Category: Issue Comments

TransCanada Corporation has announced:

• •Acquisition creates one of North America’s largest regulated natural gas transmission businesses linking the continent’s most prolific natural gas supply basins to its most attractive markets
• •Results in a combined $23 billion portfolio of secured, near-term growth projects
• •Expected to be accretive to earnings per share in the first full year of ownership and thereafter as the combined $23 billion of near-term, commercially secured projects enter service
• •Increases 2015 adjusted pro forma EBITDA from regulated and long-term contracted assets to approximately 92 per cent
• •Planned monetization of U.S. Northeast merchant power assets will further enhance stability and predictability of consolidated revenue streams
• •Supports and may augment eight to 10 per cent expected annual dividend growth through 2020
• •Funding program designed to be consistent with current financial profile
• •Targeted annual cost, revenue and financing benefits of approximately US$250 million

TransCanada Corporation (TSX:TRP) (NYSE:TRP) (TransCanada) today announced it has entered into an agreement and plan of merger pursuant to which it will acquire Columbia Pipeline Group, Inc. (NYSE:CPGX or Columbia), a Houston, Texas-based company that operates an approximate 24,000-kilometre (km) (15,000-mile) network of interstate natural gas pipelines extending from New York to the Gulf of Mexico, with a significant presence in the Appalachia production basin.

They later announced:

that it has entered into an agreement with a syndicate of underwriters (the Underwriters) led by RBC Capital Markets and TD Securities Inc. under which they have agreed to purchase from TransCanada and sell to the public 92.0 million Subscription Receipts at a price of $45.75 per Subscription Receipt for total gross proceeds of $4.209 billion (the Offering). The Subscription Receipts will be offered to the public in Canada and the United States through the Underwriters or their affiliates. TransCanada has also granted the Underwriters an option to purchase up to an additional 4.6 million Subscription Receipts at a price of $45.75 per Subscription Receipt at any time up to 30 days after closing of the Offering.

The Offering is subject to the receipt of all necessary regulatory and stock exchange approvals. The closing date of the Offering (the Offering Closing Date) is expected to be on or about April 1, 2016.

Proceeds from the Offering will be used to finance a portion of the purchase price for the previously announced acquisition (the Acquisition) of Columbia Pipeline Group, Inc. (NYSE: CPGX) (Columbia) by subsidiaries of the Corporation’s wholly-owned subsidiary, TransCanada PipeLines Limited (TCPL).

Rebecca Penty and Jim Polson of Bloomberg point out:

TransCanada already gets the bulk of its revenue, 48 percent in 2015, from gas shipping. Including its Mainline pipeline system that crosses Canada, the company fully owns 35,200 miles of gas lines and has stakes 6,700 more miles, supplying about 20 percent of North America’s heating and power-plant fuel, according to its website. It’s also one of the continent’s biggest providers of gas storage, with 368 billion cubic feet of capacity.

TransCanada has been seeking to grow its presence in the U.S. gas market as production rises from Appalachia fields. Vast supplies of cheap gas from the Marcellus and Utica shale plays are pushing western Canadian volumes out of their traditional markets, as U.S. producers seek new buyers for their fuel north of the border. TransCanada, in turn, has been soliciting commercial support for the potential reversal of its Iroquois pipeline, which has been sending western Canadian gas supplies to the Eastern U.S. for more than two decades.

Jeffrey Jones of the Globe observes:

[TransCanada chief executive officer] Mr. [Russ] Girling said adding Columbia’s operations will create a 91,000-km natural-gas-pipeline system connecting the most prolific supply basins to markets across the continent. It will also be positioned to feed liquefied natural gas terminals for export.

