Archive for the ‘MAPF’ Category

MAPF Performance : February, 2021

Sunday, February 28th, 2021

Malachite Aggressive Preferred Fund’s Net Asset Value per Unit as of the close February 26, 2021, was $9.4553.

Five issues held throughout the month returned between 0% and 1%: BMO.PR.Q, CU.PR.G, BNS.PR.H, FTN.PR.A and INE.PR.A, with a total weight in the portfolio (at month-end) of 14.1%. Star performers were SLF.PR.G, TRP.PR.B and IFC.PR.A, returning between 15% and 20%, with a total portfolio weight of 8.2%.

Insurance issues received a boost this month with the announcement of Manulife LRCNs (additional commentary February 11.

Quote quality was poor this month, with the difference in portfolio values when calculated with closing prices vs. calculation with bid prices increasing from 0.52% to 1.19%.

Returns to February 26, 2021
Period MAPF TXPR*
Total Return
CPD – according to Blackrock
One Month +8.19% +4.21% N/A
Three Months +19.41% +9.47% N/A
One Year +33.20% +17.37% +%
Two Years (annualized) +10.75% +7.52% N/A
Three Years (annualized) +2.18% +2.46% +%
Four Years (annualized) +5.92% +3.85% N/A
Five Years (annualized) +12.06% +8.76% +%
Six Years (annualized) +4.33% +2.64% N/A
Seven Years (annualized) +4.11% +2.30% N/A
Eight Years (annualized) +3.34% +1.74% N/A
Nine Years (annualized) +3.87% +2.11% N/A
Ten Years (annualized) +3.75% +2.44% +%
Eleven Years (annualized) +5.17% +3.10%  
Twelve Years (annualized) +8.56% +4.71%  
Thirteen Years (annualized) +7.86% +2.86%  
Fourteen Years (annualized) +7.54%    
Fifteen Years (annualized) +7.48%    
Sixteen Years (annualized) +7.37%    
Seventeen Years (annualized) +7.48%    
Eighteen Years (annualized) +8.64%    
Nineteen Years (annualized) +8.22%    
MAPF returns assume reinvestment of distributions, and are shown after expenses but before fees.
The BMO Capital Markets “50” Preferred Share Index is no longer being calculated. The final performance report incorporating this venerable index was published as of December, 2020.
“TXPR” is the S&P/TSX Preferred Share Index. It is calculated without accounting for fees, but does assume reinvestment of dividends.
CPD Returns are for the NAV and are after all fees and expenses. Reinvestment of dividends is assumed.
Figures for National Bank Preferred Equity Income Fund (formerly Omega Preferred Equity) (which are after all fees and expenses) for 1-, 3- and 12-months are +3.23%, +12.55% and +10.31%, respectively, according to Globe & Mail / Fundata after all fees & expenses. Three year performance is +%; five year is +%; ten year is +%

Figures from Morningstar are no longer conveniently available.

Manulife Preferred Income Class Adv has been terminated by Manulife. The performance of this fund was last reported here in March, 2018.
Figures for Horizons Active Preferred Share ETF (HPR) (which are after all fees and expenses) for 1-, 3- and 12-months are +5.46%, +12.73% & +21.07%, respectively. Three year performance is +1.73%, five-year is +8.68%
Figures for National Bank Preferred Equity Fund (formerly Altamira Preferred Equity Fund) are +%, +% and +% for one-, three- and twelve months, respectively. Three year performance is -%; five-year is +%.

Acccording to the fund’s fact sheet as of June 30, 2016, the fund’s inception date was October 30, 2015. I do not know how they justify this nonsensical statement, but will assume that prior performance is being suppressed in some perfectly legal manner that somebody at National considers ethical.

The last time Altamira Preferred Equity Fund’s performance was reported here was April, 2014; performance under the National Bank banner was first reported here May, 2014.

The figures for the NAV of BMO S&P/TSX Laddered Preferred Share Index ETF (ZPR) is +% for the past twelve months. Two year performance is +%, three year is -%, five year is +%.
Figures for Fiera Canadian Preferred Share Class Cg Series F, (formerly Natixis Canadian Preferred Share Class Series F) (formerly NexGen Canadian Preferred Share Tax Managed Fund) are no longer available as the Fund is now the property of Canoe Financial. The last reported performance for the merged fund was May 2020.
Figures for BMO Preferred Share Fund (advisor series) according to BMO are +%, +% and +% for the past one-, three- and twelve-months, respectively. Two year performance is +%; three year is -%; five-year is +%.
Figures for PowerShares Canadian Preferred Share Index Class, Series F (PPS) are +18.40% for the past twelve months. The three-year figure is +1.64%; five years is +8.89%
Figures for the First Asset Preferred Share Investment Trust (PSF.UN) are no longer available since the fund has merged with First Asset Preferred Share ETF (FPR).

Performance for the fund was last reported here in September, 2016; the first report of unavailability was in October, 2016.

Figures for Lysander-Slater Preferred Share Dividend Fund (Class F) according to the company are +%, +% and +% for the past one, three and twelve months, respectively. Three year performance is -%, five-year is +%.
Figures for the Desjardins Canadian Preferred Share Fund A Class (A Class), as reported by the company are +%, +% and +% for the past one, three and twelve months, respectively. Two year performance is +%, three-year is -%
Figures for the RBC Canadian Preferred Share ETF (RPF) as reported by Morningstar are +5.49%, +12.78% and +21.14% for the past one, three and twelve months, respectively. Three-year performance is +1.31%

MAPF returns assume reinvestment of dividends, and are shown after expenses but before fees. Past performance is not a guarantee of future performance. You can lose money investing in Malachite Aggressive Preferred Fund or any other fund. For more information, see the fund’s main page. The fund is available directly from Hymas Investment Management.

The preferred share market continues to be underpriced relative to other capital markets, leaving a lot of room for outsized gains. The Seniority Spread (the interest-equivalent yield on reasonably liquid, investment-grade PerpetualDiscounts less the yield on long term corporate bonds) is extremely elevated (chart end-date 2021-2-12):

PL_210212_Body_Chart_1
Click for Big

Note that the Seniority Spread was recorded at 330bp just before month-end, significantly narrower than the 355bp on February 3. As a good practical example of the spreads between markets, consider that CIU issued a long-term bond in early September, 2019 yielding 2.963%, about 411bp cheaper than the interest-equivalent figure of 7.07% for CIU.PR.A, which was then yielding about 5.44% as a dividend. CIU issued another bond in late September, 2020, yielding 2.609%, which was 399bp cheaper than the interest-equivalent figure of 6.60% for CIU.

… and the relationship between five-year Canada yields and yields on investment-grade FixedResets is still deep in ‘decoupled panic’ territory (chart end-date 2021-2-12):

PL_210212_Body_Chart_5
Click for Big

In addition, I feel that the yield on five-year Canadas is unsustainably low (it should be the inflation rate plus an increment of … 1%? 1.5%? 2.0%?),and a return to sustainable levels is likely over the medium term.

It seems clear that many market players are, wittingly or not, using FixedResets to speculate on future moves in the Canada 5-Year yield. This is excellent news for those who take market action based on fundamentals and the long term characteristics of the market because nobody can consistently time the markets. The speculators will, over the long run and in aggregate, lose money, handing it over to more sober investors.

In this connection, it is useful to review some recent commentary regarding the preferred share market. Rob Carrick recently published a column with the title Rob Carrick: Does it make sense to use preferred shares as a bond substitute?, in which he gave a nod to the old shibboleth:

But does it truly make sense to substitute prefs for bonds? Not if you subscribe to the idea that the main point of bonds is not to generate income and returns, but rather to act as a portfolio life preserver when the stock market turns ugly.

… but then noted the crucial point:

Perpetuals are somewhat less touchy, but they’re not to be counted on in a stock market crash.

This distinction is meaningless to investors who are all about income and fine with portfolios that bounce around in price.

As I never get tired of repeating, Fixed Income portfolio management is a process that largely consists of balancing Security of Income vs. Security of Principal. These are opposing forces; the more you have of one, the less you’ll have of the other. And preferred shares are way, way over to the “security of income” pole. So in bad times … Shut up and Clip Your Coupons!

Financial Wisdom Forum’s long-running thread on preferred shares recently featured a series of posts which often deprecated preferred shares with some participants advocating market timing:

The thing about prefs is that timing is everything. You buy them when they’re being thrown out with the bathwater and you’ll be golden.

Yes, there’s money to be made, but only if the shares are in the order of a 30% discount.

If you care about total return, preferred shares probably aren’t for you, (unless of course you are interested in trading them or you have a crystal ball regarding interest rates).

If you want something that pays a decent, tax efficient dividend, in a non-registered account, and share price isn’t important, then straight perpetual preferred shares are probably fine (caveat for a few years with respect to NVCC – will no longer qualify as Tier 1 Capital post 2022). Suitable for the retired. Anything else – not so much. They all seem to favour the issuer.

Sure the market value is volatile but I don’t plan on selling so it doesn’t matter to me, barring default.

The part I’d like to focus on is:

Yes, there’s money to be made, but only if the shares are in the order of a 30% discount.

This is close – but not quite – to stating an essential point about Fixed Income investing: total returns are asymmetrical: you can lose a lot more than you can win. This is why credit quality is so important – a bankruptcy, or even a mere impairment, is going to take you a long way down the ‘bad side’ of the asymmetrical probability curve. But another point, often ignored, is that this implies that discounted issues are, all else being equal, better investments than premium issues: in good times, discounted issues can win a lot more than premium issues, which are tethered to their par value due to considerations of maturity or possible redemption. In bad times, they’ll lose a little more, since discounted issues have no ‘buffer’ to insulate them, while premium issues (and, to a lesser extent, issues trading modestly below par) have such a buffer that absorbs a portion of the shock – this is easier to understand in terms option values and volatility theory, as the negative value of the embedded option is reduced as the issue moves further away from par.

The implication for MAPF is that there is a bias towards holding issues trading well away from par value, which almost always means discounted issues. It’s only a bias, not a hard and fast rule, but this bias was deliberately built into the system in order to reduce the asymmetry of the projected returns curve. This means that MAPF will usually hold a portfolio more heavily weighted towards low coupon – low priced issues than the index and be correspondingly underweighted in high coupon – high priced instruments.

This in turn has the effect of introducing a bias in returns: MAPF will often underperform in poor markets (as it holds fewer of the better performing high-coupon issues than the index) and outperform in good markets (as it holds fewer of the worse performing high-coupon issues than the index). This is only a tendency, not an iron-clad rule, but the effect is there and it means that MAPF has a higher Beta than it might otherwise have, if you enjoy thinking in terms of investment models from the last century. And at all times, of course, the fund seeks to trade and exploit market inefficiencies, which mitigates but does not eliminate the effect.

On another FWF forum, there has been speculation that the fine performance of FixedResets since March, 2020, has been due to a conscious focus on spreads:

ZPR was up approximately 6% for 2020. Is this a reversal of the trend to follow interest rates downward? Perhaps investors will focus on the spread between preferred versus bond yields going forward rather than an irrational rush to the exits whenever prefs are resetting at lower rates.

[reply] It’s already happening. That’s why ZPR has finally had a positive year in a declining rate environment.

Well, this is something I would like to agree with. I’ve been pounding the ‘spreads’ drum for a long time…

Unfortunately, while one can only rarely point to a single mechanism explaining a change in relative prices and say, with any credibility whatsoever, that A caused B, I have to admit I’m more dubious than usual about this claim. I believe that the continued rally is due to continued interest rate anticipation, which is now (for some investors) considered to be on the way up rather than continuing the downward staggering of the past ten years; this in turn is derived from Central Bank ‘easy money’ policies and very loose government fiscal policies; which is considered to be on the verge of driving inflation upwards.

Who’s right? Well, we’ll know in ten years, at a time when half of the investing world will graciously explain at length how their uncanny ability to read global market forces allowed them to time the market and make enormous profits, while the other half will tell you the question is irrelevant because investing is about the future, not the past. My advice is, as always, to make asset allocation decisions based on the long-term characteristics of each asset class and how these characteristics interact with your long-term portfolio objectives.

It should be noted that I have been unable to provide an entirely satisfactory explanation for the relatively strong performance of Floor issues during the 2018-19 downdraft relative to their non-Floor counterparts. See the discussions on PrefBlog at LINK, LINK and LINK.

I believe the bear-market outperformance by the Floor issues is a behavioural phenomenon with very little basis in fundamentals. When interest rates in general move, FixedReset prices should not change much (to a first approximation, for issues priced near par), since in Fixed Income investing it is spreads that are important, not absolute yields. There should be some effect on Floor issues, which should move up slightly in price as yields go down since the ‘option’ to receive the floor rate will become more valuable. Adjustments due to this effect should be fairly small, however – and over the past year issues with a floor, that started the period being expensive, have simply gotten even more expensive, relative to their non-floored counterparts.

And the tricky thing about behavioural models of investing is that they can lose their explanatory power very quickly when an investment fashion shifts, whereas fundamentals will always be effective – sometimes it just takes a little time! Just to give an example from the preferred share market – until the end of 2014, FixedResets were priced relative to each other according to their initial dividend; when the reset of TRP.PR.A shocked a lot of investors, relative pricing became much more dependent upon the Issue Reset Spread, a much more logical and fundamental property. This paradigm shift was discussed extensively in PrefLetter.

FixedReset (Discount) performance on the month was +6.50% vs. PerpetualDiscounts of +0.84% in February; the two classes finally decoupled in mid-November, 2018, after months of moving in lockstep:

HIMI_indexPerf_210226
Click for Big

Floaters performed well, returning +10.03% for February and finally moving the trailing twelve months into positive territory at +17.65%. Look at the long-term performance:

HIMI_floaterPerf_210226
Click for Big

Some Assiduous Readers will be interested to observe that the ‘Quantitative Easing’ decline was not initially as bad as the ‘Credit Crunch’ decline, which took the sector down to the point where the 15-year cumulative total return was negative. I wrote about that at the time. but it became worse in August, 2019! On August 30, 2019 the HIMI Floater Index (total return) value was calculated as 1906.6; the index first surpassed this value on 2003-8-13. Thus, cumulative total return (that is, including dividends) was negative over a period of slightly-over sixteen years. Worse, on March 31, 2020, the index level was 1454.8, a milestone first passed on 1997-7-30; a cumulative negative total return for 22 years and 8 months; at its low on March 18 the index level was 1253.7, first surpassed on 1996-1-4, a span of 24 years and over two months!

It seems clear that Floaters are used, wittingly or otherwise, as a vehicle for speculation on the policy rate and Canada Prime, while FixedResets are being used as a vehicle for speculation on the five-year Canada rate. In support of this idea, I present an Implied Volatility analysis of the TRP series of FixedResets as of February 26, which is comprised of six issues without a Minimum Rate Guarantee and two issues which do have this feature:

impVol_TRP_210226
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The two issues with floors, TRP.PR.J (+469, minimum 5.50%) and TRP.PR.K (+385, minimum 4.90%) are $0.48 cheap and $1.45 rich, respectively. These figures are much narrower than the 1.17 rich and 2.13 rich calculated with last month’s figures. The floors have become effective since five-year Canadas dipped below 0.81% and 1.05%, respectively – note that the floor on TRP.PR.J, which is no longer rich, is no longer assumed to be effective.

It will also be noted that the spread of a notional non-callable TRP FixedReset priced at par has narrowed from 376bp last month to 363bp this month, while GOC-5 has increased from 0.42% to 0.86%.

I also show results for the BAM series of FixedResets, which includes three issues with dividend floors: BAM.PF.H (+417, Minimum 5.00%); BAM.PF.I (+386, Minimum 4.80%); and BAM.PF.J (+310, Minimum 4.75%); these issues are all rich compared to their non-floor siblings, at 1.95, 1.96 and 1.94 respectively, very different from last month’s figures of cheap 1.29, cheap 1.79 and cheap 1.74. I note that it is normal for premium issues in a rising market to be cheap, since investors have an expectation for continued rising prices (and therefore an ‘automatic’ redemption), without considering the possibility of a market reversal, in which case the higher spreads will prove to be very useful.

impVol_BAM_210226
Click for Big

It will also be noted that the spread of a notional non-callable BAM FixedReset priced at par has narrowed significantly over the month; 397bp last month to 354bp this month, while GOC-5 has increased from 0.42% to 0.86%.

Relative performance during the month was correlated (53%) with Issue Reset Spreads for the “Pfd-2 Group” and for the “Pfd-3 Group” issues (32%):

perfFR_210226_1Mo
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… with Pfd-2 Group correlation for the three-month period of 51% and 23% for Pfd-3:

perfFR_210226_3Mo
Click for Big

This suggests to me that November commenced an actual theme, one based on an expectation of higher government interest rates in the future (perhaps due to renewed hopes that the introduction of coronavirus vaccines will return things to normal) and that this theme has continued through February, finally replacing the uncorrelated messes we’ve seen through much of the market’s recovery since the end of March, 2020.

As for the future, of course, it’s one thing to say that ‘spreads are unsustainable and so are government yields’ and it’s quite another to forecast just how and when a more economically sustainable environment will take effect. It could be years. The same caution applies for an end to the overpricing of issues with a minimum rate guarantee.

Yields on preferred shares of all stripes are high compared to those available from other investments of similar quality. As I told John Heinzl in an eMail interview in late November, 2018, the best advice I can offer investors remains Shut up and clip your coupons!

I think that a broad, sustainable rally in FixedResets will require higher five-year Canada yields (or a widespread expectation of them), since paradigm shifts generally require a trigger (a Wile E. Coyote moment, as they say!) … and although I’m sure this will happen eventually, it would be foolish to speculate on just when it will happen.

Calculation of MAPF Sustainable Income Per Unit
Month NAVPU Portfolio
Average
YTW
Leverage
Divisor
Securities
Average
YTW
Capital
Gains
Multiplier
Sustainable
Income
per
current
Unit
June, 2007 9.3114 5.16% 1.03 5.01% 1.3240 0.3524
September 9.1489 5.35% 0.98 5.46% 1.3240 0.3773
December, 2007 9.0070 5.53% 0.942 5.87% 1.3240 0.3993
March, 2008 8.8512 6.17% 1.047 5.89% 1.3240 0.3938
June 8.3419 6.034% 0.952 6.338% 1.3240 $0.3993
September 8.1886 7.108% 0.969 7.335% 1.3240 $0.4537
December, 2008 8.0464 9.24% 1.008 9.166% 1.3240 $0.5571
March 2009 $8.8317 8.60% 0.995 8.802% 1.3240 $0.5872
June 10.9846 7.05% 0.999 7.057% 1.3240 $0.5855
September 12.3462 6.03% 0.998 6.042% 1.3240 $0.5634
December 2009 10.5662 5.74% 0.981 5.851% 1.1141 $0.5549
March 2010 10.2497 6.03% 0.992 6.079% 1.1141 $0.5593
June 10.5770 5.96% 0.996 5.984% 1.1141 $0.5681
September 11.3901 5.43% 0.980 5.540% 1.1141 $0.5664
December 2010 10.7659 5.37% 0.993 5.408% 1.0298 $0.5654
March, 2011 11.0560 6.00% 0.994 5.964% 1.0298 $0.6403
June 11.1194 5.87% 1.018 5.976% 1.0298 $0.6453
September 10.2709 6.10%
Note
1.001 6.106% 1.0298 $0.6090
December, 2011 10.0793 5.63%
Note
1.031 5.805% 1.0000 $0.5851
March, 2012 10.3944 5.13%
Note
0.996 5.109% 1.0000 $0.5310
June 10.2151 5.32%
Note
1.012 5.384% 1.0000 $0.5500
September 10.6703 4.61%
Note
0.997 4.624% 1.0000 $0.4934
December, 2012 10.8307 4.24% 0.989 4.287% 1.0000 $0.4643
March, 2013 10.9033 3.87% 0.996 3.886% 1.0000 $0.4237
June 10.3261 4.81% 0.998 4.80% 1.0000 $0.4957
September 10.0296 5.62% 0.996 5.643% 1.0000 $0.5660
December, 2013 9.8717 6.02% 1.008 5.972% 1.0000 $0.5895
March, 2014 10.2233 5.55% 0.998 5.561% 1.0000 $0.5685
June 10.5877 5.09% 0.998 5.100% 1.0000 $0.5395
September 10.4601 5.28% 0.997 5.296% 1.0000 $0.5540
December, 2014 10.5701 4.83% 1.009 4.787% 1.0000 $0.5060
March, 2015 9.9573 4.99% 1.001 4.985% 1.0000 $0.4964
June, 2015 9.4181 5.55% 1.002 5.539% 1.0000 $0.5217
September 7.8140 6.98% 0.999 6.987% 1.0000 $0.5460
December, 2015 8.1379 6.85% 0.997 6.871% 1.0000 $0.5592
March, 2016 7.4416 7.79% 0.998 7.805% 1.0000 $0.5808
June 7.6704 7.67% 1.011 7.587% 1.0000 $0.5819
September 8.0590 7.35% 0.993 7.402% 1.0000 $0.5965
December, 2016 8.5844 7.24% 0.990 7.313% 1.0000 $0.6278
March, 2017 9.3984 6.26% 0.994 6.298% 1.0000 $0.5919
June 9.5313 6.41% 0.998 6.423% 1.0000 $0.6122
September 9.7129 6.56% 0.998 6.573% 1.0000 $0.6384
December, 2017 10.0566 6.06% 1.004 6.036% 1.0000 $0.6070
March, 2018 10.2701 6.22% 1.007 6.177% 1.0000 $0.6344
June 10.2518 6.22% 0.995 6.251% 1.0000 $0.6408
September 10.2965 6.62% 1.018 6.503% 1.0000 $0.6696
December, 2018 8.6875 7.16% 0.997 7.182% 1.0000 $0.6240
March, 2019 8.4778 7.09% 1.007 7.041% 1.0000 $0.5969
June 8.0896 7.33% 0.996 7.359% 1.0000 $0.5953
September 7.7948 7.96% 0.998 7.976% 1.0000 $0.6217
December, 2019 8.0900 6.03% 0.995 6.060% 1.0000 $0.4903
March 5.5596 7.04% 1.006 6.998% 1.0000 $0.3891
June 6.3568 6.10% 0.9900 6.162% 1.0000 $0.3917
September 7.2852 5.32% 1.00 5.320% 1.0000 $0.3876
December, 2020 8.3947 4.46% 0.999 4.464% 1.0000 $0.3747
February, 2021 9.4553 4.57% 1.017 4.494% 1.0000 $0.4249
NAVPU is shown after quarterly distributions of dividend income and annual distribution of capital gains.
Portfolio YTW includes cash (or margin borrowing), with an assumed interest rate of 0.00%
The Leverage Divisor indicates the level of cash in the account: if the portfolio is 1% in cash, the Leverage Divisor will be 0.99
Securities YTW divides “Portfolio YTW” by the “Leverage Divisor” to show the average YTW on the securities held; this assumes that the cash is invested in (or raised from) all securities held, in proportion to their holdings.
The Capital Gains Multiplier adjusts for the effects of Capital Gains Dividends. On 2009-12-31, there was a capital gains distribution of $1.989262 which is assumed for this purpose to have been reinvested at the final price of $10.5662. Thus, a holder of one unit pre-distribution would have held 1.1883 units post-distribution; the CG Multiplier reflects this to make the time-series comparable. Note that Dividend Distributions are not assumed to be reinvested.
Sustainable Income is the resultant estimate of the fund’s dividend income per current unit, before fees and expenses. Note that a “current unit” includes reinvestment of prior capital gains; a unitholder would have had the calculated sustainable income with only, say, 0.9 units in the past which, with reinvestment of capital gains, would become 1.0 current units.
DeemedRetractibles are comprised of all Straight Perpetuals (both PerpetualDiscount and PerpetualPremium) issued by BMO, BNS, CM, ELF, GWO, HSB, IAG, MFC, NA, RY, SLF and TD, which are not exchangable into common at the option of the company or the regulator (definition refined in May, 2011). These issues are analyzed as if their prospectuses included a requirement to redeem at par on or prior to 2022-1-31 (banks) or the Deemed Maturity date for insurers and insurance holding companies (see below)), in addition to the call schedule explicitly defined. See the Deemed Retractible Review: September 2016 for the rationale behind this analysis.

