. The Topix is up 3.5 percent this year.

Deposit Rates

Consumer lenders have been popular among foreign investors, who saw the promise of high returns in a country where annualized six-month deposit rates average 0.033 percent, according to the Bank of Japan. Foreign investors own 44 percent of Promise and 20 percent of Aiful Corp., according to the lenders’ websites. Aiful’s price-to-book value of 0.20 is the industry’s lowest.

General Electric Co.’s financing unit and Citigroup Inc. are among firms that entered the business in the last decade only to withdraw after the regulatory changes hurt business.

Improving sentiment comes even as Standard & Poor’s on Jan. 11 lowered Promise’s credit rating by two levels to BB and reduced Acom by one to BBB-, based on accelerating loan declines and the risk of rising claims for overpaid interest. The companies had been under review for potential downgrade since Sept. 29 on the possibility overcharged interest repayment claims could spike ahead of court-imposed deadlines.

‘Remain Under Pressure’

“Standard & Poor’s expects the stand-alone assessments on both companies to remain under pressure,” the ratings company said. “Although both banking groups’ equity interests in Acom and Promise fall short of majority stakes, we consider the probability of support from MUFG and SMFG to each consumer finance subsidiary as higher than their equity interests.”

Consumer loans at the nation’s 59 moneylenders fell by a record 51 percent to 226 billion yen ($2.72 billion) in October from a year earlier, according the Japan Financial Services Association’s website.

Acom has sufficient capital to cope with the current severe business conditions and Mitsubishi UFJ has no plans to increase its stake, according to Shinya Matsumoto, a Tokyo-based spokesman at the bank.

Ups and Downs

Relative yields on Acom’s 1.66 percent 10-year note due in February 2015 dropped 10 basis points to 769 basis points on Jan. 7, its first drop in a month, according to prices from Japan Securities Dealers Association. Promise’s 2.1 percent note due in April 2014 declined 11 basis points on Jan. 7 to 1124 basis points, the prices show.

“Ups and downs in CDS trading at the moment are simply showing how the market sees their fundamentals and support from the banks,” Toshihiro Uomoto, chief credit analyst at Nomura Securities Co. said. “Going forward, we need to see Promise and Acom’s third-quarter earnings and the claim numbers that will be disclosed between February and April, which reflect Takefuji’s bankruptcy effect. If we see positive comments from SMFG or MUFG in the meantime, that’s a plus.”

Credit swaps pay the buyer face value if a borrower fails to meet its obligations, less the value of the defaulted debt.

Takefuji Bankruptcy

November claims at Promise rose to 11,200 from 9,300 in October and 9,900 in September, spokeswoman Risa Matsumura said. Acom’s November claims dipped to 12,900 from 13,800 in October, according to spokesman Masahito Osawa. The company had 9,500 in September.

Lawsuits claiming overcharged interest cost the industry 4.4 trillion yen, according to the Japan Financial Services Association.

Consumer borrowers typically take out loans to cover living expenses or to refinance existing debt, according to a survey conducted in November by the association. Fifty-one percent of them earn 3 million yen or less annually, the survey showed. Half may be ineligible for fresh consumer loans because of a new rule that limits such debt to a third of annual income, the lobbying group said.

“There are strong needs for this industry, which has about 15 million customers, even after the Takefuji bankruptcy,” Japan’s Financial Services Minister Shozaburo Jimi said last week. “The industry faces a severe business environment and has issues such as heavily indebted borrowers.”

Sovereign Debt

The cost of insuring Japanese sovereign debt with credit- default swaps for five years rose two basis points to 81.4 on Jan. 11, the highest since July 21, according to data provider CMA, while five-year government bonds yield 0.44 percent.

At least 31 Japanese firms have credit default swaps priced lower than swaps on government bonds. Toyota Motor Corp. swaps cost 63.7, while Sony Corp.’s are 52.7.

The national debt will reach 204.2 percent of gross domestic product this year, versus 136.8 percent for Greece and 112.7 percent for Ireland, according to estimates by the Organization for Economic Cooperation and Development.

The government bond market returned 2.4 percent in 2010, versus 5.9 percent for Treasuries and 6.2 percent for German bunds, according to Bank of America Merrill Lynch indexes. The yield on Japan’s benchmark 10-year note rose 2 basis points to 1.195 percent at 10:30 a.m. in Tokyo yesterday, having fallen to 0.82 percent in October, the least since July 2003.

Bank Backing

Sumitomo Mitsui President Teisuke Kitayama said in December his bank may inject capital to boost Promise’s shareholding, provide human resources or help fund the lender’s operating costs.

“For Sumitomo Mitsui, it’s too early to decide on whether to inject more capital into Promise because it’s unclear if interest refund claims will rise or fall,” said Natsumu Tsujino, a Tokyo-based analyst at JPMorgan Chase & Co. “A capital injection would be wasted if claims increase and Promise expands reserves and lowers its corporate value.”

Promise and Acom will provide the number of interest-refund claims received in December on Jan. 28 and Feb. 2, respectively, according to Matsumura and Osawa.

To contact the reporters on this story: Shigeru Sato in Tokyo at ssato10@bloomberg.net; Yusuke Miyazawa in Tokyo at ymiyazawa3@bloomberg.net.

To contact the editors responsible for this story: Philip Lagerkranser at lagerkranser@bloomberg.net; William McSheehy at wmcsheehy@bloomberg.net.

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