Following all this, DBRS announced that it:

has today placed TransCanada Corporation’s (TCC or the Company) Preferred Shares – Cumulative rating Under Review with Developing Implications. DBRS has also placed the Issuer Rating, Unsecured Debentures & Notes, Junior Subordinated Notes and Commercial Paper ratings of TransCanada PipeLines Limited, the Medium Term-Notes & Unsecured Debentures rating of NOVA Gas Transmission Ltd. as well as the Issuer Rating and Senior Unsecured Bonds rating of Trans Québec & Maritimes Pipeline Inc. Under Review with Developing Implications.
…
Based on its preliminary review, DBRS believes that the Acquisition, combined with the proposed asset sales noted above, is neutral with respect to TCC’s overall business risk profile. DBRS notes that the Acquisition provides increased diversification to TCC’s business, which DBRS views as moderately positive; however, CPG’s weak counterparty risk profile, which includes a large percentage of non-investment grade shippers, is moderately negative to TCC’s business risk profile. CPG has USD 5.6 billion of commercially secured growth projects currently in the regulatory and permitting processes and is implementing modernization initiatives of approximately USD 1.7 billion through 2021. TCC stated that it expects to fund CPG’s future growth in a manner that is consistent with the Company’s current financial profile; however, DBRS notes the increased near- to medium-term capital intensity and increased risks inherent in a combined growth project portfolio of CAD 23 billion between CPG and TCC. The sale of U.S. Northeast power assets would reduce TCC’s exposure to the merchant power business, which DBRS views as moderately positive from a business risk perspective while the potential sale of a minority interest in TCC’s Mexican natural gas pipeline business is viewed as neutral.

With respect to financial risk profile, DBRS expects initial pressure on TCC’s credit metrics as a result of the assumption of CPG’s existing debt and the potential for a time lag between closing of the Acquisition and TCC’s planned asset sales, partly offset by issuance of meaningful common equity. Execution risk associated with generating expected proceeds from the proposed asset sales is also present. TCC has indicated that it intends to fund the combined large medium-term capital expenditure commitments of both TCC and CPG “in a manner consistent with the Company’s current financial profile.”

TransCanada has many preferred share issues outstanding: TRP.PR.A, TRP.PR.B, TRP.PR.C, TRP.PR.D, TRP.PR.E, TRP.PR.F, TRP.PR.G, TRP.PR.H and TRP.PR.I.

Update, 2016-3-18: Outlook Negative from S&P:

• •TransCanada Corp. has announced the acquisition of Columbia Pipeline Group Inc. for approximately US$13 billion.
• •We expect the company to finance the all-cash transaction with equity issuance and the monetization of U.S. power and Mexico natural gas assets.
• •As a result, we are revising our outlook on TransCanada and subsidiary TransCanada PipeLines Ltd. to negative from stable.
• •The outlook revision reflects our view of the financing risks associated with the transaction, particularly using asset sales to fund the purchase.
• •We are also affirming our ratings on the companies, including our ‘A-‘ long-term corporate credit rating on both.

TORONTO (Standard & Poor’s) March 18, 2016–Standard & Poor’s Ratings Services today said it revised its outlook on TransCanada Corp. (TCC) and subsidiary TransCanada PipeLines Ltd. to negative from stable. At the same time, Standard
& Poor’s affirmed its ratings on the companies, including its ‘A-‘ long-term corporate credit rating on both.
…
The negative outlook reflects our view of the execution risk inherent in the acquisition, with a significant part of the financing coming from proceeds of the proposed asset sales. While the company has a bridge facility for the whole purchase price, which significantly reduces the financing risk, we believe there is execution risk in whether TCC will receive the expected proceeds from the proposed asset sales.

We would lower the ratings if our forecast adjusted funds from operations (AFFO)-to-debt falls below a weighted average of 18%. This could result from asset sales proceeds being significantly lower than forecast and the company meeting the shortfall with long-term debt; or higher debt to finance the 2016-2018 capital programs; or lower-than-forecast cash flows in 2016 and 2017. In addition, cost overruns on planned major projects could weaken metrics and trigger a downgrade.

TransAlta Corporation has announced:

that 1,824,620 of its 12,000,000 Cumulative Redeemable Rate Reset Preferred Shares, Series A (the “Series A Shares”) were tendered for conversion, on a one-for-one basis, into Cumulative Redeemable Floating Rate Preferred Shares, Series B (the “Series B Shares”) after having taken into account all election notices following the March 16, 2016 conversion deadline. As a result of the conversion, TransAlta will have 10,175,380 Series A Shares and 1,824,620 Series B Shares issued and outstanding. The Series A Shares will continue to be listed on the Toronto Stock Exchange (TSX) under the symbol TA.PR.D. The Series B Shares will begin trading on the TSX on March 31, 2016 under the symbol TA.PR.E, subject to the Company fulfilling all the listing requirements of the TSX.

