Category: Issue Comments

Sun Life Financial has announced:

that it has completed the sale of its domestic U.S. annuity business and certain life insurance businesses to Delaware Life Holdings, LLC, which was announced last December.

Updated information regarding the financial impact of the sale and Sun Life Financial’s 2015 financial objectives will be included in the Company’s second quarter financial disclosure, which is scheduled to be released after markets close on Wednesday, August 7, 2013.

“The completion of this transformational transaction significantly reduces Sun Life Financial’s risk profile and earnings volatility,” said Dean Connor, President and CEO. “Our U.S. operations are now focused on our successful employee benefits business and our voluntary benefits business, which have achieved substantial growth during the past two years. We are also continuing to support growth in MFS Investment Management, our highly successful U.S.-based asset manager, which has more than US$350 billion of assets under management globally.”

“We are pleased to transfer this business to a buyer who is committed to customers and the approximately 500 outstanding employees who will continue to support them,” he said.

The transaction includes the sale of 100% of the shares of Sun Life Assurance Company of Canada (U.S.), which includes Sun Life Financial’s domestic U.S. variable annuity, fixed annuity and fixed index annuity products, corporate and bank-owned life insurance products and variable life insurance products.

DBRS comments:

There are no rating implications as DBRS’s ratings of Sun Life already incorporate the completion of this sale.

This continues a trend in the US insurance business:

Investment firms are pursuing annuity deals to add assets, betting they can manage the funds more skillfully. Philip Falcone’s publicly traded Harbinger Group Inc. (HRG), which bought a life and annuity business in 2011, and Apollo Global Management LLC (APO)’s Athene arm, which agreed in December to buy Aviva Plc (AV/)’s U.S. life and annuity unit, were also being reviewed by Lawsky’s office, a person with knowledge of the matter said in May.

Guggenheim Partners, run by Chief Executive Officer Mark Walter, has expanded from a family office with a handful of employees into a $180 billion global asset manager through deals including the acquisitions of Claymore Group and Rydex ETF owner Security Benefit Corp.

Walter, who shot to prominence as the man behind the $2 billion purchase of the Los Angeles Dodgers, has hired investing veterans including Henry Silverman, the former chief operating officer of Apollo, to advise on expansion.

The DFS honcho highlighted the trend in April:

If you look at the deals completed or announced to date, private equity-controlled insurers now account for nearly 30 percent of the indexed annuity market (up from 7 percent a year ago) and 15 percent of the total fixed annuity market (up from 4 percent a year ago).
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There can be exceptions, but generally private equity firms follow a model of aggressive risk-taking and high leverage, typically making high-risk investments. If just a few of these investments work out, then the firm can be very successful – and the failed ventures are just viewed as a cost of doing business.

This type of business model isn’t necessarily a natural fit for the insurance business, where a failure can put policyholders at sigifnicant risk.

Private equity firms typically manage their investments with a much shorter time horizon — for example, 3-5 years — than is typically required for prudent insurance company management. They may not be long term players in the insurance industry and their short-term focus may result in an incentive to increase investment risk and leverage in order to boost short-term returns.

Now, at DFS, we regulate both banks and insurance companies. And the differences between these two industries are quite striking when it comes to private equity investments.

Private equity firms rarely acquire control of banks, not because they are prohibited from doing so, but because the regulatory requirements associated with such acquisitions are more stringent than a private equity firm may like. These regulatory requirements in the banking industry are designed – in part – to encourage a long-term outlook, and ensure that the person controlling the company has real skin in the game.

The long term nature of the life insurance business raises similar issues, yet under current regulations it is less burdensome for a private equity firm to acquire an insurer than a bank.

We need to ask ourselves whether we need to modernize our regulations to deal with this emerging trend to protect retirees and to protect the financial system.

