PrefBlog

Partners Value Split Corp. has announced (although not yet on their website):

the completion of its previously announced issue of 6,000,000 Class AA Preferred Shares, Series 9 (the “Series 9 Preferred Shares”) at an offering price of $25.00 per Series 9 Preferred Share, raising gross proceeds of $150,000,000. The Series 9 Preferred Shares carry quarterly fixed cumulative preferential dividends representing a 4.90% annualized yield on the offering price and have a final maturity of February 28, 2026. The Series 9 Preferred Shares have been listed and posted for trading on the Toronto Stock Exchange under the symbol PVS.PR.G. The net proceeds of the offering will be used to redeem the Company’s outstanding Class AA Preferred Shares, Series 3 (the “Series 3 Preferred Shares”) on January 10, 2019 in accordance with the terms of the Series 3 Preferred Shares.

Prior to the closing of the offering, the Company subdivided the existing capital shares held by Partners Value Investments Inc. so that there are an equal number of preferred shares and capital shares outstanding.

The Company owns a portfolio consisting of 79,740,966 Class A Limited Voting Shares of Brookfield Asset Management Inc. (the “Brookfield Shares”) which is expected to yield quarterly dividends that are sufficient to fund quarterly fixed cumulative preferential dividends for the holders of the Company’s preferred shares and to enable the holders of the Company’s capital shares to participate in any capital appreciation of the Brookfield Shares.

PVS.PR.G is a Split Share, 7-year, 4.90% issue announced November 15. It will be tracked by HIMIPref™ and has been assigned to the SplitShare subindex.

DBRS rates the issue Pfd-2(low):

DBRS Limited (DBRS) finalized the provisional rating of Pfd-2 (low) on the Class AA Preferred Shares, Series 9 (the Series 9 Preferred Shares) issued by Partners Value Split Corp. (the Company) and confirmed the ratings of the previously issued Class AA Preferred Shares, Series 3 (the Series 3 Preferred Shares); Class AA Preferred Shares, Series 6 (the Series 6 Preferred Shares); Class AA Preferred Shares, Series 7 (the Series 7 Preferred Shares) and Class AA Preferred Shares, Series 8 (the Series 8 Preferred Shares; collectively, the Class AA Preferred Shares) at Pfd-2 (low).

Holders of the Series 9 Preferred Shares will be entitled to receive a quarterly, fixed, cumulative dividend in the amount of $0.30625 per share to yield 4.90% per annum on the issue price of $25. The Series 9 Preferred Shares rank on a pari passu basis with all other Class AA Preferred Shares. The maturity date for the new series is February 28, 2026.
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Following the redemption of the Series 3 Preferred Shares, the downside protection available to the Class AA Preferred Shares is expected to be approximately 85% (based on the closing price of the BAM Shares as of October 29, 2018) and the dividend coverage ratio is expected to be above 2.0 times (x; based on the Canadian dollar and U.S. dollar exchange rate as of October 29, 2018).
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The main constraints to the ratings are the following:

(1) The downside protection available to holders of the Class AA Preferred Shares depends solely on the market value of the BAM Shares held in the Portfolio, which will fluctuate over time.

(2) There is a lack of diversification, as the Portfolio is entirely made up of BAM Shares.

(3) Changes in the dividend policy of BAM may result in reductions in Class AA Preferred Shares dividend coverage.

(4) As BAM declares dividends in U.S. dollars, the Company is exposed to foreign currency risk relating to the Canadian-U.S. exchange rate, specifically the appreciation of the Canadian dollar versus the U.S. dollar. This may have a negative impact on the dividend coverage ratio of the Class AA Preferred Shares, as these dividends are paid in Canadian dollars.

(5) Downside protection available to the Class AA Preferred Shares may be negatively affected by the retraction of the Junior Preferred Shares.

I am surprised that they did not also list the credit quality of BAM itself as being a constraint on the rating.

The issue traded 217,100 shares today in a range of 24.50-90 before closing at 24.70-74. The performance appears horrible, but it should be noted that the close comparator PVS.PR.F closed at 25.10-20 on the November 15 announcement day and at 24.47-74 today. Vital statistics for PVS.PR.G are:

Enbridge Inc. has announced (on November 1):

that it does not intend to exercise its right to redeem its currently outstanding Cumulative Redeemable Preference Shares, Series N (Series N Shares) (TSX: ENB.PR.N) on December 1, 2018. As a result, subject to certain conditions, the holders of the Series N Shares have the right to convert all or part of their Series N Shares on a one-for-one basis into Cumulative Redeemable Preference Shares, Series O of Enbridge (Series O Shares) on December 1, 2018. Holders who do not exercise their right to convert their Series N Shares into Series O Shares will retain their Series N Shares.

The foregoing conversion right is subject to the conditions that: (i) if Enbridge determines that there would be less than 1,000,000 Series N Shares outstanding after December 1, 2018, then all remaining Series N Shares will automatically be converted into Series O Shares on a one-for-one basis on December 1, 2018; and (ii) alternatively, if Enbridge determines that there would be less than 1,000,000 Series O Shares outstanding after December 1, 2018, no Series N Shares will be converted into Series O Shares. There are currently 18,000,000 Series N Shares outstanding.