The Series A Shares will pay fixed cumulative preferential cash dividends on a quarterly basis, for the five-year period from and including March 31, 2016 to but excluding March 31, 2021, if, as and when declared by the Board of Directors of TransAlta based on an annual fixed dividend rate of 2.709%.

The Series B Shares will pay quarterly floating rate cumulative preferential cash dividends for the five-year period from and including March 31, 2016 to but excluding March 31, 2021, if, as and when declared by the Board of Directors of TransAlta. The annual dividend rate for the Series B Shares for the 3-month floating rate period from and including March 31, 2016 to but excluding June 30, 2016 is 2.492% and will be reset every quarter.

Assiduous Readers will remember that TA.PR.D will reset to 2.709%, while the FloatingReset issue, TA.PR.E, will pay 3-Month T-Bills + 203bp, reset quarterly. I recommended against conversion.

GMP Capital Inc. has announced:

that 1,034,747 of its outstanding 4,600,000 Cumulative 5-Year Rate Reset Preferred Shares, Series B of the Corporation (the Series B Shares) have been tendered for conversion on March 31, 2016, on a one-for-one basis, into Cumulative Floating Rate Preferred Shares, Series C of the Corporation (the Series C Shares). As a result, on March 31, 2016, the Corporation will have 3,565,253 Series B Shares and 1,034,747 Series C Shares issued and outstanding.

The Series B Shares will continue to be listed on the Toronto Stock Exchange under the symbol “GMP.PR.B”. The Series C Shares will be listed on the Toronto Stock Exchange on April 1, 2016, under the symbol “GMP.PR.C”.

Assiduous Readers will remember that GMP.PR.B will reset to 3.611%, while the FloatingReset issue, GMP.PR.C, will pay 3-Month T-Bills + 289bp, reset quarterly. I recommended against conversion.

BCE Inc. has announced:

that 1,953,385 of its 11,500,000 fixed-rate Cumulative Redeemable First Preferred Shares, Series AM (Series AM Preferred Shares) have been tendered for conversion on March 31, 2016, on a one-for-one basis, into floating-rate Cumulative Redeemable First Preferred Shares, Series AN (Series AN Preferred Shares). Consequently, BCE will issue 1,953,385 new Series AN Preferred Shares on March 31, 2016.

The remaining Series AM Preferred Shares will continue to be listed on the Toronto Stock Exchange under the symbol BCE.PR.M. The Series AM Preferred Shares will pay on a quarterly basis, for the five-year period beginning on March 31, 2016, as and when declared by the Board of Directors of BCE, a fixed quarterly cash dividend based on an annual dividend rate of 2.764%.

The Series AN Preferred Shares will pay for each quarterly period beginning with the quarterly period from and including March 31, 2016 up to but excluding June 30, 2016, as and when declared by the Board of Directors of BCE, a quarterly floating cash dividend based on the T-Bill Rate for such quarterly period plus 2.09%, calculated in accordance with the articles of BCE. The floating dividend rate applicable to the Series AN Preferred Shares for the quarterly period beginning on March 31, 2016 is 0.63625% (annual rate of 2.552% based on an initial T-Bill Rate of 0.462%). The Series AN Preferred Shares will be listed on the Toronto Stock Exchange under the symbol BCE.PR.N and will start trading at the opening of the market on March 31, 2016.

Assiduous Readers will remember that BCE.PR.M will reset to 2.764%, while the FloatingReset issue, BCE.PR.N, will pay 3-Month T-Bills + 209bp, reset quarterly. I recommended against conversion.

It took two attempts, but The Bank of Nova Scotia has announced:

that it has completed the domestic public offering of Non-cumulative 5-Year Rate Reset Preferred Shares Series 36 (Non-Viability Contingent Capital (NVCC)) (the “Preferred Shares Series 36”).

Scotiabank sold 20 million Preferred Shares Series 36 at a price of $25.00 per share and holders will be entitled to receive a non-cumulative quarterly fixed dividend for the initial period ending July 25, 2021 yielding 5.50% per annum, as and when declared by the Board of Directors of Scotiabank. The gross proceeds of the offering were $500 million.

