2 Responses to “October 18, 2016”

1. brian says:

   October 19, 2016 at 11:10 am

   I have a question on RETRACTABLE PREFS that I hope someone can help me with.
   Often the terms of retraction will read something like:
   “the Preference Shares are convertible at the option of the holder, on at least 30 days notice, into that number of Common Shares determined by dividing $25.00, together with all accrued and unpaid dividends, by the greater of $2.00 and 95% of the then Current Market Price”

   Suppose the prefs are trading at $25 and the common stock is trading at $10 and you had 1000 pref shares. $25/$9.50 x 1,000 = 2,632 common shares

   Thus you would have converted $25,000 worth of prefs into $26,320 worth of common stock for a 5% gain!

   I realize that it’s not a sure thing because the common stock price is going to be fluctuating while this transaction is underway and of course there are trading fees involved, so there is certainly the possibility of losing money, but it seems to me like you would usually come out with a healthy profit.

   It all seems too easy and I must be missing something or my calculations are somehow wrong. Any comments would be appreciated!

2. jiHymas says:

   October 19, 2016 at 10:04 pm

   No, you’re quite right.

   This is called a “soft retraction” – a hard retraction is where you actually get cash – and analytically I treat it as a put option at 26.04, that being the $25 par value divided by 0.96, which allows 1% for transaction costs.

   In practice it hasn’t mattered a lot, historically. If a company is healthy it will call the shares at $25 the day before retraction in order to avoid common share dilution; if the company is not healthy its common is trading below the floor conversion price (usually $2) and the floor makes the conversion unprofitable relative to par value, but – sometimes – profitable relative to what you expect to get on the preferreds in bankruptcy.

   See, for example, IQW.PR.C : Conversion to Common Requested for Over Half of Issue, IQW.PR.C Conversion to IQW, IQW.PR.C Conversion Continues, IQW.PR.C Conversion Rate Slowing and IQW.PR.C & IQW.PR.D: The End is Nigh.