PrefBlog

Malachite Aggressive Preferred Fund’s Net Asset Value per Unit as of the close March 28, 2024, was $9.5892 after a distribution of 0.116383.

Performance was affected by MFC.PR.B underperforming with a +0.10% return, FTS.PR.M with a +2.32% return (following last month’ underperformance) and CU.PR.C underperforming with a +2.46% return (following last month’s underperformance). This was outweighed by good performance from TD.PF.C (+10.23%, the fifth straight month of outperformance), NA.PR.W (+8.81%, following last month’s outperformance) and RY.PR.J (following last month’s outperformance) [small holdings are not considered for individual mention here].

The last few months have been very good to preferred shareholders, following the lows of the TXPR price index on 2023-10-31, but yields remain elevated well above those available on instruments with similar risk; for instance, Brookfield Renewable Partners L.P. recently noted they are refinancing BEP.PR.O on the “green perpetual subordinated notes” market at 70bp under the presumed reset rate of BEP.PR.O.

FixedResets continue to yield more, in general, than PerpetualDiscounts although the spread has narrowed considerably in the past month; on March 28, I reported median YTWs of 6.89% and 6.57%, respectively, for these two indices; compare with mean Current Yields of 5.31% and 6.41%, respectively. RY.PR.J, to take a representative example, is calculated by HIMIPref™ as having a yield-to-worst of 6.87% at monthend (Current Yield of 3.59%); bid at 22.30, resetting 2025-5-24 at a spread of 274bp over GOC-5 (assumed to be constant at 3.55%) and currently paying 0.80 p.a. (3.20% annually). The next pay-date is 2024-5-24; it is trading cum-dividend.

If we plug the above data into the yield calculator for resets (which is discussed here and has recently been slightly modified), we arrive at a annualized (compounded semi-annually) yield of 6.83% for RY.PR.J . To take this 4bp (the difference between the spreadsheets and HIMIPref™) below the PerpetualDiscount index median YTW of 6.57% (to account for the calculation methodological differences), which is to say 6.53%, requires the assumption that GOC-5 will be 3.25% forever, as opposed the ‘constant rate’ assumption of 3.55%. Well … pays yer money and takes yer chances, gents! Assiduous Readers with long memories will liken this to all the calculations of Break-even Rate Shock when the puzzle represented the same problem with a different sign! Note that even if the unfavourable scenario of GOC-5 = 3.25% is realized, this has only reduced the yield of RY.PR.J to that of the median adjusted PerpetualDiscount yield of 6.57%, which isn’t the worst outcome one might fear from one’s investments!

The five-year Canada yield was steady, with the five-year Canada yield (“GOC-5”) falling slightly from 3.61% at February month-end to 3.55% at March month-end.

The Seniority Spread (between long-term corporate bonds and interest-equivalent PerpetualDiscounts) was 355bp on 2024-3-27, narrowing slightly (and perhaps spuriously) from 360bp on 2024-2-21 (chart end-date 2024-3-8) :

The situation with FixedResets is interesting, with the spread between GOC-5 and the interest-adjusted FixedReset (Discount) rate widening significantly from its 2021-11-10 low of 344bp to a level of 631bp (as of 2024-2-28) … (chart end-date 2024-02-9):

…while at the same time the interest-equivalent spread between FixedReset (Discounts) and PerpetualDiscounts has narrowed to -40bp (as of 2024-2-28) from its 2021-7-28 level of +170bp (chart end-date 2024-03-08):

There is no significant correlation between the Issue Reset Spread and 1-month performance for discounted FixedResets for either the Pfd-2 or Pfd-3 Group issues.

There is no significant correlation between the Issue Reset Spread and 3-month performance for discounted FixedResets for either the Pfd-2 or Pfd-3 Group issues.

There is no correlation for either the Pfd-2 Group or the Pfd-3 Group for 1-Month performance against term-to-reset:

… and much the same applies for three-month returns vs. Term to Reset, but a reasonable correlation (23%) exists for the Pfd-2 Group:

It should be noted that to some extent a dependence (of performance on term-to-reset) can be justified as the nearer-term issues will receive the benefit of higher projected dividend rates sooner as a result of higher GOC-5 yields and therefore, perhaps, for longer. Equations for the relationship between correlation slope and change in GOC-5 were derived in the August 2022 PrefLetter. In this case, however, I ascribe the apparent correlation between term to reset and performance for Pfd-2 issues over three months to be due to the influence of bank issues; bank issues with a short term to reset have done very well recently due to a perception of a relatively high chance of redemption in the near future as financing is now available very cheaply in other markets.

Upwards-sloping correlations of Performance vs. Term are to be expected when GOC-5 declines.

I keep talking about ‘Sustainable Income’ and nowadays it’s far higher than the dividends that are currently being distributed. This is because Sustainable Income is the average yield-to-worst (YTW) of the portfolio when the YTW is calculated to perpetuity (or to redemption, of course, if the yield to redemption is lower), including resets at the current GOC-5 rate. The sharp increase in GOC-5 in the past year-odd has caused the difference between YTW and Current Yield to skyrocket, but one way or another I expect that these two values will become much closer – slowly at first, but quickening in about two years. We have to wait for the reset date of the MAPF portfolio securities before we see a change in actual cash receipts – and, of course, there is no guarantee whatsoever that the rate used for estimation purposes now will be used for the actual calculation in the future (chart prepared as of 2024-3-8).

I will note that the fund’s current holdings of FixedResets are now paying dividends based on their previous reset at an average GOC-5 rate of 1.45% (weighted by shares held). While nobody knows what the future might bring, I suggest that we won’t see GOC-5 return to that level again for a while!

These calculations were performed assuming constant contemporary GOC-5 and 3-Month Bill rates, as follows:

Turnover increased slightly to 10% in March.

Sectoral distribution of the MAPF portfolio on March 28, 2024, were:

The “total” reflects the un-leveraged total portfolio (i.e., cash is included in the portfolio calculations and is deemed to have a duration and yield of 0.00.). MAPF will often have relatively large cash balances, both credit and debit, to facilitate trading. Figures presented in the table have been rounded to the indicated precision.

Credit distribution is:

Liquidity Distribution is:

The distribution of Issue Reset Spreads is:

Distribution of Floating Rate Start Dates is shown in the table below. This is the date of the next adjustment to the dividend rate, if the issue is currently paying a fixed rate for a limited time; which in practice is successive terms of 5 years. Issues that adjust quarterly are considered “Currently Floating”.

MAPF is, of course, Malachite Aggressive Preferred Fund, a “unit trust” managed by Hymas Investment Management Inc. Further information and links to performance, audited financials and subscription information are available the fund’s web page. The fund may be purchased directly from Hymas Investment Management. A “unit trust” is like a regular mutual fund, but are not sold with a prospectus This is cheaper, but means subscription is restricted to “accredited investors” (as defined by the Ontario Securities Commission). Fund past performances are not a guarantee of future performance. You can lose money investing in MAPF or any other fund.