The offering was made through a syndicate of underwriters led by Scotia Capital Inc. The Preferred Shares Series 36 commenced trading on the Toronto Stock Exchange today under the symbol BNS.PR.G.

On July 26, 2021 and on July 26 every five years thereafter, Scotiabank may, at its option, with the prior approval of the Superintendent of Financial Institutions (Canada), redeem all or any number of the then outstanding Preferred Shares Series 36 at a redemption price which is equal to par. Thereafter, the dividend rate will reset every five years at a rate equal to 4.72% over the 5-year Government of Canada bond yield. Holders of Preferred Shares Series 36 will, subject to certain conditions, have the right to convert all or any part of their shares to Non-cumulative Floating Rate Preferred Shares Series 37 (Non-Viability Contingent Capital (NVCC)) (the “Preferred Shares Series 37”) of Scotiabank on July 26, 2021 and on July 26 every five years thereafter.

Holders of the Preferred Shares Series 37 will be entitled to receive a non-cumulative quarterly floating dividend at a rate equal to the 3-month Government of Canada Treasury Bill yield plus 4.72%, as and when declared by the Board of Directors of Scotiabank. Holders of Preferred Shares Series 37 will, subject to certain conditions, have the right to convert all or any part of their shares to Preferred Shares Series 36 on July 26, 2026 and on July 26 every five years thereafter.

On their first attempt they had the symbol, given at the end of the third paragraph, as “[NTD]”. The second attempt was labelled an “Update” because “Correction” would imply that the Holy Bank had made a mistake, which is of course impossible.

BNS.PR.G is a FixedReset, 5.50%+472, announced 2016-3-3. It will be tracked by HIMIPref™ and is assigned to the FixedReset subindex.

The issue traded 955,584 shares today in a range of 25.20-29 before closing at 25.26-28, 98×49. Vital Statistics are:

Implied Volatility analysis is not very useful for the BNS series, but when performed anyway yields the following chart:

Click for Big

The reason this analysis is not particularly useful is that the five lower-spread issues are NVCC Non-Compliant while the two higher-spread issues are compliant (the new issue is one of these). So there are really two separate series, with not enough data to examine the compliant issues only.

However, this new issue appears to be quite cheap relative to BNS.PR.E, which is a FixedReset, 5.50%+451, that commenced trading 2016-12-17 after being announced 2015-12-8. At today’s closing bid of 25.60, BNS.PR.E has an Expected Future Current Yield (EFCY) of 5.17%, compared to 5.44% for the new issue at its bid of 25.26. So the 21bp of extra spread are resulting in an expected EFCY pick-up of 27bp compared to a normally expected (as of the February PrefLetter, Table FR-11, Charts FR-31 and FR-58) pick-up of 2-8bp.

To make the EFCY pick-up for the new issue equal to 5bp – to strike a happy medium – its price would have to be about 26.35 (given a price of 25.60 for BNS.PR.E) so I suspect we’ll see a certain amount of price adjustment between the two issues!

Regrettably, BNS does not have any NVCC-compliant Straight Perpetuals trading, so it is impossible to compute Break Even Rate Shock.

DBRS has announced that it;

has today downgraded the rating on the Preferred Securities issued by Brookfield Soundvest Split Trust (the Trust) to Pfd-5 from Pfd-4 (low).
…
Since the last rating confirmation of the Preferred Securities at Pfd-4 (low) on March 31, 2015, the NAV of the Trust has been gradually decreasing as a consequence of declining prices of the underlying shares in the Portfolio. As of March 4, 2016, the downside protection available to the Preferred Securities is 6.6%, a change of 13.8% compared to the previous year’s 20.4% recorded on March 24, 2015. Based on the yield on the Portfolio as of March 4, 2016, the Preferred Securities distribution coverage ratio is approximately 0.5 times. The insufficient amount of Portfolio dividends to cover Preferred Security distributions is projected to create an average annual grind on the Portfolio of approximately 3.2% in the next four years.

