DBRS has announced:
DBRS has today downgraded the Equity Dividend Shares (the Preferred Shares) issued by Income STREAMS III Corporation (the Company) from Pfd-4 to Pfd-5 with a Negative trend.
…
Quadravest Capital Management (the Manager) manages the Managed Portfolio, generating income from dividends, covered call option premiums and capital appreciation. The holders of the Preferred Shares receive a fixed, cumulative monthly dividend yielding 7.00% per annum on the initial share price. Excess amounts may be distributed to holders of the Capital Yield Shares if the Preferred Share dividends are not in arrears and the Managed Portfolio provides asset coverage of at least 1.20 times to the Preferred Shares.Since inception, the net asset value (NAV) of the Managed Portfolio has declined about 46% to $14.54 per share (as of December 31, 2007), providing negative downside protection to the Preferred Share principal of $15. The Managed Portfolio would have to generate a return of about 10% in the next year for the Managed Portfolio NAV to maintain its current level.
The downgrade of the Preferred Shares is based on the lack of downside protection currently available to the Preferred Shareholders, as well as on the grind on the Managed Portfolio relative to its current NAV.
The DBRS Rating History of STQ.E is:
| STQ.E DBRS Rating History |
||
| From | To | DBRS Rating |
| 2001-07-11 | 2002-07-10 | Pfd-2 |
| 2002-07-11 | 2003-06-22 | Pfd-3(low) |
| 2003-06-23 | 2008-01-04 | Pfd-4 |
| 2008-01-07 | Indefinite | Pfd-5 (trend negative) |
STQ.E is included in the HIMIPref™ universe but is not included in the SplitShares index due to credit concerns.
I have no idea why people invest in these covered option writing securities. Not only do they extract substantial fees for the manager, they can’t possibly work from first principles.
I’ve read a few prospectuses for these things and the ASSUMPTION is that they will keep 100% of written call option premiums (which they distribute, after fees) to investors. There’s a lot of argument about whether call options are over,under or fairly priced, but irrespective of this, the debate is about whether an option has an expected value of 75-110% of its value (which would leave 25 to minus 10% to the covered option writer, not the 100% assumed).
How regulators allow this is beyond me.
Furthermore, this is another example of “Credit Anticipation” (which the rating agencies profess NOT to do). I bet this PROBABLE and possibly precipitous credit deterioration could be seen at IPO with many models. By rating the IPO highly , DBRS has done a MAJOR disservice to investors (some would say “conned investors”, but I leave conflicts of interest to others).
This is a prime example showing how the credit raters and regulators do a crappy job with structured products, which is why retail buys so much crap! Crap begets crap…
Well, I’m not going to discuss the investment merits of the vehicle as it stood on issue date – quite frankly, I’m not sufficiently interested!
I do note that the salesmen of the new issue were paid 3.5% of the issue price for the “preferred” shares (recognized as preferred by DBRS, but not by the TSX) and 5.5% (!!) of the issue price of the capital shares. Seems to me that that’s the root of such problems as there may be with this kind of issue.