The same reasoning is also applied to FixedResets from these issuers, other than explicitly defined NVCC from banks.

In November, 2019, the assumption of DeemedRetraction for insurance issues was cancelled in the wake of the IAIS decision included in ICS 2.0. This resulted in a large drop in the yield calculated for these issues

The Deemed Maturity date for insurers was set at 2022-1-31 at the commencement of the process in February, 2011. It was extended to 2025-1-31 in April, 2013 and to 2030-1-31 in December, 2018. In November, 2019, the assumption of DeemedRetraction was cancelled in the wake of the IAIS decision included in ICS 2.0.
Yields for September, 2011, to January, 2012, were calculated by imposing a cap of 10% on the yields of YLO issues held, in order to avoid their extremely high calculated yields distorting the calculation and to reflect the uncertainty in the marketplace that these yields will be realized. From February to September 2012, yields on these issues have been set to zero. All YLO issues held were sold in October 2012.

These calculations were performed assuming constant contemporary GOC-5 and 3-Month Bill rates, as follows:

Canada Yields Assumed in Calculations
Month-end GOC-5 3-Month Bill
September, 2015 0.78% 0.40%
December, 2015 0.71% 0.46%
March, 2016 0.70% 0.44%
June 0.57% 0.47%
September 0.58% 0.53%
December, 2016 1.16% 0.47%
March, 2017 1.08% 0.55%
June 1.35% 0.69%
September 1.79% 0.97%
December, 2017 1.83% 1.00%
March, 2018 2.06% 1.08%
June 1.95% 1.22%
September 2.33% 1.55%
December, 2018 1.88% 1.65%
March, 2019 1.46% 1.66%
June 1.34% 1.66%
September 1.41% 1.66%
December, 2019 1.68% 1.68%
March, 2020 0.57% 0.21%
June 0.37% 0.21%
September 0.35% 0.14%
December, 2020 0.42% 0.08%
February, 2021 0.86% 0.11%

I note that the sustainable yield calculated above is not directly comparable with any yield calculation currently reported by any other preferred share fund as far as I am aware. The Sustainable Yield depends on:
i) Calculating Yield-to-Worst for each instrument and using this yield for reporting purposes;
ii) Using the contemporary value of Five-Year Canadas to estimate dividends after reset for FixedResets. The assumption regarding the five-year Canada rate has become more important as the proportion of low-spread FixedResets in the portfolio has increased.
iii) Making the assumption that deeply discounted NVCC non-compliant issues from banks (and insurers, until November 2019), both Straight and FixedResets will be redeemed at par on their DeemedMaturity date as discussed above.

MAPF Portfolio Composition : February, 2021

Saturday, February 27th, 2021

Turnover jumped to 29% in February.

The fund’s trading will probably be higher in the future than has been normal for the past several years, since the extreme segmentation in the marketplace that I complained about for so long is now effectively ended. Low-Reset insurance issues were considered so cheap relative to their peers that a large portion of the fund’s holdings were effectively frozen. However, this differentiating factor is no longer considered applicable.

I am no longer making any adjustments for special qualities of insurance issues but note that this policy may change again in the future – a requirement for a Principal Loss Absorbency Mechanism (PLAM), whereby any security included in Tier 1 Capital will be wiped out prior to a government bail-out, even if technical bankruptcy is avoided, remains good public policy; it is a disgrace that the IAIS has rejected this principle and even worse that OSFI argued strenuously against it. I will continue to read notifications from these two entities with great interest, but while it is within the realm of possibility that ICS 2.0 will be revised following the expiry of the current five-year testing period, I can’t say I have any great confidence in the wisdom of the bureaucrats. However, it is a positive move that the increase in the limit for preferred share issuance was increased from 10% of the capital requirement to 15%; but this increase may only be met with issues having a PLAM.

Sectoral distribution of the MAPF portfolio on February 26 was as follows:

MAPF Sectoral Analysis 2021-2-26
HIMI Indices Sector Weighting YTW ModDur
Ratchet 0% N/A N/A
FixFloat 0% N/A N/A
Floater 0% N/A N/A
OpRet 0% N/A N/A
SplitShare 1.9% 4.33% 4.52
Interest Rearing 0% N/A N/A
PerpetualPremium 10.0% 5.20% 7.16
PerpetualDiscount 6.2% 4.75% 15.94
Fixed-Reset Discount 41.0% 4.24% 16.92
Insurance – Straight 0% N/A N/A
FloatingReset 0% N/A N/A
FixedReset Premium 1.8% 2.38% 0.89
FixedReset Bank non-NVCC 4.2% 1.92% 0.49
FixedReset Insurance non-NVCC 15.6% 3.84% 17.61
Scraps – Ratchet 1.2% 4.93% 18.39
Scraps – FixedFloater 0% N/A N/A
Scraps – Floater 0% N/A N/A
Scraps – OpRet 0% N/A N/A
Scraps – SplitShare 0.9% 4.81% 4.17
Scraps – PerpPrem 0% N/A N/A
Scraps – PerpDisc 0% N/A N/A
Scraps – FR Discount 18.8% 5.91% 14.11
Scraps – Insurance Straight 0% N/A N/A
Scraps – FloatingReset 0% N/A N/A
Scraps – FR Premium 0% N/A N/A
Scraps – Bank non-NVCC 0% N/A N/A
Scraps – Ins non-NVCC 0% N/A N/A
Cash -1.7% 0.00% 0.00
Total 100% 4.57% 14.43
Totals and changes will not add precisely due to rounding. Cash is included in totals with duration and yield both equal to zero.
The various “Scraps” indices include issues with a DBRS rating of Pfd-3(high) or lower and issues with an Average Trading Value (calculated with HIMIPref™ methodology, which is relatively complex) of less than $25,000. The issues considered “Scraps” are subdivided into indices which reflect those of the main indices.
DeemedRetractibles were comprised of all Straight Perpetuals (both PerpetualDiscount and PerpetualPremium) issued by BMO, BNS, CM, ELF, GWO, HSB, IAG, MFC, NA, RY, SLF and TD, which are not exchangable into common at the option of the company or the regulator. These issues are analyzed as if their prospectuses included a requirement to redeem at par on or prior to 2022-1-31 in the case of banks or normally in the case of insurers and insurance holding companies, in addition to the call schedule explicitly defined. See the Deemed Retractible Review: September 2016 for the rationale behind this analysis and IAIS Says No To DeemedRetractions for the recent change in policy with respect to insurers.

Note that the estimate for the time this will become effective for insurers and insurance holding companies was extended by three years in April 2013, due to the delays in OSFI’s providing clarity on the issue and by a further five years in December, 2018; the estimate was eliminated in November. However, the distinctions are being kept because it is useful to distinguish insurance issues from others.

The name of this subindex has been changed to "Insurance Straight" as of November, 2020

Calculations of resettable instruments are performed assuming a constant GOC-5 rate of 0.86%, a constant 3-Month Bill rate of 0.11% and a constant Canada Prime Rate of 2.45%

The “total” reflects the un-leveraged total portfolio (i.e., cash is included in the portfolio calculations and is deemed to have a duration and yield of 0.00.). MAPF will often have relatively large cash balances, both credit and debit, to facilitate trading. Figures presented in the table have been rounded to the indicated precision.

An additional wrinkle to the division into sub-indices is the fact that some issues are classed here as FixedResets, even though for analytical purposes they are classified as Straights – this is due to the fact that these particular issues reset with a floor rate which is (given the current level of the GOC 5-Year bond) currently expected to be effective.

For MAPF, this idiosyncracy is represented by ECN.PR.C, with a portfolio weight of 1.3%. The total portfolio is therefore 82% “Floating”, which means the rates will reset periodically based upon the GOC-5, T-Bill or Canada Prime levels.

Credit distribution is:

MAPF Credit Analysis 2021-2-26
DBRS Rating MAPF Weighting
Pfd-1 0
Pfd-1(low) 0
Pfd-2(high) 31.6%
Pfd-2 27.9%
Pfd-2(low) 21.2%
Pfd-3(high) 2.0%
Pfd-3 13.8%
Pfd-3(low) 2.1%
Pfd-4(high) 2.9%
Pfd-4 0%
Pfd-4(low) 0%
Pfd-5(high) 0%
Pfd-5 0%
Cash -1.7%
Totals will not add precisely due to rounding.
A position held in INE.PR.A is not rated by DBRS, but has been included as “Pfd-4(high)” in the above table on the basis of its S&P rating of P-4(high).

Liquidity Distribution is:

MAPF Liquidity Analysis 2021-2-26
Average Daily Trading MAPF Weighting
<$50,000 2.1%
$50,000 – $100,000 22.3%
$100,000 – $200,000 41.4%
$200,000 – $300,000 18.0%
>$300,000 17.9%
Cash -1.7%
Totals will not add precisely due to rounding.

The distribution of Issue Reset Spreads is:

Range MAPF Weight
<100bp 0%
100-149bp 9.2%
150-199bp 11.8%
200-249bp 11.6%
250-299bp 31.6%
300-349bp 2.9%
350-399bp 10.2%
400-449bp 2.8%
450-499bp 0.0%
500-549bp 1.3%
550-599bp 0%
>= 600bp 0%
Undefined 18.6%

Distribution of Floating Rate Start Dates is shown in the table below. This is the date of the next adjustment to the dividend rate, if the issue is currently paying a fixed rate for a limited time; which in practice is successive terms of 5 years. Issues that adjust quarterly are considered “Currently Floating”.

Range MAPF Weight
Currently Floating 2.3%
0-1 Year 9.6%
1-2 Years 6.2%
2-3 Years 6.5%
3-4 Years 21.1%
4-5 Years 37.8%
5-6 Years 0%
>6 Years 0%
Not Floating Rate 16.4%

MAPF is, of course, Malachite Aggressive Preferred Fund, a “unit trust” managed by Hymas Investment Management Inc. Further information and links to performance, audited financials and subscription information are available the fund’s web page. The fund may be purchased directly from Hymas Investment Management. A “unit trust” is like a regular mutual fund, but are not sold with a prospectus. This is cheaper, but means subscription is restricted to “accredited investors” (as defined by the Ontario Securities Commission). Fund past performances are not a guarantee of future performance. You can lose money investing in MAPF or any other fund.

MAPF Performance : January 2021

Tuesday, February 9th, 2021

Malachite Aggressive Preferred Fund’s Net Asset Value per Unit as of the close January 29, 2021, was $8.7395.

Six issues held at month-end returned less than 0% over the month: IFC.PR.A, IFC.PR.C, FTN.PR.A, CF.PR.C, BMO.PR.Y and SLF.PR.E, with a total weight in the portfolio (at month-end) of 11.7%. Star performers were PPL.PR.E, PPL.PR.O, INE.PR.A, TA.PR.D, AZP.PR.B, BPO.PR.R and BPO.PR.N, all returning in excess of 10% with a total month-end portfolio weight of 5.2%.

Quote quality remained fair this month, with the difference in portfolio values when calculated with closing prices vs. calculation with bid prices decreasing from 0.67% to 0.52%.

Returns to January 29, 2021
Period MAPF TXPR*
Total Return
CPD – according to Blackrock
One Month +4.11% +2.56% N/A
Three Months +20.77% +10.48% N/A
One Year +15.40% +8.82% +8.13%
Two Years (annualized) +7.76% +6.41% N/A
Three Years (annualized) -0.77% +0.70% +0.08%
Four Years (annualized) +4.18% +3.17% N/A
Five Years (annualized) +9.90% +7.07% +6.50%
Six Years (annualized) +3.02% +1.97% N/A
Seven Years (annualized) +3.27% +1.83% N/A
Eight Years (annualized) +2.39% +1.29% N/A
Nine Years (annualized) +2.89% +1.63% N/A
Ten Years (annualized) +3.06% +2.12% +1.63%
Eleven Years (annualized) +4.32% +2.73%  
Twelve Years (annualized) +7.72% +4.25%  
Thirteen Years (annualized) +7.50% +2.71%  
Fourteen Years (annualized) +6.99%    
Fifteen Years (annualized) +6.90%    
Sixteen Years (annualized) +6.82%    
Seventeen Years (annualized) +7.10%    
Eighteen Years (annualized) +8.13%    
Nineteen Years (annualized) +7.84%    
MAPF returns assume reinvestment of distributions, and are shown after expenses but before fees.
The BMO Capital Markets “50” Preferred Share Index is no longer being calculated. The final performance report incorporating this venerable index was published as of December, 2020.
“TXPR” is the S&P/TSX Preferred Share Index. It is calculated without accounting for fees, but does assume reinvestment of dividends.
CPD Returns are for the NAV and are after all fees and expenses. Reinvestment of dividends is assumed.
Figures for National Bank Preferred Equity Income Fund (formerly Omega Preferred Equity) (which are after all fees and expenses) for 1-, 3- and 12-months are +3.23%, +12.55% and +10.31%, respectively, according to Globe & Mail / Fundata after all fees & expenses. Three year performance is +1.46%; five year is +6.97%; ten year is +2.78%

Figures from Morningstar are no longer conveniently available.

Manulife Preferred Income Class Adv has been terminated by Manulife. The performance of this fund was last reported here in March, 2018.
Figures for Horizons Active Preferred Share ETF (HPR) (which are after all fees and expenses) for 1-, 3- and 12-months are +3.16%, +13.48% & +9.76%, respectively. Three year performance is -0.41%, five-year is +6.77%
Figures for National Bank Preferred Equity Fund (formerly Altamira Preferred Equity Fund) are +3.15%, +13.66% and +10.18% for one-, three- and twelve months, respectively. Three year performance is -0.21%; five-year is +6.99%.

Acccording to the fund’s fact sheet as of June 30, 2016, the fund’s inception date was October 30, 2015. I do not know how they justify this nonsensical statement, but will assume that prior performance is being suppressed in some perfectly legal manner that somebody at National considers ethical.

The last time Altamira Preferred Equity Fund’s performance was reported here was April, 2014; performance under the National Bank banner was first reported here May, 2014.

The figures for the NAV of BMO S&P/TSX Laddered Preferred Share Index ETF (ZPR) is +9.93% for the past twelve months. Two year performance is +5.95%, three year is -0.23%, five year is +7.50%.
Figures for Fiera Canadian Preferred Share Class Cg Series F, (formerly Natixis Canadian Preferred Share Class Series F) (formerly NexGen Canadian Preferred Share Tax Managed Fund) are no longer available as the Fund is now the property of Canoe Financial. The last reported performance for the merged fund was May 2020.
Figures for BMO Preferred Share Fund (advisor series) according to BMO are +2.48%, +10.35% and +8.76% for the past one-, three- and twelve-months, respectively. Two year performance is +4.37%; three year is -2.01%; five-year is +4.18%.
Figures for PowerShares Canadian Preferred Share Index Class, Series F (PPS) are +8.40% for the past twelve months. The three-year figure is -0.59%; five years is +7.11%
Figures for the First Asset Preferred Share Investment Trust (PSF.UN) are no longer available since the fund has merged with First Asset Preferred Share ETF (FPR).

Performance for the fund was last reported here in September, 2016; the first report of unavailability was in October, 2016.

Figures for Lysander-Slater Preferred Share Dividend Fund (Class F) according to the company are +3.90%, +15.39% and +3.66% for the past one, three and twelve months, respectively. Three year performance is -2.61%, five-year is +4.10%.
Figures for the Desjardins Canadian Preferred Share Fund A Class (A Class), as reported by the company are +2.62%, +10.44% and +7.79% for the past one, three and twelve months, respectively. Two year performance is +4.38%, three-year is -1.37%
Figures for the RBC Canadian Preferred Share ETF (RPF) as reported by Morningstar are +3.43%, +13.59% and +10.01% for the past one, three and twelve months, respectively. Three-year performance is -0.87%

MAPF returns assume reinvestment of dividends, and are shown after expenses but before fees. Past performance is not a guarantee of future performance. You can lose money investing in Malachite Aggressive Preferred Fund or any other fund. For more information, see the fund’s main page. The fund is available directly from Hymas Investment Management.

The preferred share market continues to be underpriced relative to other capital markets, leaving a lot of room for outsized gains. The Seniority Spread (the interest-equivalent yield on reasonably liquid, investment-grade PerpetualDiscounts less the yield on long term corporate bonds) is extremely elevated (chart end-date 2021-1-8):

PL_210108_Body_Chart_1
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Note that the Seniority Spread was recorded at 355bp just after month-end, significantly narrower than the 375bp just before year-end. As a good practical example of the spreads between markets, consider that CIU issued a long-term bond in early September, 2019 yielding 2.963%, about 411bp cheaper than the interest-equivalent figure of 7.07% for CIU.PR.A, which was then yielding about 5.44% as a dividend. CIU issued another bond in late September, 2020, yielding 2.609%, which was 399bp cheaper than the interest-equivalent figure of 6.60% for CIU.

… and the relationship between five-year Canada yields and yields on investment-grade FixedResets is still deep in ‘decoupled panic’ territory (chart end-date 2021-1-8):

PL_210108_Body_Chart_5
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In addition, I feel that the yield on five-year Canadas is unsustainably low (it should be the inflation rate plus an increment of … 1%? 1.5%? 2.0%?),and a return to sustainable levels is likely over the medium term.

It seems clear that many market players are, wittingly or not, using FixedResets to speculate on future moves in the Canada 5-Year yield. This is excellent news for those who take market action based on fundamentals and the long term characteristics of the market because nobody can consistently time the markets. The speculators will, over the long run and in aggregate, lose money, handing it over to more sober investors.

In this connection, it is useful to review some recent commentary regarding the preferred share market. Rob Carrick recently published a column with the title Rob Carrick: Does it make sense to use preferred shares as a bond substitute?, in which he gave a nod to the old shibboleth:

But does it truly make sense to substitute prefs for bonds? Not if you subscribe to the idea that the main point of bonds is not to generate income and returns, but rather to act as a portfolio life preserver when the stock market turns ugly.