Considering the current downside protection of 6.6%, which is subject to volatility in the value of the Portfolio and the amount of grind present on the Portfolio, DBRS has downgraded the rating on the Preferred Securities issued by Brookfield Soundvest Split Trust to Pfd-5.

BSD.PR.A was last mentioned on PrefBlog when the term was extended in March, 2015. The manager has been severely criticized on PrefBlog for suspending redemptions during the Credit Crunch and requiring notice of retraction exercise before the right to retract even existed.

It will be recalled that TA.PR.D will reset to 2.709% effective March 31.

Holders of TA.PR.D have the option to convert to FloatingResets, which will pay 3-month bills plus 203bp on the par value of $25.00. The deadline for notifying the company of the intent to convert is 5:00 p.m. (EST) on March 16, 2016; but note that this is a company deadline and that brokers will generally set their deadlines a day or two in advance, so there’s not much time to lose if you’re planning to convert! However, if you miss the brokerage deadline they’ll probably do it on a ‘best efforts’ basis if you grovel in a sufficiently entertaining fashion. The ticker for the new FloatingReset is not yet known.

The most logical way to analyze the question of whether or not to convert is through the theory of Preferred Pairs, for which a calculator is available. Briefly, a Strong Pair is defined as a pair of securities that can be interconverted in the future (e.g., PWF.PR.P and the FloatingReset that will exist if enough holders convert). Since they will be interconvertible on this future date, it may be assumed that they will be priced identically on this date (if they aren’t then holders will simply convert en masse to the higher-priced issue). And since they will be priced identically on a given date in the future, any current difference in price must be offset by expectations of an equal and opposite value of dividends to be received in the interim. And since the dividend rate on one element of the pair is both fixed and known, the implied average rate of the other, floating rate, instrument can be determined. Finally, we say, we may compare these average rates and take a view regarding the actual future course of that rate relative to the implied rate, which will provide us with guidance on which element of the pair is likely to outperform the other until the next interconversion date, at which time the process will be repeated.

We can show the break-even rates for each FixedReset / FloatingReset Strong Pair graphically by plotting the implied average 3-month bill rate against the next Exchange Date (which is the date to which the average will be calculated).

Click for Big

The market appears to have a distaste at the moment for floating rate product; almost all of the implied rates until the next interconversion are lower than the current 3-month bill rate and the averages for investment-grade and junk issues are both well below zero, at -0.79% and -0.73%, respectively! Whatever might be the result of the next few Bank of Canada overnight rate decisions, I suggest that it is unlikely that the average rate over the next five years will be lower than current – but if you disagree, of course, you may interpret the data any way you like.

Since credit quality of each element of the pair is equal to the other element, it should not make any difference whether the pair examined is investment-grade or junk, although we might expect greater variation of implied rates between junk issues on grounds of lower liquidity, and this is just what we see.

If we plug in the current bid price of the TA.PR.D FixedReset, we may construct the following table showing consistent prices for its soon-to-be-issued FloatingReset counterpart given a variety of Implied Breakeven yields consistent with issues currently trading:

Based on current market conditions, I suggest that the FloatingResets that will result from conversion are likely to be cheap and trading below the price of their FixedReset counterparts. Therefore, I recommend that holders of TA.PR.D continue to hold the issue and not to convert. I will note that, given the apparent cheapness of the FloatingResets, it may be a good trade to swap the FixedReset for the FloatingReset in the market once both elements of each pair are trading and you can – presumably, according to this analysis – do it with a reasonably good take-out in price, rather than doing it through the company on a 1:1 basis. But that, of course, will depend on the prices at that time and your forecast for the future path of policy rates. There are no guarantees – my recommendation is based on the assumption that current market conditions with respect to the pairs will continue until the FloatingResets commence trading and that the relative pricing of the two new pairs will reflect these conditions.

Note as well that conversion rights are dependent upon at least one million shares of each series being outstanding after giving effect to holders’ instructions; e.g., if only 100,000 shares of TA.PR.D are tendered for conversion, then no conversions will be allowed; but if only 100,000 shares of TA.PR.D will remain after the rest are all tendered, then conversion will be mandatory. However, this is relatively rare: all 39 Strong Pairs currently extant have some version of this condition and all but four have both series outstanding.