Approval from the New York Department of Financial Services did not come without a price:

The key heightened policyholder protections to which Guggenheim agreed include:

• Heightened Capital Standards. Guggenheim will maintain Sun Life New York’s Risk-Based Capital Levels (RBC Levels) at an amount not less than 450 percent. (Capital serves as a buffer that insurers use to absorb unexpected losses and financial shocks – better protecting policyholders.)
• Backstop Trust Account. Guggenheim will establish a separate backstop trust account totaling $200 million to provide additional protections to policyholders above and beyond the heightened capital levels. If Sun Life New York’s RBC levels fall below 450 percent, the funds in the backstop trust account will be used to replenish (“top up”) Sun Life New York’s RBC levels to at least 450 percent. The $200 million in the trust account will be held separately from other Sun Life New York funds for at least seven years and dedicated to the sole purpose of protecting policyholders.
• Enhanced Regulatory Scrutiny of Operations, Dividends, Investments, Reinsurance. Any material changes to Guggenheim’s plans of operations of Sun Life New York, including investments, dividends, or reinsurance transactions will require the prior written approval of DFS.
• Stronger Disclosure and Transparency Requirements. Sun Life New York will file quarterly RBC level reports to DFS – rather than just the annual reports required under New York Insurance Law. Additionally, the insurer will disclose to DFS necessary information concerning corporate structures, control persons, and other information regarding the operations of the company.

450% is a huge level of RBC compared to the standard:

There are five outcomes to the RBC calculation which are determined by comparing a company’s Total Adjusted Capital to its Authorized Control Level Risk-Based Capital. The level of required risk-based capital is calculated and reported annually. Depending upon the level of the reported risk-based capital, a number of remedial actions, if necessary, are available as
follows:

• 1. No action: Total Adjusted Capital of 200% or more of Authorized Control Level results in “no action.”
• …

Sun Life’s 2012 Annual Report states:

Our principal operating life insurance subsidiary in the United States, Sun Life (U.S.) is part of our Discontinued Operations. Sun Life U.S. is subject to the risk-based capital (“RBC”) rules issued by the National Association of Insurance Commissioners, which measures the ratio of the company’s total adjusted capital to the minimum capital required by the RBC formula. The RBC formula for life insurance companies measures exposures to investment risk, insurance risk, interest rate risk and other market risks and general business risk. A company’s RBC is normally expressed in terms of the CAL. If a life insurance company’s total adjusted capital is less than or equal to the CAL (100% of CAL or less), a comprehensive financial plan must be submitted to its state regulator. Sun Life (U.S.) has established an internal target range for its RBC ratio of 300% to 400% of the CAL.

I am not opposed in principle to higher capital requirements for companies that have less skin in the game than a regular insurer (in which all the sales profits will disappear if the investment side blows up) … but 450% plus a trust-fund buffer? One wonders how the DFS arrived at that figure.

SLF has the following preferred shares outstanding: SLF.PR.A, SLF.PR.B, SLF.PR.C, SLF.PR.D and SLF.PR.E (DeemedRetractible) and SLF.PR.F, SLF.PR.G, SLF.PR.H and SLF.PR.I (FixedReset). All are tracked by HIMIPref™ and assigned to their respective indices.

Standard & Poor’s has announced:

• We are removing our ratings on Loblaw Cos. Ltd., George Weston Ltd. (GWL), and Choice Properties Real Estate Investment Trust from CreditWatch, where they were placed with negative implications July 16, 2013.
• At the same time, we are affirming our ‘BBB’ ratings on all three companies. GWL and Choice Properties are Loblaw’s parent and subsidiary, respectively.
• We are also keeping our ratings on Shoppers Drug Mart Corp. on CreditWatch with negative implications (where they were placed July 16), as we expect to equalize our ‘BBB+’ rating on Shoppers with our ‘BBB’ rating on Loblaw upon completion of Loblaw’s acquisition of Shoppers and remove Shoppers from CreditWatch.
• The stable outlook on Loblaw and its parent and subsidiary reflects our expectation that stronger profitability from synergies and debt reduction from free cash flow should enable the company to lower its leverage to about 3x in the next two years, which we view as consistent with the ‘BBB’ rating.