… but then noted the crucial point:

Perpetuals are somewhat less touchy, but they’re not to be counted on in a stock market crash.

This distinction is meaningless to investors who are all about income and fine with portfolios that bounce around in price.

As I never get tired of repeating, Fixed Income portfolio management is a process that largely consists of balancing Security of Income vs. Security of Principal. These are opposing forces; the more you have of one, the less you’ll have of the other. And preferred shares are way, way over to the “security of income” pole. So in bad times … Shut up and Clip Your Coupons!

Financial Wisdom Forum’s long-running thread on preferred shares recently featured a series of posts which often deprecated preferred shares with some participants advocating market timing:

The thing about prefs is that timing is everything. You buy them when they’re being thrown out with the bathwater and you’ll be golden.

Yes, there’s money to be made, but only if the shares are in the order of a 30% discount.

If you care about total return, preferred shares probably aren’t for you, (unless of course you are interested in trading them or you have a crystal ball regarding interest rates).

If you want something that pays a decent, tax efficient dividend, in a non-registered account, and share price isn’t important, then straight perpetual preferred shares are probably fine (caveat for a few years with respect to NVCC – will no longer qualify as Tier 1 Capital post 2022). Suitable for the retired. Anything else – not so much. They all seem to favour the issuer.

Sure the market value is volatile but I don’t plan on selling so it doesn’t matter to me, barring default.

The part I’d like to focus on is:

Yes, there’s money to be made, but only if the shares are in the order of a 30% discount.

This is close – but not quite – to stating an essential point about Fixed Income investing: total returns are asymmetrical: you can lose a lot more than you can win. This is why credit quality is so important – a bankruptcy, or even a mere impairment, is going to take you a long way down the ‘bad side’ of the asymmetrical probability curve. But another point, often ignored, is that this implies that discounted issues are, all else being equal, better investments than premium issues: in good times, discounted issues can win a lot more than premium issues, which are tethered to their par value due to considerations of maturity or possible redemption. In bad times, they’ll lose a little more, since discounted issues have no ‘buffer’ to insulate them, while premium issues (and, to a lesser extent, issues trading modestly below par) have such a buffer that absorbs a portion of the shock – this is easier to understand in terms option values and volatility theory, as the negative value of the embedded option is reduced as the issue moves further away from par.

The implication for MAPF is that there is a bias towards holding issues trading well away from par value, which almost always means discounted issues. It’s only a bias, not a hard and fast rule, but this bias was deliberately built into the system in order to reduce the asymmetry of the projected returns curve. This means that MAPF will usually hold a portfolio more heavily weighted towards low coupon – low priced issues than the index and be correspondingly underweighted in high coupon – high priced instruments.

This in turn has the effect of introducing a bias in returns: MAPF will often underperform in poor markets (as it holds fewer of the better performing high-coupon issues than the index) and outperform in good markets (as it holds fewer of the worse performing high-coupon issues than the index). This is only a tendency, not an iron-clad rule, but the effect is there and it means that MAPF has a higher Beta than it might otherwise have, if you enjoy thinking in terms of investment models from the last century. And at all times, of course, the fund seeks to trade and exploit market inefficiencies, which mitigates but does not eliminate the effect.

On another FWF forum, there has been speculation that the fine performance of FixedResets since March, 2020, has been due to a conscious focus on spreads:

ZPR was up approximately 6% for 2020. Is this a reversal of the trend to follow interest rates downward? Perhaps investors will focus on the spread between preferred versus bond yields going forward rather than an irrational rush to the exits whenever prefs are resetting at lower rates.

[reply] It’s already happening. That’s why ZPR has finally had a positive year in a declining rate environment.

Well, this is something I would like to agree with. I’ve been pounding the ‘spreads’ drum for a long time…

Unfortunately, while one can only rarely point to a single mechanism explaining a change in relative prices and say, with any credibility whatsoever, that A caused B, I have to admit I’m more dubious than usual about this claim. I believe that the continued rally is due to continued interest rate anticipation, which is now (for some investors) considered to be on the way up rather than continuing the downward staggering of the past ten years; this in turn is derived from Central Bank ‘easy money’ policies and very loose government fiscal policies; which is considered to be on the verge of driving inflation upwards.

Who’s right? Well, we’ll know in ten years, at a time when half of the investing world will graciously explain at length how their uncanny ability to read global market forces allowed them to time the market and make enormous profits, while the other half will tell you the question is irrelevant because investing is about the future, not the past. My advice is, as always, to make asset allocation decisions based on the long-term characteristics of each asset class and how these characteristics interact with your long-term portfolio objectives.

It should be noted that I have been unable to provide an entirely satisfactory explanation for the relatively strong performance of Floor issues during the 2018-19 downdraft relative to their non-Floor counterparts. See the discussions on PrefBlog at LINK, LINK and LINK.

I believe the bear-market outperformance by the Floor issues is a behavioural phenomenon with very little basis in fundamentals. When interest rates in general move, FixedReset prices should not change much (to a first approximation, for issues priced near par), since in Fixed Income investing it is spreads that are important, not absolute yields. There should be some effect on Floor issues, which should move up slightly in price as yields go down since the ‘option’ to receive the floor rate will become more valuable. Adjustments due to this effect should be fairly small, however – and over the past year issues with a floor, that started the period being expensive, have simply gotten even more expensive, relative to their non-floored counterparts.

And the tricky thing about behavioural models of investing is that they can lose their explanatory power very quickly when an investment fashion shifts, whereas fundamentals will always be effective – sometimes it just takes a little time! Just to give an example from the preferred share market – until the end of 2014, FixedResets were priced relative to each other according to their initial dividend; when the reset of TRP.PR.A shocked a lot of investors, relative pricing became much more dependent upon the Issue Reset Spread, a much more logical and fundamental property. This paradigm shift was discussed extensively in PrefLetter.

FixedReset (Discount) performance on the month was +3.16% vs. PerpetualDiscounts of +0.45% in January; the two classes finally decoupled in mid-November, 2018, after months of moving in lockstep:

HIMI_indexPerf_210129
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Floaters performed well, returning +6.80% for December but the past twelve months is still negative at -2.20%. Look at the long-term performance:

HIMI_floaterPerf_210129
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Some Assiduous Readers will be interested to observe that the ‘Quantitative Easing’ decline was not initially as bad as the ‘Credit Crunch’ decline, which took the sector down to the point where the 15-year cumulative total return was negative. I wrote about that at the time. but it became worse in August, 2019! On August 30, 2019 the HIMI Floater Index (total return) value was calculated as 1906.6; the index first surpassed this value on 2003-8-13. Thus, cumulative total return (that is, including dividends) was negative over a period of slightly-over sixteen years. Worse, on March 31, 2020, the index level was 1454.8, a milestone first passed on 1997-7-30; a cumulative negative total return for 22 years and 8 months; at its low on March 18 the index level was 1253.7, first surpassed on 1996-1-4, a span of 24 years and over two months!

It seems clear that Floaters are used, wittingly or otherwise, as a vehicle for speculation on the policy rate and Canada Prime, while FixedResets are being used as a vehicle for speculation on the five-year Canada rate. In support of this idea, I present an Implied Volatility analysis of the TRP series of FixedResets as of November 30, which is comprised of six issues without a Minimum Rate Guarantee and two issues which do have this feature:

impVol_TRP_210129
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The two issues with floors, TRP.PR.J (+469, minimum 5.50%) and TRP.PR.K (+385, minimum 4.90%) are $1.17 and $2.13 rich, respectively. These figures are much narrower than the 2.38 and 3.08 calculated with last month’s figures. The floors have become effective since five-year Canadas dipped below 0.81% and 1.05%, respectively.

It will also be noted that the spread of a notional non-callable TRP FixedReset priced at par has narrowed from 401bp last month to 376bp this month, while GOC-5 has remained constant at 0.42%.

I also show results for the BAM series of FixedResets, which includes three issues with dividend floors: BAM.PF.H (+417, Minimum 5.00%); BAM.PF.I (+386, Minimum 4.80%); and BAM.PF.J (+310, Minimum 4.75%); surprisingly, these issues show mixed results compared to their non-floor siblings, being cheap 2.09, cheap 1.79, and cheap 1.74 respectively, respectively, very different from last month’s figures of cheap 0.28, rich 0.09 and cheap 0.59. I note that it is normal for premium issues in a rising market to be cheap, since investors have an expectation for continued rising prices (and therefore an ‘automatic’ redemption), without considering the possibility of a market reversal, in which case the higher spreads will prove to be very useful.

impVol_BAM_210129
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It will also be noted that the spread of a notional non-callable BAM FixedReset priced at par has narrowed significantly over the month; 416bp last month to 397bp this month, while GOC-5 has remained constant at 0.42%.

*****

Relative performance during the month was correlated (12%) with Issue Reset Spreads for the “Pfd-2 Group” but uncorrelated for the “Pfd-3 Group” issues:

perfFR_210129_1Mo
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… with Pfd-2 Group correlation for the three-month period of 48%, negligible for Pfd-3:

perfFR_210129_3Mo
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This suggests to me that November commenced an actual theme, one based on an expectation of higher government interest rates in the future (perhaps due to renewed hopes that the introduction of coronavirus vaccines will return things to normal) and that this theme has continued through January, finally replacing the uncorrelated messes we’ve seen through much of the market’s recovery since the end of March, 2020.

As for the future, of course, it’s one thing to say that ‘spreads are unsustainable and so are government yields’ and it’s quite another to forecast just how and when a more economically sustainable environment will take effect. It could be years. The same caution applies for an end to the overpricing of issues with a minimum rate guarantee.

Yields on preferred shares of all stripes are high compared to those available from other investments of similar quality. As I told John Heinzl in an eMail interview in late November, 2018, the best advice I can offer investors remains Shut up and clip your coupons!

I think that a broad, sustainable rally in FixedResets will require higher five-year Canada yields (or a widespread expectation of them), since paradigm shifts generally require a trigger (a Wile E. Coyote moment, as they say!) … and although I’m sure this will happen eventually, it would be foolish to speculate on just when it will happen.

Calculation of MAPF Sustainable Income Per Unit
Month NAVPU Portfolio
Average
YTW
Leverage
Divisor
Securities
Average
YTW
Capital
Gains
Multiplier
Sustainable
Income
per
current
Unit
June, 2007 9.3114 5.16% 1.03 5.01% 1.3240 0.3524
September 9.1489 5.35% 0.98 5.46% 1.3240 0.3773
December, 2007 9.0070 5.53% 0.942 5.87% 1.3240 0.3993
March, 2008 8.8512 6.17% 1.047 5.89% 1.3240 0.3938
June 8.3419 6.034% 0.952 6.338% 1.3240 $0.3993
September 8.1886 7.108% 0.969 7.335% 1.3240 $0.4537
December, 2008 8.0464 9.24% 1.008 9.166% 1.3240 $0.5571
March 2009 $8.8317 8.60% 0.995 8.802% 1.3240 $0.5872
June 10.9846 7.05% 0.999 7.057% 1.3240 $0.5855
September 12.3462 6.03% 0.998 6.042% 1.3240 $0.5634
December 2009 10.5662 5.74% 0.981 5.851% 1.1141 $0.5549
March 2010 10.2497 6.03% 0.992 6.079% 1.1141 $0.5593
June 10.5770 5.96% 0.996 5.984% 1.1141 $0.5681
September 11.3901 5.43% 0.980 5.540% 1.1141 $0.5664
December 2010 10.7659 5.37% 0.993 5.408% 1.0298 $0.5654
March, 2011 11.0560 6.00% 0.994 5.964% 1.0298 $0.6403
June 11.1194 5.87% 1.018 5.976% 1.0298 $0.6453
September 10.2709 6.10%
Note
1.001 6.106% 1.0298 $0.6090
December, 2011 10.0793 5.63%
Note
1.031 5.805% 1.0000 $0.5851
March, 2012 10.3944 5.13%
Note
0.996 5.109% 1.0000 $0.5310
June 10.2151 5.32%
Note
1.012 5.384% 1.0000 $0.5500
September 10.6703 4.61%
Note
0.997 4.624% 1.0000 $0.4934
December, 2012 10.8307 4.24% 0.989 4.287% 1.0000 $0.4643
March, 2013 10.9033 3.87% 0.996 3.886% 1.0000 $0.4237
June 10.3261 4.81% 0.998 4.80% 1.0000 $0.4957
September 10.0296 5.62% 0.996 5.643% 1.0000 $0.5660
December, 2013 9.8717 6.02% 1.008 5.972% 1.0000 $0.5895
March, 2014 10.2233 5.55% 0.998 5.561% 1.0000 $0.5685
June 10.5877 5.09% 0.998 5.100% 1.0000 $0.5395
September 10.4601 5.28% 0.997 5.296% 1.0000 $0.5540
December, 2014 10.5701 4.83% 1.009 4.787% 1.0000 $0.5060
March, 2015 9.9573 4.99% 1.001 4.985% 1.0000 $0.4964
June, 2015 9.4181 5.55% 1.002 5.539% 1.0000 $0.5217
September 7.8140 6.98% 0.999 6.987% 1.0000 $0.5460
December, 2015 8.1379 6.85% 0.997 6.871% 1.0000 $0.5592
March, 2016 7.4416 7.79% 0.998 7.805% 1.0000 $0.5808
June 7.6704 7.67% 1.011 7.587% 1.0000 $0.5819
September 8.0590 7.35% 0.993 7.402% 1.0000 $0.5965
December, 2016 8.5844 7.24% 0.990 7.313% 1.0000 $0.6278
March, 2017 9.3984 6.26% 0.994 6.298% 1.0000 $0.5919
June 9.5313 6.41% 0.998 6.423% 1.0000 $0.6122
September 9.7129 6.56% 0.998 6.573% 1.0000 $0.6384
December, 2017 10.0566 6.06% 1.004 6.036% 1.0000 $0.6070
March, 2018 10.2701 6.22% 1.007 6.177% 1.0000 $0.6344
June 10.2518 6.22% 0.995 6.251% 1.0000 $0.6408
September 10.2965 6.62% 1.018 6.503% 1.0000 $0.6696
December, 2018 8.6875 7.16% 0.997 7.182% 1.0000 $0.6240
March, 2019 8.4778 7.09% 1.007 7.041% 1.0000 $0.5969
June 8.0896 7.33% 0.996 7.359% 1.0000 $0.5953
September 7.7948 7.96% 0.998 7.976% 1.0000 $0.6217
December, 2019 8.0900 6.03% 0.995 6.060% 1.0000 $0.4903
March 5.5596 7.04% 1.006 6.998% 1.0000 $0.3891
June 6.3568 6.10% 0.9900 6.162% 1.0000 $0.3917
September 7.2852 5.32% 1.00 5.320% 1.0000 $0.3876
December, 2020 8.3947 4.46% 0.999 4.464% 1.0000 $0.3747
January, 2021 8.7395 4.34% 1.001 4.336% 1.0000 $0.3789
NAVPU is shown after quarterly distributions of dividend income and annual distribution of capital gains.
Portfolio YTW includes cash (or margin borrowing), with an assumed interest rate of 0.00%
The Leverage Divisor indicates the level of cash in the account: if the portfolio is 1% in cash, the Leverage Divisor will be 0.99
Securities YTW divides “Portfolio YTW” by the “Leverage Divisor” to show the average YTW on the securities held; this assumes that the cash is invested in (or raised from) all securities held, in proportion to their holdings.
The Capital Gains Multiplier adjusts for the effects of Capital Gains Dividends. On 2009-12-31, there was a capital gains distribution of $1.989262 which is assumed for this purpose to have been reinvested at the final price of $10.5662. Thus, a holder of one unit pre-distribution would have held 1.1883 units post-distribution; the CG Multiplier reflects this to make the time-series comparable. Note that Dividend Distributions are not assumed to be reinvested.
Sustainable Income is the resultant estimate of the fund’s dividend income per current unit, before fees and expenses. Note that a “current unit” includes reinvestment of prior capital gains; a unitholder would have had the calculated sustainable income with only, say, 0.9 units in the past which, with reinvestment of capital gains, would become 1.0 current units.
DeemedRetractibles are comprised of all Straight Perpetuals (both PerpetualDiscount and PerpetualPremium) issued by BMO, BNS, CM, ELF, GWO, HSB, IAG, MFC, NA, RY, SLF and TD, which are not exchangable into common at the option of the company or the regulator (definition refined in May, 2011). These issues are analyzed as if their prospectuses included a requirement to redeem at par on or prior to 2022-1-31 (banks) or the Deemed Maturity date for insurers and insurance holding companies (see below)), in addition to the call schedule explicitly defined. See the Deemed Retractible Review: September 2016 for the rationale behind this analysis.

The same reasoning is also applied to FixedResets from these issuers, other than explicitly defined NVCC from banks.

In November, 2019, the assumption of DeemedRetraction for insurance issues was cancelled in the wake of the IAIS decision included in ICS 2.0. This resulted in a large drop in the yield calculated for these issues

The Deemed Maturity date for insurers was set at 2022-1-31 at the commencement of the process in February, 2011. It was extended to 2025-1-31 in April, 2013 and to 2030-1-31 in December, 2018. In November, 2019, the assumption of DeemedRetraction was cancelled in the wake of the IAIS decision included in ICS 2.0.
Yields for September, 2011, to January, 2012, were calculated by imposing a cap of 10% on the yields of YLO issues held, in order to avoid their extremely high calculated yields distorting the calculation and to reflect the uncertainty in the marketplace that these yields will be realized. From February to September 2012, yields on these issues have been set to zero. All YLO issues held were sold in October 2012.

These calculations were performed assuming constant contemporary GOC-5 and 3-Month Bill rates, as follows:

Canada Yields Assumed in Calculations
Month-end GOC-5 3-Month Bill
September, 2015 0.78% 0.40%
December, 2015 0.71% 0.46%
March, 2016 0.70% 0.44%
June 0.57% 0.47%
September 0.58% 0.53%
December, 2016 1.16% 0.47%
March, 2017 1.08% 0.55%
June 1.35% 0.69%
September 1.79% 0.97%
December, 2017 1.83% 1.00%
March, 2018 2.06% 1.08%
June 1.95% 1.22%
September 2.33% 1.55%
December, 2018 1.88% 1.65%
March, 2019 1.46% 1.66%
June 1.34% 1.66%
September 1.41% 1.66%
December, 2019 1.68% 1.68%
March, 2020 0.57% 0.21%
June 0.37% 0.21%
September 0.35% 0.14%
December, 2020 0.42% 0.08%
January, 2021 0.42% 0.07%

I note that the sustainable yield calculated above is not directly comparable with any yield calculation currently reported by any other preferred share fund as far as I am aware. The Sustainable Yield depends on:
i) Calculating Yield-to-Worst for each instrument and using this yield for reporting purposes;
ii) Using the contemporary value of Five-Year Canadas to estimate dividends after reset for FixedResets. The assumption regarding the five-year Canada rate has become more important as the proportion of low-spread FixedResets in the portfolio has increased.
iii) Making the assumption that deeply discounted NVCC non-compliant issues from banks (and insurers, until November 2019), both Straight and FixedResets will be redeemed at par on their DeemedMaturity date as discussed above.

MAPF Portfolio Composition : January, 2021

Sunday, February 7th, 2021

Turnover jumped to 16% in January.

The fund’s trading will probably be higher in the future than has been normal for the past several years, since the extreme segmentation in the marketplace that I complained about for so long is now effectively ended. Low-Reset insurance issues were considered so cheap relative to their peers that a large portion of the fund’s holdings were effectively frozen. However, this differentiating factor is no longer considered applicable.

I am no longer making any adjustments for special qualities of insurance issues but note that this policy may change again in the future – a requirement for a Principal Loss Absorbency Mechanism (PLAM), whereby any security included in Tier 1 Capital will be wiped out prior to a government bail-out, even if technical bankruptcy is avoided, remains good public policy; it is a disgrace that the IAIS has rejected this principle and even worse that OSFI argued strenuously against it. I will continue to read notifications from these two entities with great interest, but while it is within the realm of possibility that ICS 2.0 will be revised following the expiry of the current five-year testing period, I can’t say I have any great confidence in the wisdom of the bureaucrats. However, it is a positive move that the increase in the limit for preferred share issuance was increased from 10% of the capital requirement to 15%; but this increase may only be met with issues having a PLAM.