It will be recalled that RON.PR.A will reset to 3.324% effective March 31. It will also be recalled that Lowe’s is offering $20/share for RON.PR.A under a Plan of Arrangement.

This post will deal only with the question of whether to convert or hold RON.PR.A in the event that the vote on the Plan of Arrangement fails. A formal recommendation regarding which way to vote will be made closer to the deadline for voting; but such is the way of the world that a decision regarding conversion must be made before the vote on the Plan. So holders must agonize over their conversion choice, while being aware that there is a strong possibility the question will become moot!

Holders of RON.PR.A have the option to convert to FloatingResets, which will pay 3-month bills plus 265bp on the par value of $25.00. The deadline for notifying the company of the intent to convert is 5:00 p.m. (EST) on March 16, 2016; but note that this is a company deadline and that brokers will generally set their deadlines a day or two in advance, so there’s not much time to lose if you’re planning to convert! However, if you miss the brokerage deadline they’ll probably do it on a ‘best efforts’ basis if you grovel in a sufficiently entertaining fashion. The ticker for the new FloatingReset is not yet known.

The most logical way to analyze the question of whether or not to convert is through the theory of Preferred Pairs, for which a calculator is available. Briefly, a Strong Pair is defined as a pair of securities that can be interconverted in the future (e.g., PWF.PR.P and the FloatingReset that will exist if enough holders convert). Since they will be interconvertible on this future date, it may be assumed that they will be priced identically on this date (if they aren’t then holders will simply convert en masse to the higher-priced issue). And since they will be priced identically on a given date in the future, any current difference in price must be offset by expectations of an equal and opposite value of dividends to be received in the interim. And since the dividend rate on one element of the pair is both fixed and known, the implied average rate of the other, floating rate, instrument can be determined. Finally, we say, we may compare these average rates and take a view regarding the actual future course of that rate relative to the implied rate, which will provide us with guidance on which element of the pair is likely to outperform the other until the next interconversion date, at which time the process will be repeated.

We can show the break-even rates for each FixedReset / FloatingReset Strong Pair graphically by plotting the implied average 3-month bill rate against the next Exchange Date (which is the date to which the average will be calculated).

Click for Big

The market appears to have a distaste at the moment for floating rate product; almost all of the implied rates until the next interconversion are lower than the current 3-month bill rate and the averages for investment-grade and junk issues are both well below zero, at -0.79% and -0.73%, respectively! Whatever might be the result of the next few Bank of Canada overnight rate decisions, I suggest that it is unlikely that the average rate over the next five years will be lower than current – but if you disagree, of course, you may interpret the data any way you like.

Since credit quality of each element of the pair is equal to the other element, it should not make any difference whether the pair examined is investment-grade or junk, although we might expect greater variation of implied rates between junk issues on grounds of lower liquidity, and this is just what we see.

If we plug in the current bid price of the RON.PR.A FixedReset, we may construct the following table showing consistent prices for its soon-to-be-issued FloatingReset counterpart given a variety of Implied Breakeven yields consistent with issues currently trading:

Note that the above table is highly suspect, as it does not take into account the various permutations of the voting on the Plan of Arrangement, which will not be known until long after the deadline to indicate a desire to convert.

• If the common votes in favour, then
  • If the preferreds vote in favour, then the preferreds will all be purchased by Lowe’s at $20, regardless of conversion status.
  • If the preferreds vote against, then the RON.PR.A will remain outstanding and probably trade in the $16-$18 range, with the FloatingResets, if extant, probably somewhat lower than that.
• If the common votes against, then the vote by preferred shareholders will be irrelevant, RON.PR.A will remain outstanding and probably trade in the $11-$13 range, with the FloatingResets, if extant, probably somewhat lower than that.

Based on current market conditions, I suggest that the FloatingResets that will result from conversion are likely to be cheap and trading below the price of their FixedReset counterparts. Therefore, I recommend that holders of RON.PR.A continue to hold the issue and not to convert. I will note that, given the apparent cheapness of the FloatingResets, it may be a good trade to swap the FixedReset for the FloatingReset in the market once both elements of each pair are trading and you can – presumably, according to this analysis – do it with a reasonably good take-out in price, rather than doing it through the company on a 1:1 basis. But that, of course, will depend on the prices at that time and your forecast for the future path of policy rates. There are no guarantees – my recommendation is based on the assumption that current market conditions with respect to the pairs will continue until the FloatingResets commence trading and that the relative pricing of the two new pairs will reflect these conditions.