On Aug. 2, 2013, Standard & Poor’s Ratings Services removed its ratings on Loblaw Cos. Ltd., George Weston Ltd. (GWL), and Choice Properties Real Estate Investment Trust from CreditWatch, where they were placed with negative implications July 16, 2013. At the same time, Standard & Poor’s affirmed its ‘BBB’ ratings on all three companies. GWL and Choice Properties REIT are Loblaw’s parent and subsidiary, respectively. The outlook on all three companies is stable.

At the same time, Standard & Poor’s kept its ratings on Shoppers Drug Mart Corp. on CreditWatch with negative implications (where they were placed July 16), as we expect to equalize our ‘BBB+’ rating on Shoppers with our ‘BBB’ rating on Loblaw upon completion of Loblaw’s acquisition of Shoppers and remove Shoppers from CreditWatch. Should alternative acquisition proposals emerge, we would reassess all our ratings after considering each company’s response.
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Giving effect to the acquisition, Loblaw’s financial risk profile weakens somewhat, with leverage that is very high for the rating and is exposed to earnings risk amid the Shoppers integration, reduced cash flow protection because of higher debt service, and adequate liquidity to support a heavy debt repayment schedule. We estimate that Loblaw’s pro forma fully adjusted debt to EBITDA will be 3.8x at closing, which is consistent with the ‘BB’ median for industrials, but we expect this would improve gradually to about 3.5x in 2014 and approach 3.0x in 2015.
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We could lower the ratings if leverage remains above 3.5x with poor prospects for improvement, which we expect could occur if intense competition or integration disruptions stagnate revenues and margin improvements, or if unexpected increases in restructuring costs or capital expenditures reduce cash flow for debt reduction.

The placement of these companies on Watch Negative was reported on PrefBlog.

Loblaws has a single preferred share issue outstanding, L.PR.A, an OperatingRetractible.

Weston has four preferred share issues outstanding, WN.PR.A, WN.PR.C, WN.PR.D and WN.PR.E, all Straight Perpetuals.

TD.PR.T, the FloatingReset part of the TD.PR.S / TD.PR.T Strong Pair, commenced trading today and closed at a very impressive 25.47-55, 33×2, after trading 9,400 shares in a range of 25.50-65.

This compares with TD.PR.S, the FixedReset, closing at 24.60-74, 70×1, after trading 2,223 shares in a range of 24.53-73.

According to the “Quick Method” of the updated Pair Equivalency Calculator, this implies that the break-even 3-Month Bill rate is 2.59%.

Vital statistics are:

Both issues are tracked by HIMIPref™ and both are assigned to the FixedReset subindex; TD.PR.T will be assigned to a new FloatingReset index as soon as enough of these issues are outstanding to make such and index meaningful. As announced by TD Bank and reported on PrefBlog, slightly more TD.PR.S shares are outstanding.

Standard & Poor’s has announced:

• Following a review under our revised insurance criteria, we are affirming our ratings on Fairfax and its core subsidiaries.
• The ratings predominantly reflect our view of the group’s strong business and financial risk profiles, based on its strong competitive position and very strong capital and earnings.
• We have revised our outlook to stable from positive based on our view that Fairfax will gradually improve its underwriting results and fixed-charge coverage metrics but not enough to warrant an upgrade in the near term.

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We assess Fairfax’s capital and earnings as very strong, which we expect to continue in our base-case economic scenario despite the current low interest rates. Its capital adequacy according to our proprietary capital model is currently at the lower end of the ‘AA’ category, which is somewhat lower than historically mainly because of the reduction in interest rates used to discount loss reserves. The group’s exposure to natural peril and man-made catastrophes and uncertainty related to its substantial casualty reserves (both ongoing and runoff) translate into a moderate risk position score, partially offsetting its very strong capital adequacy. Shareholders’ equity (including preferred shares) totaled $8.9 billion as of year-end 2012, up from $8.4 billion as of year-end 2011. We expect Fairfax to maintain its capital adequacy at an ‘AA’ level.
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We regard Fairfax’s risk position as moderate. The group has minimal exposure to employee benefit liabilities. Although its exposure to high risk assets is at 70% of total adjusted capital, Fairfax carries substantial cash and liquid fixed-income securities to counterbalance the volatility of equities. About 75% of the portfolio is invested in cash and fixed-income securities with a weighted average rating of ‘A+’. But we are concerned about potential capital and earnings volatility due to its exposure to property catastrophe losses, its willingness to take significant concentrated investment positions to achieve above-average returns, and its asbestos and environmental exposure.