Sectoral distribution of the MAPF portfolio on January 29 was as follows:

MAPF Sectoral Analysis 2021-1-29
HIMI Indices Sector Weighting YTW ModDur
Ratchet 0% N/A N/A
FixFloat 0% N/A N/A
Floater 0% N/A N/A
OpRet 0% N/A N/A
SplitShare 2.2% 4.62% 4.57
Interest Rearing 0% N/A N/A
PerpetualPremium 0% N/A N/A
PerpetualDiscount 3.0% 4.77% 15.78
Fixed-Reset Discount 39.7% 4.10% 17.02
Insurance – Straight 4.7% 4.79% 15.81
FloatingReset 0% N/A N/A
FixedReset Premium 0% N/A N/A
FixedReset Bank non-NVCC 3.8% 1.60% 1.00
FixedReset Insurance non-NVCC 25.1% 3.77% 17.64
Scraps – Ratchet 1.2% 5.30% 17.92
Scraps – FixedFloater 0% N/A N/A
Scraps – Floater 0% N/A N/A
Scraps – OpRet 0% N/A N/A
Scraps – SplitShare 1.0% 4.92% 4.22
Scraps – PerpPrem 0% N/A N/A
Scraps – PerpDisc 0% N/A N/A
Scraps – FR Discount 19.6% 5.75% 14.23
Scraps – Insurance Straight 0% N/A N/A
Scraps – FloatingReset 0% N/A N/A
Scraps – FR Premium 0% N/A N/A
Scraps – Bank non-NVCC 0% N/A N/A
Scraps – Ins non-NVCC 0% N/A N/A
Cash -0.1% 0.00% 0.00
Total 100% 4.34% 15.57
Totals and changes will not add precisely due to rounding. Cash is included in totals with duration and yield both equal to zero.
The various “Scraps” indices include issues with a DBRS rating of Pfd-3(high) or lower and issues with an Average Trading Value (calculated with HIMIPref™ methodology, which is relatively complex) of less than $25,000. The issues considered “Scraps” are subdivided into indices which reflect those of the main indices.
DeemedRetractibles were comprised of all Straight Perpetuals (both PerpetualDiscount and PerpetualPremium) issued by BMO, BNS, CM, ELF, GWO, HSB, IAG, MFC, NA, RY, SLF and TD, which are not exchangable into common at the option of the company or the regulator. These issues are analyzed as if their prospectuses included a requirement to redeem at par on or prior to 2022-1-31 in the case of banks or normally in the case of insurers and insurance holding companies, in addition to the call schedule explicitly defined. See the Deemed Retractible Review: September 2016 for the rationale behind this analysis and IAIS Says No To DeemedRetractions for the recent change in policy with respect to insurers.

Note that the estimate for the time this will become effective for insurers and insurance holding companies was extended by three years in April 2013, due to the delays in OSFI’s providing clarity on the issue and by a further five years in December, 2018; the estimate was eliminated in November. However, the distinctions are being kept because it is useful to distinguish insurance issues from others.

The name of this subindex has been changed to "Insurance Straight" as of November, 2020

Calculations of resettable instruments are performed assuming a constant GOC-5 rate of 0.42%, a constant 3-Month Bill rate of 0.07% and a constant Canada Prime Rate of 2.45%

The “total” reflects the un-leveraged total portfolio (i.e., cash is included in the portfolio calculations and is deemed to have a duration and yield of 0.00.). MAPF will often have relatively large cash balances, both credit and debit, to facilitate trading. Figures presented in the table have been rounded to the indicated precision.

An additional wrinkle to the division into sub-indices is the fact that some issues are classed here as FixedResets, even though for analytical purposes they are classified as Straights – this is due to the fact that these particular issues reset with a floor rate which is (given the current level of the GOC 5-Year bond) currently expected to be effective.

For MAPF, these issues are BIP.PR.D, BIP.PR.E, BIP.PR.F and ECN.PR.C, with a combined portfolio weight of 4.0%. The total portfolio is therefore 93.3% “Floating”, which means the rates will reset periodically based upon the GOC-5, T-Bill or Canada Prime levels.

Credit distribution is:

MAPF Credit Analysis 2021-1-29
DBRS Rating MAPF Weighting
Pfd-1 0
Pfd-1(low) 0
Pfd-2(high) 32.8%
Pfd-2 25.2%
Pfd-2(low) 20.3%
Pfd-3(high) 2.0%
Pfd-3 13.9%
Pfd-3(low) 2.1%
Pfd-4(high) 3.0%
Pfd-4 0%
Pfd-4(low) 0.8%
Pfd-5(high) 0%
Pfd-5 0.0%
Cash -0.1%
Totals will not add precisely due to rounding.
The fund holds a position in AZP.PR.B, which is rated P-4(low) by S&P and is unrated by DBRS; it is included in the Pfd-4(low) total.
A position held in INE.PR.A is not rated by DBRS, but has been included as “Pfd-4(high)” in the above table on the basis of its S&P rating of P-4(high).

Liquidity Distribution is:

MAPF Liquidity Analysis 2021-1-29
Average Daily Trading MAPF Weighting
<$50,000 9.7%
$50,000 – $100,000 36.4%
$100,000 – $200,000 39.5%
$200,000 – $300,000 12.4%
>$300,000 2.1%
Cash -0.1%
Totals will not add precisely due to rounding.

The distribution of Issue Reset Spreads is:

Range MAPF Weight
<100bp 0%
100-149bp 8.4%
150-199bp 7.3%
200-249bp 11.1%
250-299bp 45.1%
300-349bp 2.9%
350-399bp 10.3%
400-449bp 1.8%
450-499bp 0.0%
500-549bp 1.2%
550-599bp 0%
>= 600bp 0%
Undefined 12.0%

Distribution of Floating Rate Start Dates is shown in the table below. This is the date of the next adjustment to the dividend rate, if the issue is currently paying a fixed rate for a limited time; which in practice is successive terms of 5 years. Issues that adjust quarterly are considered “Currently Floating”.

Range MAPF Weight
Currently Floating 2.3%
0-1 Year 8.6%
1-2 Years 13.1%
2-3 Years 11.7%
3-4 Years 21.0%
4-5 Years 33.5%
5-6 Years 0%
>6 Years 0%
Not Floating Rate 9.8%

MAPF is, of course, Malachite Aggressive Preferred Fund, a “unit trust” managed by Hymas Investment Management Inc. Further information and links to performance, audited financials and subscription information are available the fund’s web page. The fund may be purchased directly from Hymas Investment Management. A “unit trust” is like a regular mutual fund, but are not sold with a prospectus. This is cheaper, but means subscription is restricted to “accredited investors” (as defined by the Ontario Securities Commission). Fund past performances are not a guarantee of future performance. You can lose money investing in MAPF or any other fund.

MAPF Performance : December 2020

Sunday, January 3rd, 2021

Malachite Aggressive Preferred Fund’s Net Asset Value per Unit as of the close December 31, 2020, was $8.3947 after a dividend distribution of 0.105302.

Three issues held at month-end returned between 0% and -2% over the month: INE.PR.A, BPO.PR.N and CU.PR.G, with a total weight in the portfolio (at month-end) of 3.8%. Star performers were TA.PR.H, PPL.PR.O, IFC.PR.C, HSE.PR.G and IFC.PR.A, all returning between +11% and +18% with a total month-end portfolio weight of 15.0%; HSE.PR.G (and the other HSE issues) has been doing very well lately, but the price remains below its pre-pandemic levels, in distinction to most other issues.

Quote quality remained fair this month, with the difference in portfolio values when calculated with closing prices vs. calculation with bid prices increasing slightly from 0.62% to 0.67%.

Returns to December 31, 2020
Period MAPF BMO-CM “50” Preferred Share Index TXPR*
Total Return
CPD – according to Blackrock
One Month +6.02% +2.41% +2.42% N/A
Three Months +16.67% +8.55% +7.31% N/A
One Year +11.49% +7.00% +6.16% +5.48%
Two Years (annualized) +4.53% +4.53% +4.81% N/A
Three Years (annualized) -0.55% -0.01% +0.38% -0.21%
Four Years (annualized) +4.59% +4.09% +3.54% N/A
Five Years (annualized) +5.89% +4.90% +4.22% +3.70%
Six Years (annualized) +1.30% +1.27% +0.75% N/A
Seven Years (annualized) +2.84% +1.82% +1.59% N/A
Eight Years (annualized) +1.95% +1.43% +1.05% N/A
Nine Years (annualized) +3.10% +1.88% +1.54% N/A
Ten Years (annualized) +2.96% +2.45% +1.95% +1.47%
Eleven Years (annualized) +4.11% +3.13% +2.47%  
Twelve Years (annualized) +8.25% +5.10% +4.31%  
Thirteen Years (annualized) +7.27% +3.26% +3.98%  
Fourteen Years (annualized) +6.61% +2.56%    
Fifteen Years (annualized) +6.63% +2.67%    
Sixteen Years (annualized) +6.58% +2.74%    
Seventeen Years (annualized) +6.97% +2.93%    
Eighteen Years (annualized) +8.30% +3.17%    
Nineteen Years (annualized) +7.91% +3.24%    
MAPF returns assume reinvestment of distributions, and are shown after expenses but before fees.
The full name of the BMO-CM “50” index is the BMO Capital Markets “50” Preferred Share Index. It is calculated without accounting for fees. I am advised that the “BMO50 is expected to be decommissioned at the end of 2020.”
“TXPR” is the S&P/TSX Preferred Share Index. It is calculated without accounting for fees, but does assume reinvestment of dividends.
CPD Returns are for the NAV and are after all fees and expenses. Reinvestment of dividends is assumed.
Figures for National Bank Preferred Equity Income Fund (formerly Omega Preferred Equity) (which are after all fees and expenses) for 1-, 3- and 12-months are +%, +% and +%, respectively, according to Globe & Mail / Fundata after all fees & expenses. Three year performance is +%; five year is +%; ten year is +%

Figures from Morningstar are no longer conveniently available.

Manulife Preferred Income Class Adv has been terminated by Manulife. The performance of this fund was last reported here in March, 2018.
Figures for Horizons Active Preferred Share ETF (HPR) (which are after all fees and expenses) for 1-, 3- and 12-months are +3.63%, +9.49% & +6.19%, respectively. Three year performance is -0.73%, five-year is +4.22%
Figures for National Bank Preferred Equity Fund (formerly Altamira Preferred Equity Fund) are +%, +% and +% for one-, three- and twelve months, respectively. Three year performance is -%; five-year is +%.

Acccording to the fund’s fact sheet as of June 30, 2016, the fund’s inception date was October 30, 2015. I do not know how they justify this nonsensical statement, but will assume that prior performance is being suppressed in some perfectly legal manner that somebody at National considers ethical.

The last time Altamira Preferred Equity Fund’s performance was reported here was April, 2014; performance under the National Bank banner was first reported here May, 2014.

The figures for the NAV of BMO S&P/TSX Laddered Preferred Share Index ETF (ZPR) is +6.05% for the past twelve months. Two year performance is +3.89%, three year is -0.74%, five year is +3.63%.
Figures for Fiera Canadian Preferred Share Class Cg Series F, (formerly Natixis Canadian Preferred Share Class Series F) (formerly NexGen Canadian Preferred Share Tax Managed Fund) are no longer available as the Fund is now the property of Canoe Financial. The last reported performance for the merged fund was May 2020.
Figures for BMO Preferred Share Fund (advisor series) according to BMO are +2.61%, +7.40% and +5.97% for the past one-, three- and twelve-months, respectively. Two year performance is +2.64%; three year is -2.30%; five-year is +1.72%.
Figures for PowerShares Canadian Preferred Share Index Class, Series F (PPS) are +5.19% for the past twelve months. The three-year figure is -0.73%; five years is +4.60%
Figures for the First Asset Preferred Share Investment Trust (PSF.UN) are no longer available since the fund has merged with First Asset Preferred Share ETF (FPR).

Performance for the fund was last reported here in September, 2016; the first report of unavailability was in October, 2016.

Figures for Lysander-Slater Preferred Share Dividend Fund (Class F) according to the company are +%, +% and -% for the past one, three and twelve months, respectively. Three year performance is -%, five-year is +%.
Figures for the Desjardins Canadian Preferred Share Fund A Class (A Class), as reported by the company are +2.42%, +7.66% and +5.04% for the past one, three and twelve months, respectively. Two year performance is +2.71%, three-year is -1.66%
Figures for the RBC Canadian Preferred Share ETF (RPF) as reported by Morningstar are +3.36%, +9.28% and +6.16% for the past one, three and twelve months, respectively. Three-year performance is -1.31%

MAPF returns assume reinvestment of dividends, and are shown after expenses but before fees. Past performance is not a guarantee of future performance. You can lose money investing in Malachite Aggressive Preferred Fund or any other fund. For more information, see the fund’s main page. The fund is available directly from Hymas Investment Management.

The preferred share market continues to be underpriced relative to other capital markets, leaving a lot of room for outsized gains. The Seniority Spread (the interest-equivalent yield on reasonably liquid, investment-grade PerpetualDiscounts less the yield on long term corporate bonds) is extremely elevated (chart end-date 2020-12-11:

PL_201211_Body_Chart_1
Click for Big

Note that the Seniority Spread was recorded at 370bp just before year-end, close to the 375bp at the beginning of the month. As a good practical example of the spreads between markets, consider that CIU issued a long-term bond in early September, 2019 yielding 2.963%, about 411bp cheaper than the interest-equivalent figure of 7.07% for CIU.PR.A, which was then yielding about 5.44% as a dividend. CIU issued another bond in late September, 2020, yielding 2.609%, which was 399bp cheaper than the interest-equivalent figure of 6.60% for CIU.

… and the relationship between five-year Canada yields and yields on investment-grade FixedResets is still deep in ‘decoupled panic’ territory (chart end-date 2020-12-11):

PL_201211_Body_Chart_5
Click for Big

In addition, I feel that the yield on five-year Canadas is unsustainably low (it should be the inflation rate plus an increment of … 1%? 1.5%? 2.0%?),and a return to sustainable levels is likely over the medium term.

It seems clear that many market players are, wittingly or not, using FixedResets to speculate on future moves in the Canada 5-Year yield. This is excellent news for those who take market action based on fundamentals and the long term characteristics of the market because nobody can consistently time the markets. The speculators will, over the long run and in aggregate, lose money, handing it over to more sober investors.

In this connection, it is useful to review some recent commentary regarding the preferred share market. Rob Carrick recently published a column with the title Rob Carrick: Does it make sense to use preferred shares as a bond substitute?, in which he gave a nod to the old shibboleth:

But does it truly make sense to substitute prefs for bonds? Not if you subscribe to the idea that the main point of bonds is not to generate income and returns, but rather to act as a portfolio life preserver when the stock market turns ugly.

… but then noted the crucial point:

Perpetuals are somewhat less touchy, but they’re not to be counted on in a stock market crash.

This distinction is meaningless to investors who are all about income and fine with portfolios that bounce around in price.

As I never get tired of repeating, Fixed Income portfolio management is a process that largely consists of balancing Security of Income vs. Security of Principal. These are opposing forces; the more you have of one, the less you’ll have of the other. And preferred shares are way, way over to the “security of income” pole. So in bad times … Shut up and Clip Your Coupons!

Financial Wisdom Forum’s long-running thread on preferred shares recently featured a series of posts which often deprecated preferred shares with some participants advocating market timing:

The thing about prefs is that timing is everything. You buy them when they’re being thrown out with the bathwater and you’ll be golden.

Yes, there’s money to be made, but only if the shares are in the order of a 30% discount.

If you care about total return, preferred shares probably aren’t for you, (unless of course you are interested in trading them or you have a crystal ball regarding interest rates).

If you want something that pays a decent, tax efficient dividend, in a non-registered account, and share price isn’t important, then straight perpetual preferred shares are probably fine (caveat for a few years with respect to NVCC – will no longer qualify as Tier 1 Capital post 2022). Suitable for the retired. Anything else – not so much. They all seem to favour the issuer.

Sure the market value is volatile but I don’t plan on selling so it doesn’t matter to me, barring default.

The part I’d like to focus on is:

Yes, there’s money to be made, but only if the shares are in the order of a 30% discount.

This is close – but not quite – to stating an essential point about Fixed Income investing: total returns are asymmetrical: you can lose a lot more than you can win. This is why credit quality is so important – a bankruptcy, or even a mere impairment, is going to take you a long way down the ‘bad side’ of the asymmetrical probability curve. But another point, often ignored, is that this implies that discounted issues are, all else being equal, better investments than premium issues: in good times, discounted issues can win a lot more than premium issues, which are tethered to their par value due to considerations of maturity or possible redemption. In bad times, they’ll lose a little more, since discounted issues have no ‘buffer’ to insulate them, while premium issues (and, to a lesser extent, issues trading modestly below par) have such a buffer that absorbs a portion of the shock – this is easier to understand in terms option values and volatility theory, as the negative value of the embedded option is reduced as the issue moves further away from par.

The implication for MAPF is that there is a bias towards holding issues trading well away from par value, which almost always means discounted issues. It’s only a bias, not a hard and fast rule, but this bias was deliberately built into the system in order to reduce the asymmetry of the projected returns curve. This means that MAPF will usually hold a portfolio more heavily weighted towards low coupon – low priced issues than the index and be correspondingly underweighted in high coupon – high priced instruments.

This in turn has the effect of introducing a bias in returns: MAPF will often underperform in poor markets (as it holds fewer of the better performing high-coupon issues than the index) and outperform in good markets (as it holds fewer of the worse performing high-coupon issues than the index). This is only a tendency, not an iron-clad rule, but the effect is there and it means that MAPF has a higher Beta than it might otherwise have, if you enjoy thinking in terms of investment models from the last century. And at all times, of course, the fund seeks to trade and exploit market inefficiencies, which mitigates but does not eliminate the effect.

On another FWF forum, there has been speculation that the fine performance of FixedResets since March, 2020, has been due to a conscious focus on spreads:

ZPR was up approximately 6% for 2020. Is this a reversal of the trend to follow interest rates downward? Perhaps investors will focus on the spread between preferred versus bond yields going forward rather than an irrational rush to the exits whenever prefs are resetting at lower rates.

[reply] It’s already happening. That’s why ZPR has finally had a positive year in a declining rate environment.

Well, this is something I would like to agree with. I’ve been pounding the ‘spreads’ drum for a long time…

While one can only rarely point to a single mechanism explaining a change in relative prices and say, with any credibility whatsoever, that A caused B, I have to admit I’m more dubious than usual about this claim. I believe that the continued rally is due to continued interest rate anticipation, which is now (for some investors) considered to be on the way up rather than continuing the downward staggering of the past ten years; this in turn is derived from Central Bank ‘easy money’ policies and very loose government fiscal policies; which is considered to be on the verge of driving inflation upwards.

Who’s right? Well, we’ll know in ten years, at a time when half of the investing world will graciously explain at length how their uncanny ability to read global market forces allowed them to time the market and make enormous profits, while the other half will tell you the question is irrelevant because investing is about the future, not the past. My advice is, as always, to make asset allocation decisions based on the long-term characteristics of each asset class and how these characteristics interact with your long-term portfolio objectives.

It should be noted that I have been unable to explain the relatively strong performance of Floor issues during the 2018-19 downdraft relative to their non-Floor counterparts. See the discussions on PrefBlog at LINK, LINK and LINK.

I believe the bear-market outperformance by the Floor issues is a behavioural phenomenon with very little basis in fundamentals. When interest rates in general move, FixedReset prices should not change much (to a first approximation, for issues priced near par), since in Fixed Income investing it is spreads that are important, not absolute yields. There should be some effect on Floor issues, which should move up slightly in price as yields go down since the ‘option’ to receive the floor rate will become more valuable. Adjustments due to this effect should be fairly small, however – and over the past year issues with a floor, that started the period being expensive, have simply gotten even more expensive, relative to their non-floored counterparts.

And the tricky thing about behavioural models of investing is that they can lose their explanatory power very quickly when an investment fashion shifts, whereas fundamentals will always be effective – sometimes it just takes a little time! Just to give an example from the preferred share market – until the end of 2014, FixedResets were priced relative to each other according to their initial dividend; when the reset of TRP.PR.A shocked a lot of investors, relative pricing became much more dependent upon the Issue Reset Spread, a much more logical and fundamental property. This paradigm shift was discussed extensively in PrefLetter.

FixedReset (Discount) performance on the month was +4.40% vs. PerpetualDiscounts of +1.26% in December; the two classes finally decoupled in mid-November, 2018, after months of moving in lockstep:

HIMI_indexPerf_201231
Click for Big

Floaters performed well, returning +3.04% for December but this did not prevent the figure for the past twelve months deteriorating to -12.31%. Look at the long-term performance:

HIMI_floaterPerf_201231
Click for Big

Some Assiduous Readers will be interested to observe that the ‘Quantitative Easing’ decline was not initially as bad as the ‘Credit Crunch’ decline, which took the sector down to the point where the 15-year cumulative total return was negative. I wrote about that at the time. but it became worse in August, 2019! On August 30, 2019 the HIMI Floater Index (total return) value was calculated as 1906.6; the index first surpassed this value on 2003-8-13. Thus, cumulative total return (that is, including dividends) was negative over a period of slightly-over sixteen years. Worse, on March 31, 2020, the index level was 1454.8, a milestone first passed on 1997-7-30; a cumulative negative total return for 22 years and 8 months; at its low on March 18 the index level was 1253.7, first surpassed on 1996-1-4, a span of 24 years and over two months!