With respect to any Series N Shares that remain outstanding after December 1, 2018, holders thereof will be entitled to receive quarterly fixed cumulative preferential cash dividends, as and when declared by the Board of Directors of Enbridge. The new annual dividend rate applicable to the Series N Shares for the five-year period commencing on December 1, 2018 to, but excluding, December 1, 2023 will be 5.086 percent, being equal to the five-year Government of Canada bond yield of 2.436 percent determined as of today plus 2.65 percent in accordance with the terms of the Series N Shares.

With respect to any Series O Shares that may be issued on December 1, 2018, holders thereof will be entitled to receive quarterly floating rate cumulative preferential cash dividends, as and when declared by the Board of Directors of Enbridge. The dividend rate applicable to the Series O Shares for the three-month floating rate period commencing on December 1, 2018 to, but excluding, March 1, 2019 will be 1.08 percent, based on the annual rate on three month Government of Canada treasury bills for the most recent treasury bills auction of 1.73 percent plus 2.65 percent in accordance with the terms of the Series O Shares (the Floating Quarterly Dividend Rate). The Floating Quarterly Dividend Rate will be reset every quarter.

Beneficial holders of Series N Shares who wish to exercise their right of conversion during the conversion period, which runs from November 1, 2018 until 5:00 p.m. (EST) on November 16, 2018, should communicate as soon as possible with their broker or other intermediary for more information. It is recommended that this be done well in advance of the deadline in order to provide the broker or other intermediary time to complete the necessary steps. Any notices received after this deadline will not be valid.

ENB.PR.N is a FixedReset, 4.00%+265, that commenced trading 2012-7-17 after being announced 2012-7-9. It is tracked by HIMIPref™ and assigned to the “Scraps – FixedResets (Discount)” subindex, relegated there due to credit concerns.

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., ENB.PR.N 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 be becoming interested in floating rate product; the implied rates until the next interconversion are above the current 3-month bill rate as the averages for investment-grade and junk issues are at +1.96% and +1.78%, 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 ENB.PR.N FixedReset, we may construct the following table showing consistent prices for its soon-may-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, ENB.PR.N. Therefore, it seems likely that I will recommend that holders of ENB.PR.N continue to hold the issue and not to convert, but I will wait until it’s closer to the November 16 notification deadline before making a final pronouncement. I will note that once the FloatingResets commence trading (if, in fact, they do) 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 path of policy rates over the next five years. 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.

Royal Bank of Canada has announced (on November 2):

it has closed its domestic public offering of Non-Cumulative, 5-Year Rate Reset Preferred Shares Series BO. Royal Bank of Canada issued 14 million Preferred Shares Series BO at a price of $25.00 per share to raise gross proceeds of $350 million.

The offering was underwritten by a syndicate led by RBC Capital Markets. The Preferred Shares Series BO will commence trading on the Toronto Stock Exchange today under the ticker symbol RY.PR.S.

The Preferred Shares Series BO were issued under a prospectus supplement dated October 29, 2018 to the bank’s short form base shelf prospectus dated January 30, 2018.

RY.PR.S is a FixedReset, 4.80+238, announced 2018-10-25. It will be tracked by HIMIPref™ and has been assigned to the Fixed-Resets (Discount) subindex.

RY.PR.S traded 747,100 shares on its November 2 opening date in a range of 24.50-75 before closing at 24.70-75. Vital statistics (on November 2) were:

Given that the FixedReset (Discount) index to which it is assigned lost 2.51% between the October 25 announcement date and the November 2 closing date, the 24.70 bid is actually pretty good!

The new issue is so ridiculously expensive that we don’t even need fancy-pants Implied Volatility Analysis to prove it, but here’s the chart anyway:

Click for Big

According to this analysis, the fair value of the new issue on November 5 is 22.61, down $1.16 from the October 26 estimate of 23.77.

But, as I say, we don’t need this – even though the issue is, amusingly, trading more in line with NVCC non-compliant issues than the compliant ones. Let’s look at RY.PR.H, a FixedReset, 3.90%+226, that commenced trading 2014-6-3 after being announced 2014-5-23. This issue resets 2019-8-24, which is only three dividends away. The total dividend difference between RY.PR.H and RY.PR.S until then is therefore (4.80% – 3.90%) * 25 * 3/4 = $0.17. So for a reasonable comparison, take the actual November 5 bid of 22.20 for RY.PR.H and add seventeen cents to it to reflect the dividend difference. RY.PR.H has a projected dividend of (GOC5 + IRS) * 25 = (2.44% + 2.26%) * 25 = 4.70% * 25 = 1.175 p.a., which, at a notional price of 22.37, gives us an Expected Future Current Yield of 5.25%.

At the current bid of 24.69 and an expected future dividend of 1.205, RY.PR.S has an Expected Future Current Yield of 4.88%. Need I say more?

The ludicrously high figure of Implied Volatility is something I take to mean that the underlying assumption of the Black-Scholes model, that of no directionality of prices, is not accepted by the market; the market seems to be taking the view that since things seem rosy now, they will always be rosy and everything will trade near par in the future.

I balk at ascribing a 100% probability to the ‘all issues will be called, or at least exhibit price stability’ hypothesis. There may still be a few old geezers amongst the Assiduous Readers of this blog who can still (faintly) remember the Great Bear Market of 2014-16, in which quite a few similar assumptions made earlier turned out to be slightly inaccurate. The extra cushion implied by an Issue Reset Spread that is well over the market spread is worth something, even if nothing gets called. Or, to put it another way, one can buy a whole lot of downside protection for very little extra money, relative to this issue.