The now obsolete Positive Outlook was reported on PrefBlog when it came into effect …. nearly two years ago!

Fairfax has the following preferreds outstanding: FFH.PR.C, FFH.PR.E, FFH.PR.G, FFH.PR.I AND FFH.PR.K. All are FixedResets; all are relegated to the Scraps index on credit concerns.

Artis Real Estate Investment Trust has announced:

that it has closed its previously announced public offering (the “Financing”) of Cumulative Rate Reset Preferred Trust Units, Series G (the “Series G Units”) on a bought deal basis through a syndicate of underwriters led by RBC Capital Markets and CIBC (the “Underwriters”). Artis issued and sold an aggregate of 3,200,000 Series G Units (inclusive of 200,000 Series G Units issued pursuant to the partial exercise of the Underwriters’ option) at a price of $25.00 per Series G Unit for gross proceeds to Artis of $80,000,000.

DBRS Limited assigned a rating of Pfd-3 (low) to the Series G Units.

Artis intends to use the net proceeds from the Financing to repay indebtedness, fund future acquisitions, and for general trust purposes.

AX.PR.G is a FixedReset, 5.00%+313, announced July 18. Note that it is not strictly a “preferred share”, it is a trust unit, and that it pays interest and return of capital (see comments), not dividends. The issue will be tracked by HIMIPref™ but relegated to the Scraps index on credit concerns.

The DBRS rating of Pfd-3(low) is now official. As was the case with Friday’s closing of PPL.PR.A, I don’t believe the price decline has anything to do with the specifics of the issue, or should be taken as an indication that the underwriters got it wrong … it’s just a crummy environment right now for low-quality FixedResets.

AX.PR.G traded 219,520 shares today in a range of 24.24-70 before closing at 24.66-69, 18×50. Vital statistics are:

The Bank of Montreal has announced (although not yet on their website):

the applicable dividend rates for its Non-Cumulative 5-Year Rate Reset Class B Preferred Shares, Series 16 (the “Preferred Shares Series 16”) and Non-Cumulative Floating Rate Class B Preferred Shares, Series 17 (the “Preferred Shares Series 17”).

With respect to any Preferred Shares Series 16 that remain outstanding after August 26, 2013, commencing as of such date, holders thereof will be entitled to receive fixed rate non-cumulative preferential cash dividends on a quarterly basis, as and when declared by the Board of Directors of the Bank and subject to the provisions of the Bank Act (Canada). The dividend rate for the five-year period commencing on August 26, 2013, and ending on August 25, 2018, will be 3.390%, being equal to the sum of the five-year Government of Canada bond yield as at July 29, 2013, plus 1.65%, as determined in accordance with the terms of the Preferred Shares Series 16.

With respect to any Preferred Shares Series 17 that may be issued on August 26, 2013, holders thereof will be entitled to receive floating rate non-cumulative preferential cash dividends on a quarterly basis, calculated on the basis of actual number of days elapsed in each quarterly floating rate period divided by 365, as and when declared by the Board of Directors of the Bank and subject to the provisions of the Bank Act (Canada). The dividend rate for the three-month period commencing on August 26, 2013, and ending on November 25, 2013, will be 2.669%, being equal to the sum of the three-month Government of Canada Treasury bill yield as at July 29, 2013, plus 1.65%, as determined in accordance with the terms of the Preferred Shares Series 17.

Beneficial owners of Preferred Shares Series 16 who wish to exercise their right of conversion should communicate as soon as possible with their broker or other nominee and ensure that they follow their instructions in order to ensure that they meet the deadline to exercise such right, which is 5:00 p.m. (EDT) on August 12, 2013.

Conversion inquiries should be directed to BMO’s Registrar and Transfer Agent, Computershare Trust Company of Canada, at 1-800-340-5021.