It seems clear that Floaters are used, wittingly or otherwise, as a vehicle for speculation on the policy rate and Canada Prime, while FixedResets are being used as a vehicle for speculation on the five-year Canada rate. In support of this idea, I present an Implied Volatility analysis of the TRP series of FixedResets as of November 30, which is comprised of six issues without a Minimum Rate Guarantee and two issues which do have this feature:

impVol_TRP_201231
Click for Big

The two issues with floors, TRP.PR.J (+469, minimum 5.50%) and TRP.PR.K (+385, minimum 4.90%) are $2.38 and $3.08 rich, respectively. These figures are much narrower than the 3.16 and 4.14 calculated with last month’s figures. The floors have become effective since five-year Canadas dipped below 0.81% and 1.05%, respectively.

It will also be noted that the spread of a notional non-callable TRP FixedReset priced at par has narrowed from 424bp last month to 401bp this month, while GOC-5 has decreased from 0.43% to 0.42%.

I also show results for the BAM series of FixedResets, which includes three issues with dividend floors: BAM.PF.H (+417, Minimum 5.00%); BAM.PF.I (+386, Minimum 4.80%); and BAM.PF.J (+310, Minimum 4.75%); surprisingly, these issues show mixed results compared to their non-floor siblings, being cheap 0.28, rich 0.09, and cheap 0.59 respectively, respectively, very different from last month’s figures of rich 0.82, rich 0.05 and cheap 0.85.

impVol_BAM_201231
Click for Big

It will also be noted that the spread of a notional non-callable BAM FixedReset priced at par has narrowed dramatically over the month; 470bp last month to 416bp this month, while GOC-5 has decreased from 0.43% to 0.42%.

Relative performance during the month was correlated (22%) with Issue Reset Spreads for the “Pfd-2 Group” but uncorrelated for the “Pfd-3 Group” issues; the latter observation is not surprising given the HSE issues’ excellent performance:

perfFR_201231_1Mo
Click for Big

… with Pfd-2 Group correlation for the three-month period of 38%, negligible for Pfd-3:

perfFR_201231_3Mo
Click for Big

This suggests to me that November commence an actual theme, one based on an expectation of higher government interest rates in the future (perhaps due to renewed hopes that the introduction of coronavirus vaccines will return things to normal) and that this theme has continued through December, finally replacing the uncorrelated messes we’ve seen through much of the market’s recovery since the end of March.

As for the future, of course, it’s one thing to say that ‘spreads are unsustainable and so are government yields’ and it’s quite another to forecast just how and when a more economically sustainable environment will take effect. It could be years. The same caution applies for an end to the overpricing of issues with a minimum rate guarantee.

Yields on preferred shares of all stripes are high compared to those available from other investments of similar quality. As I told John Heinzl in an eMail interview in late November, 2018, the best advice I can offer investors remains Shut up and clip your coupons!

I think that a broad, sustainable rally in FixedResets will require higher five-year Canada yields (or a widespread expectation of them), since paradigm shifts generally require a trigger (a Wile E. Coyote moment, as they say!) … and although I’m sure this will happen eventually, it would be foolish to speculate on just when it will happen.

Calculation of MAPF Sustainable Income Per Unit
Month NAVPU Portfolio
Average
YTW
Leverage
Divisor
Securities
Average
YTW
Capital
Gains
Multiplier
Sustainable
Income
per
current
Unit
June, 2007 9.3114 5.16% 1.03 5.01% 1.3240 0.3524
September 9.1489 5.35% 0.98 5.46% 1.3240 0.3773
December, 2007 9.0070 5.53% 0.942 5.87% 1.3240 0.3993
March, 2008 8.8512 6.17% 1.047 5.89% 1.3240 0.3938
June 8.3419 6.034% 0.952 6.338% 1.3240 $0.3993
September 8.1886 7.108% 0.969 7.335% 1.3240 $0.4537
December, 2008 8.0464 9.24% 1.008 9.166% 1.3240 $0.5571
March 2009 $8.8317 8.60% 0.995 8.802% 1.3240 $0.5872
June 10.9846 7.05% 0.999 7.057% 1.3240 $0.5855
September 12.3462 6.03% 0.998 6.042% 1.3240 $0.5634
December 2009 10.5662 5.74% 0.981 5.851% 1.1141 $0.5549
March 2010 10.2497 6.03% 0.992 6.079% 1.1141 $0.5593
June 10.5770 5.96% 0.996 5.984% 1.1141 $0.5681
September 11.3901 5.43% 0.980 5.540% 1.1141 $0.5664
December 2010 10.7659 5.37% 0.993 5.408% 1.0298 $0.5654
March, 2011 11.0560 6.00% 0.994 5.964% 1.0298 $0.6403
June 11.1194 5.87% 1.018 5.976% 1.0298 $0.6453
September 10.2709 6.10%
Note
1.001 6.106% 1.0298 $0.6090
December, 2011 10.0793 5.63%
Note
1.031 5.805% 1.0000 $0.5851
March, 2012 10.3944 5.13%
Note
0.996 5.109% 1.0000 $0.5310
June 10.2151 5.32%
Note
1.012 5.384% 1.0000 $0.5500
September 10.6703 4.61%
Note
0.997 4.624% 1.0000 $0.4934
December, 2012 10.8307 4.24% 0.989 4.287% 1.0000 $0.4643
March, 2013 10.9033 3.87% 0.996 3.886% 1.0000 $0.4237
June 10.3261 4.81% 0.998 4.80% 1.0000 $0.4957
September 10.0296 5.62% 0.996 5.643% 1.0000 $0.5660
December, 2013 9.8717 6.02% 1.008 5.972% 1.0000 $0.5895
March, 2014 10.2233 5.55% 0.998 5.561% 1.0000 $0.5685
June 10.5877 5.09% 0.998 5.100% 1.0000 $0.5395
September 10.4601 5.28% 0.997 5.296% 1.0000 $0.5540
December, 2014 10.5701 4.83% 1.009 4.787% 1.0000 $0.5060
March, 2015 9.9573 4.99% 1.001 4.985% 1.0000 $0.4964
June, 2015 9.4181 5.55% 1.002 5.539% 1.0000 $0.5217
September 7.8140 6.98% 0.999 6.987% 1.0000 $0.5460
December, 2015 8.1379 6.85% 0.997 6.871% 1.0000 $0.5592
March, 2016 7.4416 7.79% 0.998 7.805% 1.0000 $0.5808
June 7.6704 7.67% 1.011 7.587% 1.0000 $0.5819
September 8.0590 7.35% 0.993 7.402% 1.0000 $0.5965
December, 2016 8.5844 7.24% 0.990 7.313% 1.0000 $0.6278
March, 2017 9.3984 6.26% 0.994 6.298% 1.0000 $0.5919
June 9.5313 6.41% 0.998 6.423% 1.0000 $0.6122
September 9.7129 6.56% 0.998 6.573% 1.0000 $0.6384
December, 2017 10.0566 6.06% 1.004 6.036% 1.0000 $0.6070
March, 2018 10.2701 6.22% 1.007 6.177% 1.0000 $0.6344
June 10.2518 6.22% 0.995 6.251% 1.0000 $0.6408
September 10.2965 6.62% 1.018 6.503% 1.0000 $0.6696
December, 2018 8.6875 7.16% 0.997 7.182% 1.0000 $0.6240
March, 2019 8.4778 7.09% 1.007 7.041% 1.0000 $0.5969
June 8.0896 7.33% 0.996 7.359% 1.0000 $0.5953
September 7.7948 7.96% 0.998 7.976% 1.0000 $0.6217
December, 2019 8.0900 6.03% 0.995 6.060% 1.0000 $0.4903
March 5.5596 7.04% 1.006 6.998% 1.0000 $0.3891
June 6.3568 6.10% 0.9900 6.162% 1.0000 $0.3917
September 7.2852 5.32% 1.00 5.320% 1.0000 $0.3876
December, 2020 8.3947 4.46% 0.999 4.464% 1.0000 $0.3747
NAVPU is shown after quarterly distributions of dividend income and annual distribution of capital gains.
Portfolio YTW includes cash (or margin borrowing), with an assumed interest rate of 0.00%
The Leverage Divisor indicates the level of cash in the account: if the portfolio is 1% in cash, the Leverage Divisor will be 0.99
Securities YTW divides “Portfolio YTW” by the “Leverage Divisor” to show the average YTW on the securities held; this assumes that the cash is invested in (or raised from) all securities held, in proportion to their holdings.
The Capital Gains Multiplier adjusts for the effects of Capital Gains Dividends. On 2009-12-31, there was a capital gains distribution of $1.989262 which is assumed for this purpose to have been reinvested at the final price of $10.5662. Thus, a holder of one unit pre-distribution would have held 1.1883 units post-distribution; the CG Multiplier reflects this to make the time-series comparable. Note that Dividend Distributions are not assumed to be reinvested.
Sustainable Income is the resultant estimate of the fund’s dividend income per current unit, before fees and expenses. Note that a “current unit” includes reinvestment of prior capital gains; a unitholder would have had the calculated sustainable income with only, say, 0.9 units in the past which, with reinvestment of capital gains, would become 1.0 current units.
DeemedRetractibles are comprised of all Straight Perpetuals (both PerpetualDiscount and PerpetualPremium) issued by BMO, BNS, CM, ELF, GWO, HSB, IAG, MFC, NA, RY, SLF and TD, which are not exchangable into common at the option of the company or the regulator (definition refined in May, 2011). These issues are analyzed as if their prospectuses included a requirement to redeem at par on or prior to 2022-1-31 (banks) or the Deemed Maturity date for insurers and insurance holding companies (see below)), in addition to the call schedule explicitly defined. See the Deemed Retractible Review: September 2016 for the rationale behind this analysis.

The same reasoning is also applied to FixedResets from these issuers, other than explicitly defined NVCC from banks.

In November, 2019, the assumption of DeemedRetraction for insurance issues was cancelled in the wake of the IAIS decision included in ICS 2.0. This resulted in a large drop in the yield calculated for these issues

The Deemed Maturity date for insurers was set at 2022-1-31 at the commencement of the process in February, 2011. It was extended to 2025-1-31 in April, 2013 and to 2030-1-31 in December, 2018. In November, 2019, the assumption of DeemedRetraction was cancelled in the wake of the IAIS decision included in ICS 2.0.
Yields for September, 2011, to January, 2012, were calculated by imposing a cap of 10% on the yields of YLO issues held, in order to avoid their extremely high calculated yields distorting the calculation and to reflect the uncertainty in the marketplace that these yields will be realized. From February to September 2012, yields on these issues have been set to zero. All YLO issues held were sold in October 2012.

These calculations were performed assuming constant contemporary GOC-5 and 3-Month Bill rates, as follows:

Canada Yields Assumed in Calculations
Month-end GOC-5 3-Month Bill
September, 2015 0.78% 0.40%
December, 2015 0.71% 0.46%
March, 2016 0.70% 0.44%
June 0.57% 0.47%
September 0.58% 0.53%
December, 2016 1.16% 0.47%
March, 2017 1.08% 0.55%
June 1.35% 0.69%
September 1.79% 0.97%
December, 2017 1.83% 1.00%
March, 2018 2.06% 1.08%
June 1.95% 1.22%
September 2.33% 1.55%
December, 2018 1.88% 1.65%
March, 2019 1.46% 1.66%
June 1.34% 1.66%
September 1.41% 1.66%
December, 2019 1.68% 1.68%
March, 2020 0.57% 0.21%
June 0.37% 0.21%
September 0.35% 0.14%
December, 2020 0.42% 0.08%

I note that the sustainable yield calculated above is not directly comparable with any yield calculation currently reported by any other preferred share fund as far as I am aware. The Sustainable Yield depends on:
i) Calculating Yield-to-Worst for each instrument and using this yield for reporting purposes;
ii) Using the contemporary value of Five-Year Canadas to estimate dividends after reset for FixedResets. The assumption regarding the five-year Canada rate has become more important as the proportion of low-spread FixedResets in the portfolio has increased.
iii) Making the assumption that deeply discounted NVCC non-compliant issues from banks (and insurers, until November 2019), both Straight and FixedResets will be redeemed at par on their DeemedMaturity date as discussed above.

MAPF Portfolio Composition : December, 2020

Sunday, January 3rd, 2021

Turnover dropped precipitously to 1% in December.

The fund’s trading will probably be higher in the future than has been normal for the past several years, since the extreme segmentation in the marketplace that I complained about for so long is now effectively ended. Low-Reset insurance issues were considered so cheap relative to their peers that a large portion of the fund’s holdings were effectively frozen. However, this differentiating factor is no longer considered applicable.

I am no longer making any adjustments for special qualities of insurance issues but note that this policy may change again in the future – a requirement for a Principal Loss Absorbency Mechanism (PLAM), whereby any security included in Tier 1 Capital will be wiped out prior to a government bail-out, even if technical bankruptcy is avoided, remains good public policy; it is a disgrace that the IAIS has rejected this principle and even worse that OSFI argued strenuously against it. I will continue to read notifications from these two entities with great interest, but while it is within the realm of possibility that ICS 2.0 will be revised following the expiry of the current five-year testing period, I can’t say I have any great confidence in the wisdom of the bureaucrats. However, it is a positive move that the increase in the limit for preferred share issuance was increased from 10% of the capital requirement to 15%; but this increase may only be met with issues having a PLAM.

Sectoral distribution of the MAPF portfolio on December 31 was as follows:

MAPF Sectoral Analysis 2020-12-31
HIMI Indices Sector Weighting YTW ModDur
Ratchet 0% N/A N/A
FixFloat 0% N/A N/A
Floater 0% N/A N/A
OpRet 0% N/A N/A
SplitShare 0.3% 4.64% 4.26
Interest Rearing 0% N/A N/A
PerpetualPremium 0% N/A N/A
PerpetualDiscount 2.4% 4.79% 15.80
Fixed-Reset Discount 47.0% 4.24% 16.73
Insurance – Straight 0% N/A N/A
FloatingReset 0% N/A N/A
FixedReset Premium 0% N/A N/A
FixedReset Bank non-NVCC 3.9% 1.87% 1.07
FixedReset Insurance non-NVCC 24.8% 3.94% 17.36
Scraps – Ratchet 1.2% 5.54% 17.61
Scraps – FixedFloater 0% N/A N/A
Scraps – Floater 0% N/A N/A
Scraps – OpRet 0% N/A N/A
Scraps – SplitShare 1.0% 4.62% 4.28
Scraps – PerpPrem 0% N/A N/A
Scraps – PerpDisc 0% N/A N/A
Scraps – FR Discount 19.3% 6.05% 13.83
Scraps – Insurance Straight 0% N/A N/A
Scraps – FloatingReset 0% N/A N/A
Scraps – FR Premium 0% N/A N/A
Scraps – Bank non-NVCC 0% N/A N/A
Scraps – Ins non-NVCC 0% N/A N/A
Cash 0.1% 0.00% 0.00
Total 100% 4.46% 15.53
Totals and changes will not add precisely due to rounding. Cash is included in totals with duration and yield both equal to zero.
The various “Scraps” indices include issues with a DBRS rating of Pfd-3(high) or lower and issues with an Average Trading Value (calculated with HIMIPref™ methodology, which is relatively complex) of less than $25,000. The issues considered “Scraps” are subdivided into indices which reflect those of the main indices.
DeemedRetractibles were comprised of all Straight Perpetuals (both PerpetualDiscount and PerpetualPremium) issued by BMO, BNS, CM, ELF, GWO, HSB, IAG, MFC, NA, RY, SLF and TD, which are not exchangable into common at the option of the company or the regulator. These issues are analyzed as if their prospectuses included a requirement to redeem at par on or prior to 2022-1-31 in the case of banks or normally in the case of insurers and insurance holding companies, in addition to the call schedule explicitly defined. See the Deemed Retractible Review: September 2016 for the rationale behind this analysis and IAIS Says No To DeemedRetractions for the recent change in policy with respect to insurers.

Note that the estimate for the time this will become effective for insurers and insurance holding companies was extended by three years in April 2013, due to the delays in OSFI’s providing clarity on the issue and by a further five years in December, 2018; the estimate was eliminated in November. However, the distinctions are being kept because it is useful to distinguish insurance issues from others.

The name of this subindex has been changed to "Insurance Straight" as of November, 2020

Calculations of resettable instruments are performed assuming a constant GOC-5 rate of 0.42%, a constant 3-Month Bill rate of 0.08% and a constant Canada Prime Rate of 2.45%

The “total” reflects the un-leveraged total portfolio (i.e., cash is included in the portfolio calculations and is deemed to have a duration and yield of 0.00.). MAPF will often have relatively large cash balances, both credit and debit, to facilitate trading. Figures presented in the table have been rounded to the indicated precision.

An additional wrinkle to the division into sub-indices is the fact that some issues are classed here as FixedResets, even though for analytical purposes they are classified as Straights – this is due to the fact that these particular issues reset with a floor rate which is (given the current level of the GOC 5-Year bond) currently expected to be effective.

For MAPF, these issues are BIP.PR.D, BIP.PR.E, BIP.PR.F and ECN.PR.C, with a combined portfolio weight of 4.0%. The total portfolio is therefore 93.3% “Floating”, which means the rates will reset periodically based upon the GOC-5, T-Bill or Canada Prime levels.

Credit distribution is:

MAPF Credit Analysis 2020-12-31
DBRS Rating MAPF Weighting
Pfd-1 0
Pfd-1(low) 0
Pfd-2(high) 32.6%
Pfd-2 25.9%
Pfd-2(low) 19.9%
Pfd-3(high) 12.7%
Pfd-3 3.0%
Pfd-3(low) 2.1%
Pfd-4(high) 3.0%
Pfd-4 0%
Pfd-4(low) 0.7%
Pfd-5(high) 0%
Pfd-5 0.0%
Cash +0.1%
Totals will not add precisely due to rounding.
The fund holds a position in AZP.PR.B, which is rated P-4(low) by S&P and is unrated by DBRS; it is included in the Pfd-4(low) total.
The fund holds a position in BIP.PR.D, BIP.PR.E and BIP.PR.F, which are rated P-2(low) by S&P and are unrated by DBRS; these are included in the Pfd-2(low) total.
A position held in INE.PR.A is not rated by DBRS, but has been included as “Pfd-4(high)” in the above table on the basis of its S&P rating of P-3.

Liquidity Distribution is:

MAPF Liquidity Analysis 2020-12-31
Average Daily Trading MAPF Weighting
<$50,000 9.4%
$50,000 – $100,000 40.9%
$100,000 – $200,000 38.8%
$200,000 – $300,000 9.2%
>$300,000 1.7%
Cash +0.1%
Totals will not add precisely due to rounding.

The distribution of Issue Reset Spreads is:

Range MAPF Weight
<100bp 0%
100-149bp 8.4%
150-199bp 7.6%
200-249bp 11.0%
250-299bp 50.2%
300-349bp 4.1%
350-399bp 10.8%
400-449bp 1.7%
450-499bp 0.0%
500-549bp 1.3%
550-599bp 0%
>= 600bp 0%
Undefined 5.0%

Distribution of Floating Rate Start Dates is shown in the table below. This is the date of the next adjustment to the dividend rate, if the issue is currently paying a fixed rate for a limited time; which in practice is successive terms of 5 years. Issues that adjust quarterly are considered “Currently Floating”.

Range MAPF Weight
Currently Floating 1.2%
0-1 Year 9.6%
1-2 Years 13.6%
2-3 Years 19.1%
3-4 Years 14.8%
4-5 Years 39.0%
5-6 Years 0%
>6 Years 0%
Not Floating Rate 2.8%

MAPF is, of course, Malachite Aggressive Preferred Fund, a “unit trust” managed by Hymas Investment Management Inc. Further information and links to performance, audited financials and subscription information are available the fund’s web page. The fund may be purchased directly from Hymas Investment Management. A “unit trust” is like a regular mutual fund, but are not sold with a prospectus. This is cheaper, but means subscription is restricted to “accredited investors” (as defined by the Ontario Securities Commission). Fund past performances are not a guarantee of future performance. You can lose money investing in MAPF or any other fund.

MAPF Performance : November 2020

Saturday, December 5th, 2020

Malachite Aggressive Preferred Fund’s Net Asset Value per Unit as of the close November 30, 2020, was $8.0176.

Four issues held at month-end returned between 0% and +3% over the month: BMO.PR.Q, ECN.PR.C, IAF.PR.I and AZP.PR.B, with a total weight in the portfolio (at month-end) of 5.9%. Stellar returns were achieved by HSE.PR.C and HSE.PR.G, both returning over 25% with a total month-end portfolio weight of 10.0%; these were also star performers in October.

Quote quality improved this month, with the difference in portfolio values when calculated with closing prices vs. calculation with bid prices decreasing from 0.96% to 0.62%.