Note as well that conversion rights are dependent upon at least one million shares of each series being outstanding after giving effect to holders’ instructions; e.g., if only 100,000 shares of RON.PR.A are tendered for conversion, then no conversions will be allowed; but if only 100,000 shares of RON.PR.A will remain after the rest are all tendered, then conversion will be mandatory. However, this is relatively rare: all 39 Strong Pairs currently extant have some version of this condition and all but four have both series outstanding.

It will be recalled that BCE.PR.M will reset to 2.764% effective March 31.

Holders of BCE.PR.M have the option to convert to FloatingResets, which will pay 3-month bills plus 209bp on the par value of $25.00. The deadline for notifying the company of the intent to convert is 5:00 p.m. (EST) on March 16, 2016; but note that this is a company deadline and that brokers will generally set their deadlines a day or two in advance, so there’s not much time to lose if you’re planning to convert! However, if you miss the brokerage deadline they’ll probably do it on a ‘best efforts’ basis if you grovel in a sufficiently entertaining fashion. The ticker for the new FloatingReset is not yet known.

The most logical way to analyze the question of whether or not to convert is through the theory of Preferred Pairs, for which a calculator is available. Briefly, a Strong Pair is defined as a pair of securities that can be interconverted in the future (e.g., PWF.PR.P and the FloatingReset that will exist if enough holders convert). Since they will be interconvertible on this future date, it may be assumed that they will be priced identically on this date (if they aren’t then holders will simply convert en masse to the higher-priced issue). And since they will be priced identically on a given date in the future, any current difference in price must be offset by expectations of an equal and opposite value of dividends to be received in the interim. And since the dividend rate on one element of the pair is both fixed and known, the implied average rate of the other, floating rate, instrument can be determined. Finally, we say, we may compare these average rates and take a view regarding the actual future course of that rate relative to the implied rate, which will provide us with guidance on which element of the pair is likely to outperform the other until the next interconversion date, at which time the process will be repeated.

We can show the break-even rates for each FixedReset / FloatingReset Strong Pair graphically by plotting the implied average 3-month bill rate against the next Exchange Date (which is the date to which the average will be calculated).

Click for Big

The market appears to have a distaste at the moment for floating rate product; almost all of the implied rates until the next interconversion are lower than the current 3-month bill rate and the averages for investment-grade and junk issues are both well below zero, at -0.79% and -0.73%, respectively! Whatever might be the result of the next few Bank of Canada overnight rate decisions, I suggest that it is unlikely that the average rate over the next five years will be lower than current – but if you disagree, of course, you may interpret the data any way you like.

Since credit quality of each element of the pair is equal to the other element, it should not make any difference whether the pair examined is investment-grade or junk, although we might expect greater variation of implied rates between junk issues on grounds of lower liquidity, and this is just what we see.

If we plug in the current bid price of the BCE.PR.M FixedReset, we may construct the following table showing consistent prices for its soon-to-be-issued FloatingReset counterpart given a variety of Implied Breakeven yields consistent with issues currently trading:

Based on current market conditions, I suggest that the FloatingResets that will result from conversion are likely to be cheap and trading below the price of their FixedReset counterparts. Therefore, I recommend that holders of BCE.PR.M continue to hold the issue and not to convert. I will note that, given the apparent cheapness of the FloatingResets, it may be a good trade to swap the FixedReset for the FloatingReset in the market once both elements of each pair are trading and you can – presumably, according to this analysis – do it with a reasonably good take-out in price, rather than doing it through the company on a 1:1 basis. But that, of course, will depend on the prices at that time and your forecast for the future path of policy rates. There are no guarantees – my recommendation is based on the assumption that current market conditions with respect to the pairs will continue until the FloatingResets commence trading and that the relative pricing of the two new pairs will reflect these conditions.