BMO’s intent to allow the issue to reset was reported on PrefBlog.

I recommend holders of BMO.PR.M (series 16) convert to the FloatingReset (series 17).

This recommendation is based on several factors:

• The two series will be interconvertible again in five years, thus they will have identical values in five years (even if they do not have an identical price!)
• Therefore, any difference in value must be due to the dividends paid in the interim.
• For the amounts paid to be equal, three-month T-Bills must average 1.74% throughout the period, 75bp above their current level. This implies that the ending three-month rate for break-even is about 2.50% (assuming rate hikes are evenly spaced). This is not an unreasonable projection.
• In addition, the FloatingReset offers some insurance against short-term government rates skyrocketting, a scenario which I consider to be of low probability, but of higher probability of short-term rates diving.
• The market loves FloatingResets and I expect the new series to trade above the old one.

The last point deserves a bit more explanation: the FixedReset BNS.PR.P is bid today at 24.59, while the FloatingReset BNS.PR.A (the only FloatingReset currently trading) is bid at 26.12. Given an interconversion date of 2018-4-26 and a fixed yield of 3.35% on BNS.PR.P, it is trivial to calculate that the average required coupon on BNS.PR.A must be 4.85% for break-even. Given the Issue Reset Spread of 205bp, this implies that the break-even three-month bill rate is 2.80%, which is very, very high compared to the current rate of 1.00%. Assuming equal spacing of hikes, this means and end-rate of 4.60%; readers may take their own views on the likelihood of that.

If we set the price of the FixedReset BMO.PR.M at 25.00 and perform a similar calculation, we find that in order for the break-even three-month bill rate to be 2.80%, the price of the new FloatingReset will have to be 26.15.

So, according to me conversion is recommended. Note that the above analysis ignores the fact that FloatingResets are callable at any time at 25.50, a risk that does not apply to the FixedResets. I do not consider this to have a material effect on the analysis, but views may differ.

I have updated the Pair Equivalency Calculator to include data for the three FixedReset / FloatingReset strong pairs currently outstanding or announced.

Pembina Pipeline Corporation has announced:

that it has closed its previously announced public offering of 10,000,000 cumulative redeemable rate reset class A preferred shares, series 1 (the “Series 1 Preferred Shares”) at a price of $25.00 per Series 1 Preferred Share (the “Offering”) for aggregate gross proceeds of $250 million. This includes the previously announced underwriters’ option to purchase an additional 2,000,000 Series 1 Preferred Shares at a price of $25.00 per share, which was exercised in full.

The Offering was first announced on July 17, 2013 when Pembina entered into an agreement with a syndicate of underwriters led by RBC Capital Markets and Scotiabank.

Proceeds from the offering will be used to partially fund capital projects, to reduce short-term indebtedness and for other general corporate purposes of the Company and its affiliates.

The Series 1 Preferred Shares will begin trading on the Toronto Stock Exchange today under the symbol PPL.PR.A.

PPL.PR.A is a FixedReset, 4.25%+247, announced July 17.

The issue will be tracked by HIMIPref™ but relegated to the Scraps index on credit concerns.

PPL.PR.A traded 207,284 shares today in a wide range of 24.27-73 before closing at 24.61-64, 10×1. I don’t think there’s anything particularly wrong with this issue, or the underwriters’ pricing: it simply got caught up in a very weak market for junk FixedResets.

Vital statistics are:

TD Bank has announced:

that 4,612,509 of its 10 million Non-Cumulative 5-Year Rate Reset Preferred Shares, Series S (the “Series S Shares”) will be converted on July 31, 2013, on a one-for-one basis, into Non-Cumulative Floating Rate Preferred Shares, Series T (the “Series T Shares”) of TD. As a result, on July 31, 2013, TD will have 5,387,491 Series S Shares and 4,612,509 Series T Shares issued and outstanding. The Series S Shares and the Series T Shares will be listed on the Toronto Stock Exchange under the symbols TD.PR.S and TD.PR.T, respectively.

TD.PR.S will reset at 3.371%. I had recommended conversion into the FloatingResets.