Returns to November 30, 2020
Period MAPF BMO-CM “50” Preferred Share Index TXPR*
Total Return
CPD – according to Blackrock
One Month +9.43% +6.63% +5.18% N/A
Three Months +8.64% +6.09% +4.94% N/A
One Year +10.37% +7.69% +6.23% +5.59%
Two Years (annualized) +0.03% +2.36% +2.75% N/A
Three Years (annualized) -2.44% -0.86% -0.40% -0.99%
Four Years (annualized) +4.52% +4.39% +3.83% N/A
Five Years (annualized) +5.07% +4.86% +4.19% +3.65%
Six Years (annualized) +0.35% +0.81% +0.30% N/A
Seven Years (annualized) +1.75% +1.23% +1.03% N/A
Eight Years (annualized) +1.34% +1.25% +0.87% N/A
Nine Years (annualized) +2.53% +1.77% +1.42% N/A
Ten Years (annualized) +2.33% +2.21% +1.71% +1.23%
Eleven Years (annualized) +3.70% +3.09% +2.43%  
Twelve Years (annualized) +9.15% +5.43% +4.72%  
Thirteen Years (annualized) +7.15% +3.12% +4.35%  
Fourteen Years (annualized) +6.24% +2.40%    
Fifteen Years (annualized) +6.26% +2.53%    
Sixteen Years (annualized) +6.27% +2.67%    
Seventeen Years (annualized) +6.76% +2.87%    
Eighteen Years (annualized) +7.96% +3.13%    
Nineteen Years (annualized) +7.44% +3.10%    
MAPF returns assume reinvestment of distributions, and are shown after expenses but before fees.
The full name of the BMO-CM “50” index is the BMO Capital Markets “50” Preferred Share Index. It is calculated without accounting for fees. I am advised that the “BMO50 is expected to be decommissioned at the end of 2020.”
“TXPR” is the S&P/TSX Preferred Share Index. It is calculated without accounting for fees, but does assume reinvestment of dividends.
CPD Returns are for the NAV and are after all fees and expenses. Reinvestment of dividends is assumed.
Figures for National Bank Preferred Equity Income Fund (formerly Omega Preferred Equity) (which are after all fees and expenses) for 1-, 3- and 12-months are +5.88%, +5.02% and +6.06%, respectively, according to Globe & Mail / Fundata after all fees & expenses. Three year performance is +0.09%; five year is +3.76%; ten year is +2.30%

Figures from Morningstar are no longer conveniently available.

Manulife Preferred Income Class Adv has been terminated by Manulife. The performance of this fund was last reported here in March, 2018.
Figures for Horizons Active Preferred Share ETF (HPR) (which are after all fees and expenses) for 1-, 3- and 12-months are +6.15%, +5.11% & +5.72%, respectively. Three year performance is -1.86%, five-year is +3.75%
Figures for National Bank Preferred Equity Fund (formerly Altamira Preferred Equity Fund) are +6.20%, +4.97% and +6.06% for one-, three- and twelve months, respectively. Three year performance is -1.67%; five-year is +3.93%.

Acccording to the fund’s fact sheet as of June 30, 2016, the fund’s inception date was October 30, 2015. I do not know how they justify this nonsensical statement, but will assume that prior performance is being suppressed in some perfectly legal manner that somebody at National considers ethical.

The last time Altamira Preferred Equity Fund’s performance was reported here was April, 2014; performance under the National Bank banner was first reported here May, 2014.

The figures for the NAV of BMO S&P/TSX Laddered Preferred Share Index ETF (ZPR) is +5.76% for the past twelve months. Two year performance is +1.00%, three year is -1.81%, five year is +3.52%.
Figures for Fiera Canadian Preferred Share Class Cg Series F, (formerly Natixis Canadian Preferred Share Class Series F) (formerly NexGen Canadian Preferred Share Tax Managed Fund) are no longer available as the Fund is now the property of Canoe Financial. The last reported performance for the merged fund was May 2020.
Figures for BMO Preferred Share Fund (advisor series) according to BMO are +4.94%, +4.18% and +5.72% for the past one-, three- and twelve-months, respectively. Two year performance is +0.14%; three year is -3.19%; five-year is +1.53%.
Figures for PowerShares Canadian Preferred Share Index Class, Series F (PPS) are +5.40% for the past twelve months. The three-year figure is -1.67%; five years is +4.48%
Figures for the First Asset Preferred Share Investment Trust (PSF.UN) are no longer available since the fund has merged with First Asset Preferred Share ETF (FPR).

Performance for the fund was last reported here in September, 2016; the first report of unavailability was in October, 2016.

Figures for Lysander-Slater Preferred Share Dividend Fund (Class F) according to the company are +7.05%, +6.27% and -0.36% for the past one, three and twelve months, respectively. Three year performance is -4.47%, five-year is +1.31%.
Figures for the Desjardins Canadian Preferred Share Fund A Class (A Class), as reported by the company are +5.07%, +4.54% and +4.90% for the past one, three and twelve months, respectively. Two year performance is +0.52%, three-year is -2.50%
Figures for the RBC Canadian Preferred Share ETF (RPF) as reported by Morningstar are +6.25%, +5.00% and +5.97% for the past one, three and twelve months, respectively. Three-year performance is -2.36%

MAPF returns assume reinvestment of dividends, and are shown after expenses but before fees. Past performance is not a guarantee of future performance. You can lose money investing in Malachite Aggressive Preferred Fund or any other fund. For more information, see the fund’s main page. The fund is available directly from Hymas Investment Management.

The preferred share market continues to be underpriced relative to other capital markets, leaving a lot of room for outsized gains. The Seniority Spread (the interest-equivalent yield on reasonably liquid, investment-grade PerpetualDiscounts less the yield on long term corporate bonds) is extremely elevated (chart end-date 2020-11-13:

pl_201113_body_chart_1
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Note that the Seniority Spread was recorded at 375bp shortly after month-end, close to the October month-end figure. As a good practical example of the spreads between markets, consider that CIU issued a long-term bond in early September, 2019 yielding 2.963%, about 411bp cheaper than the interest-equivalent figure of 7.07% for CIU.PR.A, which was then yielding about 5.44% as a dividend. CIU issued another bond in late September, 2020, yielding 2.609%, which was 399bp cheaper than the interest-equivalent figure of 6.60% for CIU.

… and the relationship between five-year Canada yields and yields on investment-grade FixedResets has gone even deeper into what I consider ‘decoupled panic’ territory (chart end-date 2020-11-13):

pl_201113_body_chart_5
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In addition, I feel that the yield on five-year Canadas is unsustainably low (it should be the inflation rate plus an increment of … 1%? 1.5%? 2.0%?),and a return to sustainable levels is likely over the medium term.

It seems clear that many market players are, wittingly or not, using FixedResets to speculate on future moves in the Canada 5-Year yield. This is excellent news for those who take market action based on fundamentals and the long term characteristics of the market because nobody can consistently time the markets. The speculators will, over the long run and in aggregate, lose money, handing it over to more sober investors.

In this connection, it is useful to review some recent commentary regarding the preferred share market. Rob Carrick recently published a column with the title Rob Carrick: Does it make sense to use preferred shares as a bond substitute?, in which he gave a nod to the old shibboleth:

But does it truly make sense to substitute prefs for bonds? Not if you subscribe to the idea that the main point of bonds is not to generate income and returns, but rather to act as a portfolio life preserver when the stock market turns ugly.

… but then noted the crucial point:

Perpetuals are somewhat less touchy, but they’re not to be counted on in a stock market crash.

This distinction is meaningless to investors who are all about income and fine with portfolios that bounce around in price.

As I never get tired of repeating, Fixed Income portfolio management is a process that largely consists of balancing Security of Income vs. Security of Principal. These are opposing forces; the more you have of one, the less you’ll have of the other. And preferred shares are way, way over to the “security of income” pole. So in bad times … Shut up and Clip Your Coupons!

Financial Wisdom Forum’s long-running thread on preferred shares recently featured a series of posts which often deprecated preferred shares with some participants advocating market timing:

The thing about prefs is that timing is everything. You buy them when they’re being thrown out with the bathwater and you’ll be golden.

Yes, there’s money to be made, but only if the shares are in the order of a 30% discount.

If you care about total return, preferred shares probably aren’t for you, (unless of course you are interested in trading them or you have a crystal ball regarding interest rates).

If you want something that pays a decent, tax efficient dividend, in a non-registered account, and share price isn’t important, then straight perpetual preferred shares are probably fine (caveat for a few years with respect to NVCC – will no longer qualify as Tier 1 Capital post 2022). Suitable for the retired. Anything else – not so much. They all seem to favour the issuer.

Sure the market value is volatile but I don’t plan on selling so it doesn’t matter to me, barring default.

The part I’d like to focus on is:

Yes, there’s money to be made, but only if the shares are in the order of a 30% discount.

This is close – but not quite – to stating an essential point about Fixed Income investing: total returns are asymmetrical: you can lose a lot more than you can win. This is why credit quality is so important – a bankruptcy, or even a mere impairment, is going to take you a long way down the ‘bad side’ of the asymmetrical probability curve. But another point, often ignored, is that this implies that discounted issues are, all else being equal, better investments than premium issues: in good times, discounted issues can win a lot more than premium issues, which are tethered to their par value due to considerations of maturity or possible redemption. In bad times, they’ll lose a little more, since discounted issues have no ‘buffer’ to insulate them, while premium issues (and, to a lesser extent, issues trading modestly below par) have such a buffer that absorbs a portion of the shock – this is easier to understand in terms option values and volatility theory, as the negative value of the embedded option is reduced as the issue moves further away from par.

The implication for MAPF is that there is a bias towards holding issues trading well away from par value, which almost always means discounted issues. It’s only a bias, not a hard and fast rule, but this bias was deliberately built into the system in order to reduce the asymmetry of the projected returns curve. This means that MAPF will usually hold a portfolio more heavily weighted towards low coupon – low priced issues than the index and be correspondingly underweighted in high coupon – high priced instruments.

This in turn has the effect of introducing a bias in returns: MAPF will often underperform in poor markets (as it holds fewer of the better performing high-coupon issues than the index) and outperform in good markets (as it holds fewer of the worse performing high-coupon issues than the index). This is only a tendency, not an iron-clad rule, but the effect is there and it means that MAPF has a higher Beta than it might otherwise have, if you enjoy thinking in terms of investment models from the last century. And at all times, of course, the fund seeks to trade and exploit market inefficiencies, which mitigates but does not eliminate the effect.

It should be noted that I have been unable to explain the relatively strong performance of Floor issues during the 2018-19 downdraft relative to their non-Floor counterparts. See the discussions on PrefBlog at LINK, LINK and LINK.

I believe the bear-market outperformance by the Floor issues is a behavioural phenomenon with very little basis in fundamentals. When interest rates in general move, FixedReset prices should not change much (to a first approximation, for issues priced near par), since in Fixed Income investing it is spreads that are important, not absolute yields. There should be some effect on Floor issues, which should move up slightly in price as yields go down since the ‘option’ to receive the floor rate will become more valuable. Adjustments due to this effect should be fairly small, however – and over the past year issues with a floor, that started the period being expensive, have simply gotten even more expensive, relative to their non-floored counterparts.

And the tricky thing about behavioural models of investing is that they can lose their explanatory power very quickly when an investment fashion shifts, whereas fundamentals will always be effective – sometimes it just takes a little time! Just to give an example from the preferred share market – until the end of 2014, FixedResets were priced relative to each other according to their initial dividend; when the reset of TRP.PR.A shocked a lot of investors, relative pricing became much more dependent upon the Issue Reset Spread, a much more logical and fundamental property. This paradigm shift was discussed extensively in PrefLetter.

FixedReset (Discount) performance on the month was +7.09% vs. PerpetualDiscounts of +2.86% in November; the two classes finally decoupled in mid-November, 2018, after months of moving in lockstep:

image_2020-12-05_001359
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Floaters performed extremely well, returning +20.83% for November and the figure for the past twelve months has improved to -6.77%. Look at the long-term performance:

image_2020-12-05_001846
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Some Assiduous Readers will be interested to observe that the ‘Quantitative Easing’ decline was not initially as bad as the ‘Credit Crunch’ decline, which took the sector down to the point where the 15-year cumulative total return was negative. I wrote about that at the time. but it became worse in August, 2019! On August 30, 2019 the HIMI Floater Index (total return) value was calculated as 1906.6; the index first surpassed this value on 2003-8-13. Thus, cumulative total return (that is, including dividends) was negative over a period of slightly-over sixteen years. Worse, on March 31, 2020, the index level was 1454.8, a milestone first passed on 1997-7-30; a cumulative negative total return for 22 years and 8 months; at its low on March 18 the index level was 1253.7, first surpassed on 1996-1-4, a span of 24 years and over two months!

It seems clear that Floaters are used, wittingly or otherwise, as a vehicle for speculation on the policy rate and Canada Prime, while FixedResets are being used as a vehicle for speculation on the five-year Canada rate. In support of this idea, I present an Implied Volatility analysis of the TRP series of FixedResets as of November 30, which is comprised of six issues without a Minimum Rate Guarantee and two issues which do have this feature:

impvol_trp_201130
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The two issues with floors, TRP.PR.J (+469, minimum 5.50%) and TRP.PR.K (+385, minimum 4.90%) are $3.16 and $4.14 rich, respectively. These figures are much narrower than the 4.59 and 5.50 calculated last month’s figures. The floors have become effective since five-year Canadas dipped below 0.81% and 1.05%, respectively.

It will also be noted that the spread of a notional non-callable TRP FixedReset priced at par has narrowed from 439bp last month to 424bp this month, while GOC-5 has increased from 0.35% to 0.38%.

I also show results for the BAM series of FixedResets, which includes three issues with dividend floors: BAM.PF.H (+417, Minimum 5.00%); BAM.PF.I (+386, Minimum 4.80%); and BAM.PF.J (+310, Minimum 4.75%); surprisingly, these issues show mixed results compared to their non-floor siblings, being rich 0.82, rich 0.05, and cheap 0.05 respectively, respectively, very different from last month’s figures of rich 0.48, rich 1.24 and rich 0.85.

impvol_bam_201130
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It will also be noted that the spread of a notional non-callable BAM FixedReset priced at par has narrowed only slightly (and perhaps spuriously) over the month; 475bp last month to 470bp this month, while GOC-5 has increased from 0.38% to 0.43.

Relative performance during the month was correlated (25%) with Issue Reset Spreads for the “Pfd-2 Group” but uncorrelated for the “Pfd-3 Group” issues:

perffr_201130_1moa
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… with no correlations for the three-month period:

perffr_201130_3mo
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This suggests to me that November has demonstrated an actual theme, one based on an expectation of higher government interest rates in the future (perhaps due to renewed hopes that the introduction of coronavirus vaccines will return things to normal), rather than the uncorrelated messes we’ve seen through much of the market’s recovery since the end of March.

As for the future, of course, it’s one thing to say that ‘spreads are unsustainable and so are government yields’ and it’s quite another to forecast just how and when a more economically sustainable environment will take effect. It could be years. The same caution applies for an end to the overpricing of issues with a minimum rate guarantee. There could be a reversal, particularly if either Trump’s international trade policies or the economic damage wreaked by the coronavirus approaches the gloomier extreme of current forecasts. And, of course, I could be just plain wrong about the sustainability of the current environment.

On the other hand, I will pass on my observation that international interest in the Canadian preferred share market is increasing, as other Floating Rate indices globally are doing much better. Consider, for example the Solactive Australian Bank Senior Floating Rate Bond Index, which “provides exposure to the largest and most liquid floating rate debt securities issued by selected Australian banks. The index is comprised of investment grade floating rate debt securities denominated in AUD and calculated as a Total Return Index” (LINK although the index constituents currently all have a remaining term of less than five years), and the S&P U.S. Floating Rate Preferred Stock Index.

Yields on preferred shares of all stripes are extremely high compared to those available from other investments of similar quality. As I told John Heinzl in an eMail interview in late November, 2018, the best advice I can offer investors remains Shut up and clip your coupons!

I think that a broad, sustainable rally in FixedResets will require higher five-year Canada yields (or a widespread expectation of them), since paradigm shifts generally require a trigger (a Wile E. Coyote moment, as they say!) … and although I’m sure this will happen eventually, it would be foolish to speculate on just when it will happen.

Calculation of MAPF Sustainable Income Per Unit
Month NAVPU Portfolio
Average
YTW
Leverage
Divisor
Securities
Average
YTW
Capital
Gains
Multiplier
Sustainable
Income
per
current
Unit
June, 2007 9.3114 5.16% 1.03 5.01% 1.3240 0.3524
September 9.1489 5.35% 0.98 5.46% 1.3240 0.3773
December, 2007 9.0070 5.53% 0.942 5.87% 1.3240 0.3993
March, 2008 8.8512 6.17% 1.047 5.89% 1.3240 0.3938
June 8.3419 6.034% 0.952 6.338% 1.3240 $0.3993
September 8.1886 7.108% 0.969 7.335% 1.3240 $0.4537
December, 2008 8.0464 9.24% 1.008 9.166% 1.3240 $0.5571
March 2009 $8.8317 8.60% 0.995 8.802% 1.3240 $0.5872
June 10.9846 7.05% 0.999 7.057% 1.3240 $0.5855
September 12.3462 6.03% 0.998 6.042% 1.3240 $0.5634
December 2009 10.5662 5.74% 0.981 5.851% 1.1141 $0.5549
March 2010 10.2497 6.03% 0.992 6.079% 1.1141 $0.5593
June 10.5770 5.96% 0.996 5.984% 1.1141 $0.5681
September 11.3901 5.43% 0.980 5.540% 1.1141 $0.5664
December 2010 10.7659 5.37% 0.993 5.408% 1.0298 $0.5654
March, 2011 11.0560 6.00% 0.994 5.964% 1.0298 $0.6403
June 11.1194 5.87% 1.018 5.976% 1.0298 $0.6453
September 10.2709 6.10%
Note
1.001 6.106% 1.0298 $0.6090
December, 2011 10.0793 5.63%
Note
1.031 5.805% 1.0000 $0.5851
March, 2012 10.3944 5.13%
Note
0.996 5.109% 1.0000 $0.5310
June 10.2151 5.32%
Note
1.012 5.384% 1.0000 $0.5500
September 10.6703 4.61%
Note
0.997 4.624% 1.0000 $0.4934
December, 2012 10.8307 4.24% 0.989 4.287% 1.0000 $0.4643
March, 2013 10.9033 3.87% 0.996 3.886% 1.0000 $0.4237
June 10.3261 4.81% 0.998 4.80% 1.0000 $0.4957
September 10.0296 5.62% 0.996 5.643% 1.0000 $0.5660
December, 2013 9.8717 6.02% 1.008 5.972% 1.0000 $0.5895
March, 2014 10.2233 5.55% 0.998 5.561% 1.0000 $0.5685
June 10.5877 5.09% 0.998 5.100% 1.0000 $0.5395
September 10.4601 5.28% 0.997 5.296% 1.0000 $0.5540
December, 2014 10.5701 4.83% 1.009 4.787% 1.0000 $0.5060
March, 2015 9.9573 4.99% 1.001 4.985% 1.0000 $0.4964
June, 2015 9.4181 5.55% 1.002 5.539% 1.0000 $0.5217
September 7.8140 6.98% 0.999 6.987% 1.0000 $0.5460
December, 2015 8.1379 6.85% 0.997 6.871% 1.0000 $0.5592
March, 2016 7.4416 7.79% 0.998 7.805% 1.0000 $0.5808
June 7.6704 7.67% 1.011 7.587% 1.0000 $0.5819
September 8.0590 7.35% 0.993 7.402% 1.0000 $0.5965
December, 2016 8.5844 7.24% 0.990 7.313% 1.0000 $0.6278
March, 2017 9.3984 6.26% 0.994 6.298% 1.0000 $0.5919
June 9.5313 6.41% 0.998 6.423% 1.0000 $0.6122
September 9.7129 6.56% 0.998 6.573% 1.0000 $0.6384
December, 2017 10.0566 6.06% 1.004 6.036% 1.0000 $0.6070
March, 2018 10.2701 6.22% 1.007 6.177% 1.0000 $0.6344
June 10.2518 6.22% 0.995 6.251% 1.0000 $0.6408
September 10.2965 6.62% 1.018 6.503% 1.0000 $0.6696
December, 2018 8.6875 7.16% 0.997 7.182% 1.0000 $0.6240
March, 2019 8.4778 7.09% 1.007 7.041% 1.0000 $0.5969
June 8.0896 7.33% 0.996 7.359% 1.0000 $0.5953
September 7.7948 7.96% 0.998 7.976% 1.0000 $0.6217
December, 2019 8.0900 6.03% 0.995 6.060% 1.0000 $0.4903
March 5.5596 7.04% 1.006 6.998% 1.0000 $0.3891
June 6.3568 6.10% 0.9900 6.162% 1.0000 $0.3917
September 7.2852 5.32% 1.00 5.320% 1.0000 $0.3876
November, 2020 8.0176 4.74% 0.992 4.778% 1.0000 $0.3831
NAVPU is shown after quarterly distributions of dividend income and annual distribution of capital gains.
Portfolio YTW includes cash (or margin borrowing), with an assumed interest rate of 0.00%
The Leverage Divisor indicates the level of cash in the account: if the portfolio is 1% in cash, the Leverage Divisor will be 0.99
Securities YTW divides “Portfolio YTW” by the “Leverage Divisor” to show the average YTW on the securities held; this assumes that the cash is invested in (or raised from) all securities held, in proportion to their holdings.
The Capital Gains Multiplier adjusts for the effects of Capital Gains Dividends. On 2009-12-31, there was a capital gains distribution of $1.989262 which is assumed for this purpose to have been reinvested at the final price of $10.5662. Thus, a holder of one unit pre-distribution would have held 1.1883 units post-distribution; the CG Multiplier reflects this to make the time-series comparable. Note that Dividend Distributions are not assumed to be reinvested.
Sustainable Income is the resultant estimate of the fund’s dividend income per current unit, before fees and expenses. Note that a “current unit” includes reinvestment of prior capital gains; a unitholder would have had the calculated sustainable income with only, say, 0.9 units in the past which, with reinvestment of capital gains, would become 1.0 current units.
DeemedRetractibles are comprised of all Straight Perpetuals (both PerpetualDiscount and PerpetualPremium) issued by BMO, BNS, CM, ELF, GWO, HSB, IAG, MFC, NA, RY, SLF and TD, which are not exchangable into common at the option of the company or the regulator (definition refined in May, 2011). These issues are analyzed as if their prospectuses included a requirement to redeem at par on or prior to 2022-1-31 (banks) or the Deemed Maturity date for insurers and insurance holding companies (see below)), in addition to the call schedule explicitly defined. See the Deemed Retractible Review: September 2016 for the rationale behind this analysis.