Note as well that conversion rights are dependent upon at least one million shares of each series being outstanding after giving effect to holders’ instructions; e.g., if only 100,000 shares of BCE.PR.M are tendered for conversion, then no conversions will be allowed; but if only 100,000 shares of BCE.PR.M will remain after the rest are all tendered, then conversion will be mandatory. However, this is relatively rare: all 39 Strong Pairs currently extant have some version of this condition and all but four have both series outstanding.

It will be recalled that FN.PR.A will reset to 2.79% effective April 1.

Holders of FN.PR.A have the option to convert to FloatingResets, which will pay 3-month bills plus 207bp on the par value of $25.00. The deadline for notifying the company of the intent to convert is 5:00 p.m. (EST) on March 16, 2016; but note that this is a company deadline and that brokers will generally set their deadlines a day or two in advance, so there’s not much time to lose if you’re planning to convert! However, if you miss the brokerage deadline they’ll probably do it on a ‘best efforts’ basis if you grovel in a sufficiently entertaining fashion. The ticker for the new FloatingReset is not yet known.

The most logical way to analyze the question of whether or not to convert is through the theory of Preferred Pairs, for which a calculator is available. Briefly, a Strong Pair is defined as a pair of securities that can be interconverted in the future (e.g., PWF.PR.P and the FloatingReset that will exist if enough holders convert). Since they will be interconvertible on this future date, it may be assumed that they will be priced identically on this date (if they aren’t then holders will simply convert en masse to the higher-priced issue). And since they will be priced identically on a given date in the future, any current difference in price must be offset by expectations of an equal and opposite value of dividends to be received in the interim. And since the dividend rate on one element of the pair is both fixed and known, the implied average rate of the other, floating rate, instrument can be determined. Finally, we say, we may compare these average rates and take a view regarding the actual future course of that rate relative to the implied rate, which will provide us with guidance on which element of the pair is likely to outperform the other until the next interconversion date, at which time the process will be repeated.

We can show the break-even rates for each FixedReset / FloatingReset Strong Pair graphically by plotting the implied average 3-month bill rate against the next Exchange Date (which is the date to which the average will be calculated).

Click for Big

The market appears to have a distaste at the moment for floating rate product; almost all of the implied rates until the next interconversion are lower than the current 3-month bill rate and the averages for investment-grade and junk issues are both well below zero, at -0.79% and -0.73%, respectively! Whatever might be the result of the next few Bank of Canada overnight rate decisions, I suggest that it is unlikely that the average rate over the next five years will be lower than current – but if you disagree, of course, you may interpret the data any way you like.

Since credit quality of each element of the pair is equal to the other element, it should not make any difference whether the pair examined is investment-grade or junk, although we might expect greater variation of implied rates between junk issues on grounds of lower liquidity, and this is just what we see.

If we plug in the current bid price of the FN.PR.A FixedReset, we may construct the following table showing consistent prices for its soon-to-be-issued FloatingReset counterpart given a variety of Implied Breakeven yields consistent with issues currently trading:

Based on current market conditions, I suggest that the FloatingResets that will result from conversion are likely to be cheap and trading below the price of their FixedReset counterparts. Therefore, I recommend that holders of FN.PR.A continue to hold the issue and not to convert. I will note that, given the apparent cheapness of the FloatingResets, it may be a good trade to swap the FixedReset for the FloatingReset in the market once both elements of each pair are trading and you can – presumably, according to this analysis – do it with a reasonably good take-out in price, rather than doing it through the company on a 1:1 basis. But that, of course, will depend on the prices at that time and your forecast for the future path of policy rates. There are no guarantees – my recommendation is based on the assumption that current market conditions with respect to the pairs will continue until the FloatingResets commence trading and that the relative pricing of the two new pairs will reflect these conditions.

Note as well that conversion rights are dependent upon at least one million shares of each series being outstanding after giving effect to holders’ instructions; e.g., if only 100,000 shares of FN.PR.A are tendered for conversion, then no conversions will be allowed; but if only 100,000 shares of FN.PR.A will remain after the rest are all tendered, then conversion will be mandatory. However, this is relatively rare: all 39 Strong Pairs currently extant have some version of this condition and all but four have both series outstanding.