The Bank of Montreal has announced:

that it does not intend to exercise its right to redeem the currently outstanding Non-Cumulative 5-Year Rate Reset Class B Preferred Shares, Series 16 of the Bank (the “Preferred Shares Series 16”) on August 25, 2013 and, as a result, subject to certain conditions, the holders of Preferred Shares Series 16 have the right, at their option, to convert all or part of their Preferred Shares Series 16 on a one-for-one basis into Non-Cumulative Floating Rate Class B Preferred Shares, Series 17 of the Bank (the “Preferred Shares Series 17”) on August 26, 2013. This date is the first business day following the conversion date of August 25, 2013, identified in the Preferred Shares Series 16 prospectus, which falls on a Sunday. Holders who do not exercise their right to convert their Preferred Shares Series 16 into Preferred Shares Series 17 on such date will retain their Preferred Shares Series 16, unless automatically converted in accordance with the conditions below.

The foregoing conversions are subject to the conditions that: (i) if, after August 12, 2013, the Bank determines that there would be less than 1,000,000 Preferred Shares Series 16 outstanding on August 26, 2013, then all remaining Preferred Shares Series 16 will automatically be converted into an equal number of Preferred Shares Series 17 on August 26, 2013, and (ii) alternatively, if the Bank determines that there would be less than 1,000,000 Preferred Shares Series 17 outstanding on August 26, 2013, no Preferred Shares Series 16 will be converted into Preferred Shares Series 17. In either case, the Bank will give written notice to that effect to any registered holders of Preferred Shares Series 16 affected by the preceding minimums on or before August 19, 2013.

The dividend rate applicable to the Preferred Shares Series 16 for the 5-year period commencing on August 26, 2013, and ending on August 25, 2018, and the dividend rate applicable to the Preferred Shares Series 17 for the 3-month period commencing on August 26, 2013, and ending on November 25, 2013, will be determined and announced by way of a news release on July 29, 2013. The Bank will also give written notice of these dividend rates to the registered holders of Preferred Shares Series 16.

Beneficial owners of Preferred Shares Series 16 who wish to exercise their right of conversion should instruct their broker or other nominee to exercise such right before 5:00 p.m. (EDT) on August 12, 2013.

Conversion inquiries should be directed to BMO’s Registrar and Transfer Agent, Computershare Trust Company of Canada, at 1-800-340-5021.

BMO.PR.M is a FixedReset, 5.20%+165, announced June 12, 2008 which settled June 23, 2008.

Fortis Inc. has announced:

that it has closed its public offering (the “Offering”) of Cumulative Redeemable Fixed Rate Reset First Preference Shares, Series K (“Series K First Preference Shares”) underwritten by a syndicate of underwriters led by TD Securities Inc., CIBC World Markets Inc. and Scotia Capital Inc. Fortis issued 10,000,000 Series K First Preference Shares at a price of $25.00 per share for aggregate gross proceeds to the Corporation of $250,000,000.

The net proceeds of the offering will be used to repay a portion of borrowings under the Corporation’s $1 billion committed corporate credit facility, including amounts borrowed in connection with the redemption of the Corporation’s First Preference Shares, Series C, the construction of the Waneta Expansion and equity injections into certain of the Corporation’s subsidiaries, and for general corporate purposes.

The Series K First Preference Shares were offered by way of prospectus supplement under the short form base shelf prospectus of Fortis dated May 10, 2012 and will commence trading today on the Toronto Stock Exchange under the symbol FTS.PR.K.

The Board of Directors of Fortis has declared a dividend of $0.1233 per share on the Series K First Preference Shares, payable on September 1, 2013 to the holders of record at the close of business on August 16, 2013. Fortis has designated the preference share dividend as an eligible dividend for federal and provincial dividend tax credit purposes.

FTS.PR.K is a FixedReset, 4.00%+205, announced July 9.

The issue will be tracked by HIMIPref™ and assigned to the FixedReset subindex.

FTS.PR.K traded 334,167 shares today in a range of 24.90-15 before closing at 25.03-10, 8×10. Vital statistics are: