MAPF Performance: April 2010

The fund experienced a negative return in April – as did nearly all sectors of the preferred share market – but outperformed both DPS.UN and CPD due to its heavy weighting in PerpetualDiscounts.

I am somewhat at a loss to account for the weakness YTD in PerpetualDiscounts. It doesn’t make much sense given that long corporate bond yields are declining and have reached 5.7% – as I recently discussed with John Heinzl of the Globe & Mail.

I believe that the phenomenon is due to retail’s understanding of the facts (relentlessly driven home by the media) that the BoC rate has nowhere to go but up; that increases in this rate will probably happen sooner rather than later; and that a portion of these increases will be reflected in the 5-Year Canada yield and hence to mortgages. However, the reasoning becomes suspect when, as I believe, this reasoning is extended to apply to long corporate bond yields and PerpetualDiscount yields.

Is it a “good time to buy”? Well, the Seniority Spread (the difference between the interest-equivalent pre-tax PerpetualDiscount yield and the long corporate yield) is exceptionally high at the moment at 320bp. This spread has been exceeded in the past 16+ years only at the depths of the Credit Crunch in November/December 2008 (when it briefly spiked to about 450bp). The range I have dubbed “Credit Crunch Normal” is 200-225bp; the long-term, pre-Credit-Crunch range was 100-150bp.

So I am prepared to go so far as to say that the attractiveness of PerpetualDiscounts vs. Long Corporates is currently enhanced relative to other times and that investors with a disciplined asset allocation framework will therefor finding their models leading to a greater weight in PDs than might otherwise be the case.

However, I dislike the entire concept of “good time to buy”. Investment allocation decisions should be based on portfolio needs long term expectations, not developed on the fly in an attempt to time the markets.

The fund’s Net Asset Value per Unit as of the close April 30 was $10.0518.

Returns to April 30, 2010
Period MAPF Index CPD
according to
One Month -1.93% -1.94% -2.15%
Three Months -5.35% -2.22% -2.90%
One Year +28.29% 16.52% +10.99%
Two Years (annualized) +23.60% +3.28% +0.87%*
Three Years (annualized) +15.33% +0.22% -1.97
Four Years (annualized) +13.10% +1.20%  
Five Years (annualized) +11.72% +1.64%  
Six Years (annualized) +11.39% +2.32%  
Seven Years (annualized) +13.28% +2.88%  
Eight Years (annualized) +11.79% +3.26%  
Nine Years (annualized) +12.27% +3.00%  
The Index is the BMO-CM “50”
MAPF returns assume reinvestment of dividends, and are shown after expenses but before fees.
CPD Returns are for the NAV and are after all fees and expenses.
* CPD does not directly report its two-year returns. The figure shown is the square root of product of the current one-year return and the similar figure reported for April 2009.
Figures for Omega Preferred Equity (which are after all fees and expenses) for 1-, 3- and 12-months are -2.0%, -2.6% and +14.2%, respectively, according to Morningstar after all fees & expenses
Figures for Jov Leon Frazer Preferred Equity Fund Class I Units (which are after all fees and expenses) for 1-, 3- and 12-months are -2.6%, -2.6% & +8.4% respectively, according to Morningstar
Figures for AIC Preferred Income Fund (which are after all fees and expenses) for 1-, 3- and 12-months are -3.2%, -2.8% & +5.1%, respectively

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.

I am very pleased with the returns over the past year, but implore Assiduous Readers not to project this level of outperformance for the indefinite future. The year in the preferred share market was filled with episodes of panic and euphoria, together with many new entrants who do not appear to know what they are doing; perfect conditions for a disciplined quantitative approach.

Sometimes everything works … sometimes the trading works, but sectoral shifts overwhelm the increment … sometimes nothing works. The fund seeks to earn incremental return by selling liquidity (that is, taking the other side of trades that other market participants are strongly motivated to execute), which can also be referred to as ‘trading noise’. There have been a lot of strongly motivated market participants in the past year, generating a lot of noise! The conditions of the past year may never be repeated in my lifetime … but the fund will simply attempt to make trades when swaps seem profitable, whether that implies monthly turnover of 10% or 100%.

There’s plenty of room for new money left in the fund. Just don’t expect the current level of outperformance every year, OK? While I will continue to exert utmost efforts to outperform, it should be borne in mind that beating the index by 500bp represents a good year, and there will almost inevitably be periods of underperformance in the future.

The yields available on high quality preferred shares remain elevated, which is reflected in the current estimate of sustainable income.

Calculation of MAPF Sustainable Income Per Unit
Month NAVPU Portfolio
June, 2007 9.3114 5.16% 1.03 5.01% 1.1883 0.3926
September 9.1489 5.35% 0.98 5.46% 1.1883 0.4203
December, 2007 9.0070 5.53% 0.942 5.87% 1.1883 0.4448
March, 2008 8.8512 6.17% 1.047 5.89% 1.1883 0.4389
June 8.3419 6.034% 0.952 6.338% 1.1883 $0.4449
September 8.1886 7.108% 0.969 7.335% 1.1883 $0.5054
December, 2008 8.0464 9.24% 1.008 9.166% 1.1883 $0.6206
March 2009 $8.8317 8.60% 0.995 8.802% 1.1883 $0.6423
June 10.9846 7.05% 0.999 7.057% 1.1883 $0.6524
September 12.3462 6.03% 0.998 6.042% 1.1883 $0.6278
December 2009 10.5662 5.74% 0.981 5.851% 1.0000 $0.6182
March 2010 10.2497 6.03% 0.992 6.079% 1.0000 $0.6231
April 2010 10.0518 6.33% 0.995 6.362% 1.0000 $0.6395
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.

Significant positions were held in Fixed-Reset issues on April 30; all of which (with the exception of YPG.PR.C) currently have their yields calculated with the presumption that they will be called by the issuers at par at the first possible opportunity. A split-share issue (BNA.PR.C) is also held. This presents another complication in the calculation of sustainable yield.

However, if the entire portfolio except for the PerpetualDiscounts were to be sold and reinvested in these issues, the yield of the portfolio would be the 6.47% shown in the MAPF Portfolio Composition: April 2010 analysis (which is in excess of the 6.35% index yield on April 30). Given such reinvestment, the sustainable yield would be $10.0518 * 0.0647 = 0.6503, whereas similar calculations for March and February result in $0.6457 and $0.6418, respectively.

Different assumptions lead to different results from the calculation, but the overall positive trend is apparent. I’m very pleased with the results! It will be noted that if there was no trading in the portfolio, one would expect the sustainable yield to be constant (before fees and expenses). The success of the fund’s trading is showing up in

  • the very good performance against the index
  • the long term increases in sustainable income per unit

As has been noted, the fund has maintained a credit quality equal to or better than the index; outperformance is due to constant exploitation of trading anomalies.

Again, there are no predictions for the future! The fund will continue to trade between issues in an attempt to exploit market gaps in liquidity, in an effort to outperform the index and keep the sustainable income per unit – however calculated! – growing.

One Response to “MAPF Performance: April 2010”

  1. […] the sustainable yield would be $10.1623 * 0.0644 = $0.6545 , whereas similar calculations for April and March result in $0.6503 and $0.6457, […]

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