The same reasoning is also applied to FixedResets from these issuers, other than explicitly defined NVCC from banks.

In November, 2019, the assumption of DeemedRetraction for insurance issues was cancelled in the wake of the IAIS decision included in ICS 2.0. This resulted in a large drop in the yield calculated for these issues

The Deemed Maturity date for insurers was set at 2022-1-31 at the commencement of the process in February, 2011. It was extended to 2025-1-31 in April, 2013 and to 2030-1-31 in December, 2018. In November, 2019, the assumption of DeemedRetraction was cancelled in the wake of the IAIS decision included in ICS 2.0.
Yields for September, 2011, to January, 2012, were calculated by imposing a cap of 10% on the yields of YLO issues held, in order to avoid their extremely high calculated yields distorting the calculation and to reflect the uncertainty in the marketplace that these yields will be realized. From February to September 2012, yields on these issues have been set to zero. All YLO issues held were sold in October 2012.

These calculations were performed assuming constant contemporary GOC-5 and 3-Month Bill rates, as follows:

Canada Yields Assumed in Calculations
Month-end GOC-5 3-Month Bill
September, 2015 0.78% 0.40%
December, 2015 0.71% 0.46%
March, 2016 0.70% 0.44%
June 0.57% 0.47%
September 0.58% 0.53%
December, 2016 1.16% 0.47%
March, 2017 1.08% 0.55%
June 1.35% 0.69%
September 1.79% 0.97%
December, 2017 1.83% 1.00%
March, 2018 2.06% 1.08%
June 1.95% 1.22%
September 2.33% 1.55%
December, 2018 1.88% 1.65%
March, 2019 1.46% 1.66%
June 1.34% 1.66%
September 1.41% 1.66%
December, 2019 1.68% 1.68%
March, 2020 0.57% 0.21%
June 0.37% 0.21%
September 0.35% 0.14%
November, 2020 0.43% 0.11%

I note that the sustainable yield calculated above is not directly comparable with any yield calculation currently reported by any other preferred share fund as far as I am aware. The Sustainable Yield depends on:
i) Calculating Yield-to-Worst for each instrument and using this yield for reporting purposes;
ii) Using the contemporary value of Five-Year Canadas to estimate dividends after reset for FixedResets. The assumption regarding the five-year Canada rate has become more important as the proportion of low-spread FixedResets in the portfolio has increased.
iii) Making the assumption that deeply discounted NVCC non-compliant issues from banks (and insurers, until November 2019), both Straight and FixedResets will be redeemed at par on their DeemedMaturity date as discussed above.

MAPF Portfolio Composition : November 2020

Wednesday, December 2nd, 2020

Turnover remained steady at 13% in November.

The fund’s trading will probably be higher in the future than has been normal for the past several years, since the extreme segmentation in the marketplace that I complained about for so long is now effectively ended. Low-Reset insurance issues were considered so cheap relative to their peers that a large portion of the fund’s holdings were effectively frozen. However, this differentiating factor is no longer considered applicable.

I am no longer making any adjustments for special qualities of insurance issues but note that this policy may change again in the future – a requirement for a Principal Loss Absorbency Mechanism (PLAM), whereby any security included in Tier 1 Capital will be wiped out prior to a government bail-out, even if technical bankruptcy is avoided, remains good public policy; it is a disgrace that the IAIS has rejected this principle and even worse that OSFI argued strenuously against it. I will continue to read notifications from these two entities with great interest, but while it is within the realm of possibility that ICS 2.0 will be revised following the expiry of the current five-year testing period, I can’t say I have any great confidence in the wisdom of the bureaucrats. However, it is a positive move that the increase in the limit for preferred share issuance was increased from 10% of the capital requirement to 15%; but this increase may only be met with issues having a PLAM.

Sectoral distribution of the MAPF portfolio on November 30 was as follows:

MAPF Sectoral Analysis 2020-11-30
HIMI Indices Sector Weighting YTW ModDur
Ratchet 0% N/A N/A
FixFloat 0% N/A N/A
Floater 0% N/A N/A
OpRet 0% N/A N/A
SplitShare 0% N/A N/A
Interest Rearing 0% N/A N/A
PerpetualPremium 0% N/A N/A
PerpetualDiscount 3.3% 4.72% 15.96
Fixed-Reset Discount 48.4% 4.47% 16.28
Insurance – Straight 0% N/A N/A
FloatingReset 0% N/A N/A
FixedReset Premium 0% N/A N/A
FixedReset Bank non-NVCC 3.4% 2.33% 1.15
FixedReset Insurance non-NVCC 23.1% 4.25% 16.69
Scraps – Ratchet 1.2% 5.82% 17.25
Scraps – FixedFloater 0% N/A N/A
Scraps – Floater 0% N/A N/A
Scraps – OpRet 0% N/A N/A
Scraps – SplitShare 1.0% 5.33% 4.33
Scraps – PerpPrem 0% N/A N/A
Scraps – PerpDisc 0% N/A N/A
Scraps – FR Discount 18.7% 6.59% 13.06
Scraps – Insurance Straight 0% N/A N/A
Scraps – FloatingReset 0% N/A N/A
Scraps – FR Premium 0% N/A N/A
Scraps – Bank non-NVCC 0% N/A N/A
Scraps – Ins non-NVCC 0% N/A N/A
Cash 0.8% 0.00% 0.00
Total 100% 4.74% 15.01
Totals and changes will not add precisely due to rounding. Cash is included in totals with duration and yield both equal to zero.
The various “Scraps” indices include issues with a DBRS rating of Pfd-3(high) or lower and issues with an Average Trading Value (calculated with HIMIPref™ methodology, which is relatively complex) of less than $25,000. The issues considered “Scraps” are subdivided into indices which reflect those of the main indices.
DeemedRetractibles were comprised of all Straight Perpetuals (both PerpetualDiscount and PerpetualPremium) issued by BMO, BNS, CM, ELF, GWO, HSB, IAG, MFC, NA, RY, SLF and TD, which are not exchangable into common at the option of the company or the regulator. These issues are analyzed as if their prospectuses included a requirement to redeem at par on or prior to 2022-1-31 in the case of banks or normally in the case of insurers and insurance holding companies, in addition to the call schedule explicitly defined. See the Deemed Retractible Review: September 2016 for the rationale behind this analysis and IAIS Says No To DeemedRetractions for the recent change in policy with respect to insurers.

Note that the estimate for the time this will become effective for insurers and insurance holding companies was extended by three years in April 2013, due to the delays in OSFI’s providing clarity on the issue and by a further five years in December, 2018; the estimate was eliminated in November. However, the distinctions are being kept because it is useful to distinguish insurance issues from others.

The name of this subindex has been changed to "Insurance Straight" as of November, 2020

Calculations of resettable instruments are performed assuming a constant GOC-5 rate of 0.43%, a constant 3-Month Bill rate of 0.11% and a constant Canada Prime Rate of 2.45%

The “total” reflects the un-leveraged total portfolio (i.e., cash is included in the portfolio calculations and is deemed to have a duration and yield of 0.00.). MAPF will often have relatively large cash balances, both credit and debit, to facilitate trading. Figures presented in the table have been rounded to the indicated precision.

An additional wrinkle to the division into sub-indices is the fact that some issues are classed here as FixedResets, even though for analytical purposes they are classified as Straights – this is due to the fact that these particular issues reset with a floor rate which is (given the current level of the GOC 5-Year bond) currently expected to be effective.

For MAPF, these issues are BIP.PR.D, BIP.PR.E, BIP.PR.F and ECN.PR.C, with a combined portfolio weight of 4.4%. The total portfolio is therefore 91.5% “Floating”, which means the rates will reset periodically based upon the GOC-5, T-Bill or Canada Prime levels.

Credit distribution is:

MAPF Credit Analysis 2020-11-30
DBRS Rating MAPF Weighting
Pfd-1 0
Pfd-1(low) 0
Pfd-2(high) 31.6%
Pfd-2 26.3%
Pfd-2(low) 20.2%
Pfd-3(high) 12.0%
Pfd-3 4.2%
Pfd-3(low) 2.1%
Pfd-4(high) 2.1%
Pfd-4 0%
Pfd-4(low) 0.7%
Pfd-5(high) 0%
Pfd-5 0.0%
Cash +0.8%
Totals will not add precisely due to rounding.
The fund holds a position in AZP.PR.B, which is rated P-4(low) by S&P and is unrated by DBRS; it is included in the Pfd-4(low) total.
The fund holds a position in BIP.PR.D, BIP.PR.E and BIP.PR.F, which are rated P-2(low) by S&P and are unrated by DBRS; these are included in the Pfd-2(low) total.
A position held in INE.PR.A is not rated by DBRS, but has been included as “Pfd-3” in the above table on the basis of its S&P rating of P-3.

Liquidity Distribution is:

MAPF Liquidity Analysis 2020-11-30
Average Daily Trading MAPF Weighting
<$50,000 9.8%
$50,000 – $100,000 50.1%
$100,000 – $200,000 28.8%
$200,000 – $300,000 10.5%
>$300,000 0%
Cash +0.8%
Totals will not add precisely due to rounding.

The distribution of Issue Reset Spreads is:

Range MAPF Weight
<100bp 0%
100-149bp 8.0%
150-199bp 7.2%
200-249bp 11,2%
250-299bp 49.6%
300-349bp 4.1%
350-399bp 10.4%
400-449bp 1.8%
450-499bp 0.0%
500-549bp 1.3%
550-599bp 0%
>= 600bp 0%
Undefined 6.4%

Distribution of Floating Rate Start Dates is shown in the table below. This is the date of the next adjustment to the dividend rate, if the issue is currently paying a fixed rate for a limited time; which in practice is successive terms of 5 years. Issues that adjust quarterly are considered “Currently Floating”.

Range MAPF Weight
Currently Floating 1.2%
0-1 Year 6.9%
1-2 Years 13.0%
2-3 Years 20.2%
3-4 Years 15.8%
4-5 Years 38.8%
5-6 Years 0%
>6 Years 0%
Not Floating Rate 4.1%

MAPF is, of course, Malachite Aggressive Preferred Fund, a “unit trust” managed by Hymas Investment Management Inc. Further information and links to performance, audited financials and subscription information are available the fund’s web page. The fund may be purchased directly from Hymas Investment Management. A “unit trust” is like a regular mutual fund, but are not sold with a prospectus. This is cheaper, but means subscription is restricted to “accredited investors” (as defined by the Ontario Securities Commission). Fund past performances are not a guarantee of future performance. You can lose money investing in MAPF or any other fund.

MAPF Performance : October, 2020

Wednesday, November 4th, 2020

Malachite Aggressive Preferred Fund’s Net Asset Value per Unit as of the close October 30, 2020, was $7.3270.

Disappointing performance was recorded by TRP.PR.B, PPL.PR.E, PPL.PR.O, TRP.PR.D and CF.PR.C, all returning less than -4% with a total weight in the portfolio of 7.4%. Strong performance was achieved by IFC.PR.C, MFC.PR.G, HSE.PR.G, SLF.PR.G and HSE.PR.C, all returning more than 4.00%, with a total portfolio weight of 15.6% at month-end.

Quote quality improved somewhat this month, with the difference in portfolio values when calculated with closing prices vs. calculation with bid prices decreasing from 1.71% to 0.96%.

Returns to October 30, 2020
Period MAPF BMO-CM “50” Preferred Share Index TXPR*
Total Return
CPD – according to Blackrock
One Month +0.57% -0.59% -0.38% N/A
Three Months +5.09% +5.02% +4.32% N/A
One Year +1.27% +2.08% +2.19% +1.59%
Two Years (annualized) -8.46% -4.17% -2.86% N/A
Three Years (annualized) -5.02% -2.71% -1.83% -2.42%
Four Years (annualized) +2.30% +2.54% +2.36% N/A
Five Years (annualized) +3.19% +3.19% +2.89% +2.35%
Six Years (annualized) -0.90% -0.16% -0.42% N/A
Seven Years (annualized) +0.53% +0.49% +0.48% N/A
Eight Years (annualized) +0.31% +0.47% +0.26% N/A
Nine Years (annualized) +1.46% +1.10% +0.88% N/A
Ten Years (annualized) +1.55% +1.62% +1.23% +0.75%
Eleven Years (annualized) +3.20% +2.71% +2.17%  
Twelve Years (annualized) +7.46% +3.88% +3.26%  
Thirteen Years (annualized) +6.39% +2.55% +3.01%  
Fourteen Years (annualized) +5.69% +2.00%    
Fifteen Years (annualized) +5.73% +2.20%    
Sixteen Years (annualized) +5.77% +2.31%    
Seventeen Years (annualized) +6.32% +2.50%    
Eighteen Years (annualized) +7.35% +2.77%    
Nineteen Years (annualized) +6.88% +2.80%    
MAPF returns assume reinvestment of distributions, and are shown after expenses but before fees.
The full name of the BMO-CM “50” index is the BMO Capital Markets “50” Preferred Share Index. It is calculated without accounting for fees. I am advised that the “BMO50 is expected to be decommissioned at the end of 2020.”
“TXPR” is the S&P/TSX Preferred Share Index. It is calculated without accounting for fees, but does assume reinvestment of dividends.
CPD Returns are for the NAV and are after all fees and expenses. Reinvestment of dividends is assumed.
Figures for National Bank Preferred Equity Income Fund (formerly Omega Preferred Equity) (which are after all fees and expenses) for 1-, 3- and 12-months are -0.56%, +4.19% and +1.64%, respectively, according to Globe & Mail / Fundata after all fees & expenses. Three year performance is -1.57%; five year is +2.76%; ten year is +1.75%

Figures from Morningstar are no longer conveniently available.

Manulife Preferred Income Class Adv has been terminated by Manulife. The performance of this fund was last reported here in March, 2018.
Figures for Horizons Active Preferred Share ETF (HPR) (which are after all fees and expenses) for 1-, 3- and 12-months are -0.47%, +4.42% & +1.07%, respectively. Three year performance is -3.56%, five-year is +2.42%
Figures for National Bank Preferred Equity Fund (formerly Altamira Preferred Equity Fund) are -0.56%, +4.31% and +1.31% for one-, three- and twelve months, respectively. Three year performance is -3.40%; five-year is +2.58%.

Acccording to the fund’s fact sheet as of June 30, 2016, the fund’s inception date was October 30, 2015. I do not know how they justify this nonsensical statement, but will assume that prior performance is being suppressed in some perfectly legal manner that somebody at National considers ethical.

The last time Altamira Preferred Equity Fund’s performance was reported here was April, 2014; performance under the National Bank banner was first reported here May, 2014.

The figures for the NAV of BMO S&P/TSX Laddered Preferred Share Index ETF (ZPR) is +0.64% for the past twelve months. Two year performance is -5.50%, three year is -3.64%, five year is +1.92%.
Figures for Fiera Canadian Preferred Share Class Cg Series F, (formerly Natixis Canadian Preferred Share Class Series F) (formerly NexGen Canadian Preferred Share Tax Managed Fund) are no longer available as the Fund is now the property of Canoe Financial. The last reported performance for the merged fund was May 2020.
Figures for BMO Preferred Share Fund (advisor series) according to BMO are -0.26%, +4.19% and +1.93% for the past one-, three- and twelve-months, respectively. Two year performance is -5.72%; three year is -4.61%; five-year is +0.26%.
Figures for PowerShares Canadian Preferred Share Index Class, Series F (PPS) are +0.62% for the past twelve months. The three-year figure is -3.24%; five years is +3.09%
Figures for the First Asset Preferred Share Investment Trust (PSF.UN) are no longer available since the fund has merged with First Asset Preferred Share ETF (FPR).

Performance for the fund was last reported here in September, 2016; the first report of unavailability was in October, 2016.

Figures for Lysander-Slater Preferred Share Dividend Fund (Class F) according to the company are -0.65%, +3.28% and -5.56% for the past one, three and twelve months, respectively. Three year performance is -6.32%, five-year is -0.03%.
Figures for the Desjardins Canadian Preferred Share Fund A Class (A Class), as reported by the company are +0.04%, +3.80% and +0.82% for the past one, three and twelve months, respectively. Two year performance is -5.16%, three-year is -3.91%
Figures for the RBC Canadian Preferred Share ETF (RPF) as reported by Morningstar are -0.50%, +3.80% and +1.08% for the past one, three and twelve months, respectively. Three-year performance is -4.12%

MAPF returns assume reinvestment of dividends, and are shown after expenses but before fees. Past performance is not a guarantee of future performance. You can lose money investing in Malachite Aggressive Preferred Fund or any other fund. For more information, see the fund’s main page. The fund is available directly from Hymas Investment Management.

The preferred share market continues to be underpriced relative to other capital markets, leaving a lot of room for outsized gains. The Seniority Spread (the interest-equivalent yield on reasonably liquid, investment-grade PerpetualDiscounts less the yield on long term corporate bonds) is extremely elevated (chart end-date 2020-10-9:

pl_201009_body_chart_1
Click for Big

Note that the Seniority Spread was recorded at 370bp at month-end, a significant narrowing from the 395bp at September month-end. As a good practical example of the spreads between markets, consider that CIU issued a long-term bond in early September, 2019 yielding 2.963%, about 411bp cheaper than the interest-equivalent figure of 7.07% for CIU.PR.A, which was then yielding about 5.44% as a dividend. CIU issued another bond in late September, 2020, yielding 2.609%, which was 399bp cheaper than the interest-equivalent figure of 6.60% for CIU.

… and the relationship between five-year Canada yields and yields on investment-grade FixedResets has gone even deeper into what I consider ‘decoupled panic’ territory (chart end-date 2020-10-9):

pl_201009_body_chart_5
Click for Big

In addition, I feel that the yield on five-year Canadas is unsustainably low (it should be the inflation rate plus an increment of … 1%? 1.5%? 2.0%?),and a return to sustainable levels is likely over the medium term.

It seems clear that many market players are, wittingly or not, using FixedResets to speculate on future moves in the Canada 5-Year yield. This is excellent news for those who take market action based on fundamentals and the long term characteristics of the market because nobody can consistently time the markets. The speculators will, over the long run and in aggregate, lose money, handing it over to more sober investors.

It should be noted that I have been unable to explain the relatively strong performance of Floor issues during the 2018-19 downdraft relative to their non-Floor counterparts. See the discussions on PrefBlog at LINK, LINK and LINK.

I believe the bear-market outperformance by the Floor issues is a behavioural phenomenon with very little basis in fundamentals. When interest rates in general move, FixedReset prices should not change much (to a first approximation, for issues priced near par), since in Fixed Income investing it is spreads that are important, not absolute yields. There should be some effect on Floor issues, which should move up slightly in price as yields go down since the ‘option’ to receive the floor rate will become more valuable. Adjustments due to this effect should be fairly small, however – and over the past year issues with a floor, that started the period being expensive, have simply gotten even more expensive, relative to their non-floored counterparts.

And the tricky thing about behavioural models of investing is that they can lose their explanatory power very quickly when an investment fashion shifts, whereas fundamentals will always be effective – sometimes it just takes a little time! Just to give an example from the preferred share market – until the end of 2014, FixedResets were priced relative to each other according to their initial dividend; when the reset of TRP.PR.A shocked a lot of investors, relative pricing became much more dependent upon the Issue Reset Spread, a much more logical and fundamental property. This paradigm shift was discussed extensively in PrefLetter.

FixedReset (Discount) performance on the month was +0.37% vs. PerpetualDiscounts of +0.16% in October; the two classes finally decoupled in mid-November, 2018, after months of moving in lockstep, but it still appears to me that yields available on FixedResets are keeping the yields of PerpetualDiscounts up, even though a consistent valuation based on an expectation of declining interest rates would greatly increase the attractiveness of PerpetualDiscounts (in other words, PerpetualDiscounts are now priced off FixedResets rather than off Long-term Corporates):

himi_indexperf_201030
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Floaters performed poorly, returning -6.96% for October and the figure for the past twelve months remains awful at -20.49%. Look at the long-term performance:

himi_floaterperf_201030
Click for Big

Some Assiduous Readers will be interested to observe that the ‘Quantitative Easing’ decline was not initially as bad as the ‘Credit Crunch’ decline, which took the sector down to the point where the 15-year cumulative total return was negative. I wrote about that at the time. but it became worse in August, 2019! On August 30, 2019 the HIMI Floater Index (total return) value was calculated as 1906.6; the index first surpassed this value on 2003-8-13. Thus, cumulative total return (that is, including dividends) was negative over a period of slightly-over sixteen years. Worse, on March 31, 2020, the index level was 1454.8, a milestone first passed on 1997-7-30; a cumulative negative total return for 22 years and 8 months; at its low on March 18 the index level was 1253.7, first surpassed on 1996-1-4, a span of 24 years and over two months!

It seems clear that Floaters are used, wittingly or otherwise, as a vehicle for speculation on the policy rate and Canada Prime, while FixedResets are being used as a vehicle for speculation on the five-year Canada rate. In support of this idea, I present an Implied Volatility analysis of the TRP series of FixedResets as of October 30, which is comprised of six issues without a Minimum Rate Guarantee and two issues which do have this feature:

impvol_trp_201030
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The two issues with floors, TRP.PR.J (+469, minimum 5.50%) and TRP.PR.K (+385, minimum 4.90%) are $4.59 and $5.50 rich, respectively. These figures are much wider than the 3.44 and 3.95 calculated last month’s figures. The floors have become effective since five-year Canadas dipped below 0.81% and 1.05%, respectively.

It will also be noted that the spread of a notional non-callable TRP FixedReset priced at par has widened significantly from 479bp last month to 439bp this month, while GOC-5 has increased from 0.35% to 0.38%.

I also show results for the BAM series of FixedResets, which includes three issues with dividend floors: BAM.PF.H (+417, Minimum 5.00%); BAM.PF.I (+386, Minimum 4.80%); and BAM.PF.J (+310, Minimum 4.75%); surprisingly, these issues are all rich compared to their non-floor siblings, being rich 0.48, rich 1.24, and rich 0.85 respectively, respectively, much more expensive than last month’s figures of rich 0.12, cheap 0.16 and cheap 0.16.

impvol_bam_201030
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It will also be noted that the spread of a notional non-callable BAM FixedReset priced at par has widened; 465bp last month to 475bp this month, while GOC-5 has increased from 0.35% to 0.38%.

Relative performance during the month was uncorrelated with Issue Reset Spreads for both the “Pfd-2 Group” and the “Pfd-3 Group” issues:

frperf_201030_1mo
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… and no correlations for the three-month period either:

frperf_201030_3mo
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As for the future, of course, it’s one thing to say that ‘spreads are unsustainable and so are government yields’ and it’s quite another to forecast just how and when a more economically sustainable environment will take effect. It could be years. The same caution applies for an end to the overpricing of issues with a minimum rate guarantee. There could be a reversal, particularly if either Trump’s international trade policies or the economic damage wreaked by the coronavirus approaches the gloomier extreme of current forecasts. And, of course, I could be just plain wrong about the sustainability of the current environment.

On the other hand, I will pass on my observation that international interest in the Canadian preferred share market is increasing, as other Floating Rate indices globally are doing much better. Consider, for example the Solactive Australian Bank Senior Floating Rate Bond Index, which “provides exposure to the largest and most liquid floating rate debt securities issued by selected Australian banks. The index is comprised of investment grade floating rate debt securities denominated in AUD and calculated as a Total Return Index” (LINK although the index constituents currently all have a remaining term of less than five years), and the S&P U.S. Floating Rate Preferred Stock Index.

Yields on preferred shares of all stripes are extremely high compared to those available from other investments of similar quality. As I told John Heinzl in an eMail interview in late November, 2018, the best advice I can offer investors remains Shut up and clip your coupons!

I think that a broad, sustainable rally in FixedResets will require higher five-year Canada yields (or a widespread expectation of them), since paradigm shifts generally require a trigger (a Wile E. Coyote moment, as they say!) … and although I’m sure this will happen eventually, it would be foolish to speculate on just when it will happen.

Calculation of MAPF Sustainable Income Per Unit
Month NAVPU Portfolio
Average
YTW
Leverage
Divisor
Securities
Average
YTW
Capital
Gains
Multiplier
Sustainable
Income
per
current
Unit
June, 2007 9.3114 5.16% 1.03 5.01% 1.3240 0.3524
September 9.1489 5.35% 0.98 5.46% 1.3240 0.3773
December, 2007 9.0070 5.53% 0.942 5.87% 1.3240 0.3993
March, 2008 8.8512 6.17% 1.047 5.89% 1.3240 0.3938
June 8.3419 6.034% 0.952 6.338% 1.3240 $0.3993
September 8.1886 7.108% 0.969 7.335% 1.3240 $0.4537
December, 2008 8.0464 9.24% 1.008 9.166% 1.3240 $0.5571
March 2009 $8.8317 8.60% 0.995 8.802% 1.3240 $0.5872
June 10.9846 7.05% 0.999 7.057% 1.3240 $0.5855
September 12.3462 6.03% 0.998 6.042% 1.3240 $0.5634
December 2009 10.5662 5.74% 0.981 5.851% 1.1141 $0.5549
March 2010 10.2497 6.03% 0.992 6.079% 1.1141 $0.5593
June 10.5770 5.96% 0.996 5.984% 1.1141 $0.5681
September 11.3901 5.43% 0.980 5.540% 1.1141 $0.5664
December 2010 10.7659 5.37% 0.993 5.408% 1.0298 $0.5654
March, 2011 11.0560 6.00% 0.994 5.964% 1.0298 $0.6403
June 11.1194 5.87% 1.018 5.976% 1.0298 $0.6453
September 10.2709 6.10%
Note
1.001 6.106% 1.0298 $0.6090
December, 2011 10.0793 5.63%
Note
1.031 5.805% 1.0000 $0.5851
March, 2012 10.3944 5.13%
Note
0.996 5.109% 1.0000 $0.5310
June 10.2151 5.32%
Note
1.012 5.384% 1.0000 $0.5500
September 10.6703 4.61%
Note
0.997 4.624% 1.0000 $0.4934
December, 2012 10.8307 4.24% 0.989 4.287% 1.0000 $0.4643
March, 2013 10.9033 3.87% 0.996 3.886% 1.0000 $0.4237
June 10.3261 4.81% 0.998 4.80% 1.0000 $0.4957
September 10.0296 5.62% 0.996 5.643% 1.0000 $0.5660
December, 2013 9.8717 6.02% 1.008 5.972% 1.0000 $0.5895
March, 2014 10.2233 5.55% 0.998 5.561% 1.0000 $0.5685
June 10.5877 5.09% 0.998 5.100% 1.0000 $0.5395
September 10.4601 5.28% 0.997 5.296% 1.0000 $0.5540
December, 2014 10.5701 4.83% 1.009 4.787% 1.0000 $0.5060
March, 2015 9.9573 4.99% 1.001 4.985% 1.0000 $0.4964
June, 2015 9.4181 5.55% 1.002 5.539% 1.0000 $0.5217
September 7.8140 6.98% 0.999 6.987% 1.0000 $0.5460
December, 2015 8.1379 6.85% 0.997 6.871% 1.0000 $0.5592
March, 2016 7.4416 7.79% 0.998 7.805% 1.0000 $0.5808
June 7.6704 7.67% 1.011 7.587% 1.0000 $0.5819
September 8.0590 7.35% 0.993 7.402% 1.0000 $0.5965
December, 2016 8.5844 7.24% 0.990 7.313% 1.0000 $0.6278
March, 2017 9.3984 6.26% 0.994 6.298% 1.0000 $0.5919
June 9.5313 6.41% 0.998 6.423% 1.0000 $0.6122
September 9.7129 6.56% 0.998 6.573% 1.0000 $0.6384
December, 2017 10.0566 6.06% 1.004 6.036% 1.0000 $0.6070
March, 2018 10.2701 6.22% 1.007 6.177% 1.0000 $0.6344
June 10.2518 6.22% 0.995 6.251% 1.0000 $0.6408
September 10.2965 6.62% 1.018 6.503% 1.0000 $0.6696
December, 2018 8.6875 7.16% 0.997 7.182% 1.0000 $0.6240
March, 2019 8.4778 7.09% 1.007 7.041% 1.0000 $0.5969
June 8.0896 7.33% 0.996 7.359% 1.0000 $0.5953
September 7.7948 7.96% 0.998 7.976% 1.0000 $0.6217
December, 2019 8.0900 6.03% 0.995 6.060% 1.0000 $0.4903
March 5.5596 7.04% 1.006 6.998% 1.0000 $0.3891
June 6.3568 6.10% 0.9900 6.162% 1.0000 $0.3917
September 7.2852 5.32% 1.00 5.320% 1.0000 $0.3876
October, 2020 7.3270 5.27% 0.998 5.281% 1.0000 $0.3869
NAVPU is shown after quarterly distributions of dividend income and annual distribution of capital gains.
Portfolio YTW includes cash (or margin borrowing), with an assumed interest rate of 0.00%
The Leverage Divisor indicates the level of cash in the account: if the portfolio is 1% in cash, the Leverage Divisor will be 0.99
Securities YTW divides “Portfolio YTW” by the “Leverage Divisor” to show the average YTW on the securities held; this assumes that the cash is invested in (or raised from) all securities held, in proportion to their holdings.
The Capital Gains Multiplier adjusts for the effects of Capital Gains Dividends. On 2009-12-31, there was a capital gains distribution of $1.989262 which is assumed for this purpose to have been reinvested at the final price of $10.5662. Thus, a holder of one unit pre-distribution would have held 1.1883 units post-distribution; the CG Multiplier reflects this to make the time-series comparable. Note that Dividend Distributions are not assumed to be reinvested.
Sustainable Income is the resultant estimate of the fund’s dividend income per current unit, before fees and expenses. Note that a “current unit” includes reinvestment of prior capital gains; a unitholder would have had the calculated sustainable income with only, say, 0.9 units in the past which, with reinvestment of capital gains, would become 1.0 current units.
DeemedRetractibles are comprised of all Straight Perpetuals (both PerpetualDiscount and PerpetualPremium) issued by BMO, BNS, CM, ELF, GWO, HSB, IAG, MFC, NA, RY, SLF and TD, which are not exchangable into common at the option of the company or the regulator (definition refined in May, 2011). These issues are analyzed as if their prospectuses included a requirement to redeem at par on or prior to 2022-1-31 (banks) or the Deemed Maturity date for insurers and insurance holding companies (see below)), in addition to the call schedule explicitly defined. See the Deemed Retractible Review: September 2016 for the rationale behind this analysis.

The same reasoning is also applied to FixedResets from these issuers, other than explicitly defined NVCC from banks.

In November, 2019, the assumption of DeemedRetraction for insurance issues was cancelled in the wake of the IAIS decision included in ICS 2.0. This resulted in a large drop in the yield calculated for these issues

The Deemed Maturity date for insurers was set at 2022-1-31 at the commencement of the process in February, 2011. It was extended to 2025-1-31 in April, 2013 and to 2030-1-31 in December, 2018. In November, 2019, the assumption of DeemedRetraction was cancelled in the wake of the IAIS decision included in ICS 2.0.
Yields for September, 2011, to January, 2012, were calculated by imposing a cap of 10% on the yields of YLO issues held, in order to avoid their extremely high calculated yields distorting the calculation and to reflect the uncertainty in the marketplace that these yields will be realized. From February to September 2012, yields on these issues have been set to zero. All YLO issues held were sold in October 2012.

These calculations were performed assuming constant contemporary GOC-5 and 3-Month Bill rates, as follows:

Canada Yields Assumed in Calculations
Month-end GOC-5 3-Month Bill
September, 2015 0.78% 0.40%
December, 2015 0.71% 0.46%
March, 2016 0.70% 0.44%
June 0.57% 0.47%
September 0.58% 0.53%
December, 2016 1.16% 0.47%
March, 2017 1.08% 0.55%
June 1.35% 0.69%
September 1.79% 0.97%
December, 2017 1.83% 1.00%
March, 2018 2.06% 1.08%
June 1.95% 1.22%
September 2.33% 1.55%
December, 2018 1.88% 1.65%
March, 2019 1.46% 1.66%
June 1.34% 1.66%
September 1.41% 1.66%
December, 2019 1.68% 1.68%
March, 2020 0.57% 0.21%
June 0.37% 0.21%
September 0.35% 0.14%
October, 2020 0.38% 0.09%

I note that the sustainable yield calculated above is not directly comparable with any yield calculation currently reported by any other preferred share fund as far as I am aware. The Sustainable Yield depends on:
i) Calculating Yield-to-Worst for each instrument and using this yield for reporting purposes;
ii) Using the contemporary value of Five-Year Canadas to estimate dividends after reset for FixedResets. The assumption regarding the five-year Canada rate has become more important as the proportion of low-spread FixedResets in the portfolio has increased.
iii) Making the assumption that deeply discounted NVCC non-compliant issues from banks (and insurers, until November 2019), both Straight and FixedResets will be redeemed at par on their DeemedMaturity date as discussed above.

MAPF Portfolio Composition : October, 2020

Monday, November 2nd, 2020

Turnover increased in October to 14%.

The fund’s trading will probably be higher in the future than has been normal for the past several years, since the extreme segmentation in the marketplace that I complained about for so long is now effectively ended. Low-Reset insurance issues were considered so cheap relative to their peers that a large portion of the fund’s holdings were effectively frozen. However, this differentiating factor is no longer considered applicable.

I am no longer making any adjustments for special qualities of insurance issues but note that this policy may change again in the future – a requirement for a Principal Loss Absorbency Mechanism (PLAM), whereby any security included in Tier 1 Capital will be wiped out prior to a government bail-out, even if technical bankruptcy is avoided, remains good public policy; it is a disgrace that the IAIS has rejected this principle and even worse that OSFI argued strenuously against it. I will continue to read notifications from these two entities with great interest, but while it is within the realm of possibility that ICS 2.0 will be revised following the expiry of the current five-year testing period, I can’t say I have any great confidence in the wisdom of the bureaucrats. However, it is a positive move that the increase in the limit for preferred share issuance was increased from 10% of the capital requirement to 15%; but this increase may only be met with issues having a PLAM.

Sectoral distribution of the MAPF portfolio on October 30 was as follows:

MAPF Sectoral Analysis 2020-10-30
HIMI Indices Sector Weighting YTW ModDur
Ratchet 0% N/A N/A
FixFloat 0% N/A N/A
Floater 0% N/A N/A
OpRet 0% N/A N/A
SplitShare 0% N/A N/A
Interest Rearing 0% N/A N/A
PerpetualPremium 0% N/A N/A
PerpetualDiscount 14.5% 5.01% 15.43
Fixed-Reset Discount 36.7% 4.99% 15.32
Insurance – Straight 1.3% 4.91% 15.61
FloatingReset 0% N/A N/A
FixedReset Premium 0% N/A N/A
FixedReset Bank non-NVCC 3.7% 2.28% 1.24
FixedReset Insurance non-NVCC 24.1% 4.41% 16.30
Scraps – Ratchet 1.2% 6.60% 16.27
Scraps – FixedFloater 0% N/A N/A
Scraps – Floater 0% N/A N/A
Scraps – OpRet 0% N/A N/A
Scraps – SplitShare 1.2% 5.52% 3.66
Scraps – PerpPrem 0% N/A N/A
Scraps – PerpDisc 0% N/A N/A
Scraps – FR Discount 17.2% 7.87% 11.48
Scraps – Insurance Straight 0% N/A N/A
Scraps – FloatingReset 0% N/A N/A
Scraps – FR Premium 0% N/A N/A
Scraps – Bank non-NVCC 0% N/A N/A
Scraps – Ins non-NVCC 0% N/A N/A
Cash 0.2% 0.00% 0.00
Total 100% 5.27% 14.25
Totals and changes will not add precisely due to rounding. Cash is included in totals with duration and yield both equal to zero.
The various “Scraps” indices include issues with a DBRS rating of Pfd-3(high) or lower and issues with an Average Trading Value (calculated with HIMIPref™ methodology, which is relatively complex) of less than $25,000. The issues considered “Scraps” are subdivided into indices which reflect those of the main indices.
DeemedRetractibles were comprised of all Straight Perpetuals (both PerpetualDiscount and PerpetualPremium) issued by BMO, BNS, CM, ELF, GWO, HSB, IAG, MFC, NA, RY, SLF and TD, which are not exchangable into common at the option of the company or the regulator. These issues are analyzed as if their prospectuses included a requirement to redeem at par on or prior to 2022-1-31 in the case of banks or normally in the case of insurers and insurance holding companies, in addition to the call schedule explicitly defined. See the Deemed Retractible Review: September 2016 for the rationale behind this analysis and IAIS Says No To DeemedRetractions for the recent change in policy with respect to insurers.

Note that the estimate for the time this will become effective for insurers and insurance holding companies was extended by three years in April 2013, due to the delays in OSFI’s providing clarity on the issue and by a further five years in December, 2018; the estimate was eliminated in November. However, the distinctions are being kept because it is useful to distinguish insurance issues from others.

The name of this subindex has been changed to "Insurance Straight" as of November, 2020

Calculations of resettable instruments are performed assuming a constant GOC-5 rate of 0.38%, a constant 3-Month Bill rate of 0.09% and a constant Canada Prime Rate of 2.45%

The “total” reflects the un-leveraged total portfolio (i.e., cash is included in the portfolio calculations and is deemed to have a duration and yield of 0.00.). MAPF will often have relatively large cash balances, both credit and debit, to facilitate trading. Figures presented in the table have been rounded to the indicated precision.

An additional wrinkle to the division into sub-indices is the fact that some issues are classed here as FixedResets, even though for analytical purposes they are classified as Straights – this is due to the fact that these particular issues reset with a floor rate which is (given the current level of the GOC 5-Year bond) currently expected to be effective.

For MAPF, these issues are BIP.PR.D, BIP.PR.E, BIP.PR.F and ECN.PR.C, with a combined portfolio weight of 4.6%. The total portfolio is therefore 78.3% “Floating”, which means the rates will reset periodically based upon the GOC-5, T-Bill or Canada Prime levels.

Credit distribution is:

MAPF Credit Analysis 2020-10-30
DBRS Rating MAPF Weighting
Pfd-1 0
Pfd-1(low) 0
Pfd-2(high) 37.8%
Pfd-2 22.8%
Pfd-2(low) 19.6%
Pfd-3(high) 10.4%
Pfd-3 5.2%
Pfd-3(low) 2.2%
Pfd-4(high) 1.0%
Pfd-4 0%
Pfd-4(low) 0.8%
Pfd-5(high) 0%
Pfd-5 0.0%
Cash +0.2%
Totals will not add precisely due to rounding.
The fund holds a position in AZP.PR.B, which is rated P-4(low) by S&P and is unrated by DBRS; it is included in the Pfd-4(low) total.
The fund holds a position in BIP.PR.D, BIP.PR.E and BIP.PR.F, which are rated P-2(low) by S&P and are unrated by DBRS; these are included in the Pfd-2(low) total.
A position held in INE.PR.A is not rated by DBRS, but has been included as “Pfd-3” in the above table on the basis of its S&P rating of P-3.

Liquidity Distribution is:

MAPF Liquidity Analysis 2020-10-30
Average Daily Trading MAPF Weighting
<$50,000 19.2%
$50,000 – $100,000 34.4%
$100,000 – $200,000 39.1%
$200,000 – $300,000 6.0%
>$300,000 1.2%
Cash +0.2%
Totals will not add precisely due to rounding.

The distribution of Issue Reset Spreads is:

Range MAPF Weight
<100bp 0%
100-149bp 8.4%
150-199bp 7.8%
200-249bp 10.4%
250-299bp 38.9%
300-349bp 4.0%
350-399bp 9.0%
400-449bp 1.8%
450-499bp 0.0%
500-549bp 1.4%
550-599bp 0%
>= 600bp 0%
Undefined 18.3%

Distribution of Floating Rate Start Dates is shown in the table below. This is the date of the next adjustment to the dividend rate, if the issue is currently paying a fixed rate for a limited time; which in practice is successive terms of 5 years. Issues that adjust quarterly are considered “Currently Floating”.

Range MAPF Weight
Currently Floating 1.2%
0-1 Year 7.1%
1-2 Years 13.0%
2-3 Years 10.9%
3-4 Years 17.1%
4-5 Years 33.5%
5-6 Years 0%
>6 Years 0%
Not Floating Rate 17.1%

MAPF is, of course, Malachite Aggressive Preferred Fund, a “unit trust” managed by Hymas Investment Management Inc. Further information and links to performance, audited financials and subscription information are available the fund’s web page. The fund may be purchased directly from Hymas Investment Management. A “unit trust” is like a regular mutual fund, but are not sold with a prospectus. This is cheaper, but means subscription is restricted to “accredited investors” (as defined by the Ontario Securities Commission). Fund past performances are not a guarantee of future performance. You can lose money investing in MAPF or any other fund.