PrefBlog

Now I’ve seen it all.

CM.PR.A closed today at 26.65-80 after trading 3,142 shares in a range of 26.80-85.

According to the prospectus dated 2001-1-17:

The non-cumulative class A preferred shares Series 23 (the “Series 23 Shares”) of Canadian Imperial Bank of Commerce (“CIBC”) will be entitled to non-cumulative preferential cash dividends, payable quarterly, as and when declared by the Board of Directors of CIBC. Quarterly dividends shall be payable at a rate of $0.33125 per share.
…
on and after October 31, 2007, CIBC may redeem the Series 23 Shares in whole or in part by the payment in cash of a sum equal to the issue price per share plus, if redeemed before October 31, 2010, a premium, together with declared and unpaid dividends to the date fixed for redemption.
…
On and after July 31, 2011, subject to the right of CIBC on two days’ notice prior to the conversion date to redeem for cash or to find substitute purchasers, each Series 23 Share will be convertible at the option of the holder on the last business day of January, April, July and October in each year on 30 days’ notice into that number of freely-tradeable Common Shares determined by dividing $25.00 together with declared and unpaid dividends to the date of conversion, by the greater of $2.00 and 95% of the weighted average trading price of the Common Shares.

OK, is everybody clear on this? It’s important. The retraction date is 2011-7-31; it may therefore be assumed that the shares will be called at par 2011-7-30. So here’s the standard reasoning:

• If retracted by the holders, the holders will receive common shares worth $26.04
• Therefore, they will exercise their retraction privilege if the preferreds are trading at less than $26.04
• The shares will only trade above $26.04 on the retraction date if the coupon is significantly higher than market yields at that time
• If the coupon is significantly higher than the market yield, it will be in CM’s interest to call the issue.
• It is in CM’s interest to avoid retraction, since they would much rather sell $26.04 worth of common for $26.04 rather than taking $25 face value of preferreds for it.
• Therefore, it may be assumed that CM will call the issue – at the latest! – on the day prior to the holders getting the retraction privilege

It is possible to find fault with this logic – it’s not a mathematical theorum, for heaven’s sake – but the probability of a call at $25.00 is so overwhelmingly likely that any deviation from the scenario should be considered a bonus.

It should be noted that the very existence of this issue should be considered a bonus. Assiduous Reader adrian2 won a PrefLetter some time ago when I had a contest about the analysis of issues with a negative yield-to-worst. The explanation referred to ACO.PR.A, but it can be applied to anything.

Since CM.PR.A is currently callable at 25.25, it is clear that the market isn’t too worried about an immediate call and expects CM to hang on to the money for as long as possible.

But here’s the curious part – the cash flow analysis to the presumed maturity 2011-7-30:

2010-05-01 DIVIDEND 0.33 0.998579 0.33
2010-08-01 DIVIDEND 0.33 0.997453 0.33
2010-11-01 DIVIDEND 0.33 0.996328 0.33
2011-02-01 DIVIDEND 0.33 0.995205 0.33
2011-05-01 DIVIDEND 0.33 0.994120 0.33
2011-07-30 FINAL DIVIDEND 0.33 0.993023 0.32
2011-07-30 MATURITY 25.00 0.993023 24.83

There are only six more dividends payable prior to the presumed maturity at $25.00 and each dividend is for $0.33125 (rounded to 0.33 in the table above). Hence, the total cash flow expected from this issue is 26.9875 – not much higher than today’s prices.

In fact, when you perform a yield calculation for this issue, the yield until the 2011-7-30 softMaturity is 0.45%.

Let me repeat that:0.45%. And that’s the maximum. If it’s called earlier – like, for instance, 2010-10-31, the first day they can call at par – then the realized yield from today’s price will be less than this figure.

According to Canadian Bond Indices the 1.25% Canada bonds due June 1, 2011 are yielding 0.98%.

Now I’ve seen it all.

Update: Assiduous Reader BC writes in and says:

I periodically read the prefletter website and very much enjoy it. It is very useful and informative.

I have bought CM.PR.A although not above $26. In your Jan 6th posting you say CM ‘would much rather sell $26.04 worth of common for $26.04 rather than take $25 face value of the preferreds for it”

Before i bought i analyzed this risk and i think a factor your analysis might not take into account is that if CM goes to the market to sell common even if it is internally via CIBC WM they sill will pay commissions. Thus to me the analysis is not a straight $26.04 versus $25 but the $26.04 less their costs of issuance versus the $25.

With interest rates unlikely to go lower [ if that were even possible ] they might let the preferreds stay out there.

I think that at least makes the analysis more interesting. What do you think?

With respect to this specific situation, I will say that the annual dividend on this issue is $1.325, representing 5.3% of issue price – so this isn’t cheap money for them! I suggest that the only thing that has kept the issue alive so far is their desire to save the 25 cents per year in declining redemption price and that they will be overjoyed to redeem it on November 1 following their year-end.

More generally, the question of issuance costs is important – they are used in HIMIPref™ to adjust the probability of redemption calls in general. However, a 5% discount to market value is kind of steep, which is why it was set to 5% in the first place! Even accounting for issue costs, it is still cheaper for them to call CM.PR.A and issue something else.

But I would say the strongest argument against holding them is simply the fact that you have to indulge in these fancy analytics to justify the holding in the first place. There’s a fair bit of downside risk to these things that you need to minimize with arguments such as the above – there are less risky ways of making the same money.

Look at it from the holder’s perspective: after October 31, the call price finally drops to par and after 2011-7-31 it’s convertible to cheap common. Say it’s continuing to trade at $26.50. A holder has three choices:

• Convert to common
• Sell on the market
• Hold

If he holds, he is risking a call at $25 at any time; lots of risk. Converting to common and locking in at least some of the premium is much more likely. Either way, the price of $26.50 is hard to justify.

This entry was posted on Wednesday, January 6th, 2010 at 1:31 am and is filed under Issue Comments. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.