There is a good bit we do not know about this case at the moment. Many documents, including Daubert motions and motions to strike, remain under seal. Given the enormity of the damages granted by a jury (i.e., $778 million), we expect this is the first post of what will be several more to come. We do know, however, that Judge Gutierrez in the Central District of California, issued his final judgment which allowed for prejudgment interest at the treasury rate compounded quarterly. We applaud his use of this reference rate.
Judge Gutierrez’s prejudgment interest determination should be compared to CDCA Judge Selna’s decision that prejudgment interest in the SPEX Technologies matter should be seven percent.
Judge Selna did not opine about compounding. We remain perplexed as to why prejudgment interest should afford windfall gains for some, while affording others a simple adjustment for the real time-value of money.
What do we mean?
Consider the chart below from the Federal Reserve Bank of St. Louis (a.k.a., “FRED”). It reports the option-adjusted spread for a high yield debt index for the October 2010 to February 2020 time period specified by Judge Selna. What does this mean in more common parlance (a.k.a., “English”)?
This graph reports a measure of how much additional yield (a.k.a., “spread”) investors demanded/received to hold high-yield bonds (a.k.a., “junk bonds”) relative to holding instead U.S. Treasuries (a.k.a., “risk free rate”) of comparable maturity. The “option-adjusted” component involves backing out from the price of BB-rated bonds in the index any embedded options: this is necessary to establish an “apples-to-apples” comparison for yield alone (because the reference Treasuries do not possess similar embedded options).
What this graph shows is that during the period of time subject to Judge Selna’s 7% statutory rate, the spread on junk bonds remained well below 7%. At no point during the period did that high yield spread achieve 7%. In fact, one of the hallmarks of the period following the Great Financial Crisis was “the hunt for yield“: investors were hard pressed to find much of it. Anywhere. Even in speculative, non-investment grade corporate bonds… where the graph above shows one could only earn between a 2.0% and 6.0% spread.
Where on earth was a 7% yield available during this period? We have no idea, but one place we believe it should not be found is in a prejudgment rate.
But wait – there’s more!
The chart below shows the same OAS High Yield spread from FRED for January 1, 2020 until today. It shows that investors were finally afforded more than a 7% spread by the high yield index… for a brief, one-week period between March 19 and March 26. Gosh… what might have been going on during that week to afford high yield a 7% spread?
Oh yeah… the end of the freaking world.
(N.b., In the bottom left-hand area of its charts, FRED notes “Shaded areas indicate U.S. recessions”; however, FRED has not shaded any area. With 22 million Americans registering for unemployment in the past four weeks, we expect the official arbiter of recessions to report the U.S. economy slipped into recession in March. While FRED shades with grey, if you are like us, and well, half of humanity… hunkered down sheltering in place somewhere… waiting…. then red is the more apt tone for our present circumstance.)
