Category: Publications

In this essay I began by briefly reviewing the previous month’s effort, Resarch : April, 2010, FixedReset Slump:

In the appendix to the May, 2010, edition, we looked at the behaviour of FixedResets during their Slump Period from 2010-3-26 to 2010-4-29 and concluded that issues of this type are trading on the basis of Current Yield – that is, the current dividend divided by the price. There appears to be an adjustment to valuation based on the total expected capital loss.

This is despite the fact that this is a completely insane methodology. It ignores:

• • The rate (total/time) of the expected capital loss should the issue be called (virtually a certainty for most extant FixedResets)
• • The change in dividend should the issue not be called and the dividend reset for the ensuing five years to the defined spread about Canadas
• • The proximity of the ex-Dividend Date

This led to a fair bit of high-school algebra that derived a closed-form approximation to the yield of a perpetual preferred share with a constant dividend rate to perpetuity; as well as an approximation for the yield of a maturing instrument.

A missing part of the theory was derived in May, 2011, using the First Exponential Approximation, and that derivation is appended to the linked document.

Look for the research link!

Prices of FixedResets slumped in April, 2010, but the market didn’t really have a rational valuation model at that time. Changes in valuation differences between issues were difficult to understand.

In this 2010 essay I attempted to determine just what the market was considering to be important.

Look for the research link!

Annuities arouse strong emotions in many investors. Some despise them, others won’t consider anything else – and, I’ve noticed, few of these antagonists are able to back up their views with hard data and logical argument. In many cases, it seems that many investors will strongly deprecate Straight Preferred shares, while expressing adoration for annuities simply because the price of Straights is so volatile … ignoring the fact that the price of annuities is also extremely volatile, but since it is not reported honestly to the purchaser nobody notices. It’s a lot like GICs!

In this 2010 essay (which builds upon the PrefBlog post Preferred Shares & Annuities) I looked at annuities as a component of a retirement portfolio and concluded in part:

They are a lousy investment, but they are great insurance!

There is a follow-up article available via Annuities, Part 2.

Look for the research link!

Tax effects are an important consideration in preferred share investing, but there are nuances that sometimes snare the unwary into making bad decisions. If one takes the view that a particular issue is likely to be called at the next opportunity, for instance, one may then calculate the yield in the usual manner – but the income received will be heterogeneous, comprised of a dividend stream punctuated by a capital loss. Taxes on the dividend income (which will be higher than ‘normal’) will be paid in the year following receipt, while the offsetting tax benefit on the capital loss will be realized only in the year following redemption – and even then, will not be claimable until the investor has an offsetting capital gain. Another issue is the effect of the dividend stream on the OAS clawback, which is also discussed.

While I have little patience for the tax-obsessed naifs who are willing to spend a dollar on worry, market action and missed opportunities in order to save a quarter on taxes, these effects should be understood; there has been a brief discussion of tax effects on PrefBlog and a calculator is available; but this essay is a more detailed exposition.

Look for the research link!

Preferred Shares may be classified as interconvertible if each element of the pair may be converted into the other element on a specified date (or dates) in the future at the holder’s option – always (I think!) with some restriction to ensure that each element must meet a minimum size requirement before it is allowed to exist. Examples are FixedFloater/RatchetRate preferreds and FixedReset/FloatingReset preferreds.

This future interconversion implies the prices of the two elements (assuming that both are trading) should be related in a logical way, with the difference in price narrowing as the next interconversion date draws nearer.

This concept has been discussed many times on PrefBlog, with other versions of this concept published via Preferred Pairs and Pairs Equivalency Calculator. There is also a Part 2 of this essay, published in May, 2012.

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A ‘naive hedge fund’ will simply buy what has gone down and sell what has gone up, as discussed in the post What Happened to the Quants in August 2007?. How would such a strategy work in the Canadian preferred share market?

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Alternative Trading Systems (ATS) became important toward the end of the twenty-aughts. In this 2009 essay, I looked at the implications for the preferred share market, with particular notes regarding Pegged and Contingent orders.

This essay includes an appended correction of a silly mistake in the original paper, which was published in November, 2010.

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A look at market timing, with notes on correlation analysis and default risk. This essay borrows heavily from the PrefBlog post Market Timing?.

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An early look at passive preferred share funds and the differences in their composition; includes an illustration of the perils of using correlation blindly!

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In the early days of FixedReset trading, investors would blithely trade FixedResets as if they were guaranteed to be called on their first Exchange Date.

I tried to warn them!

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