April 7, 2010

Think we’ve got it tough in the Canadian preferred share market? Be grateful you’re not holding Greek bonds!

U.S. and European stocks fell, led by commodity producers as oil and copper dropped, while the premium investors demand to hold Greek bonds widened to the most since 1998 on speculation the nation may default.

Greece’s 10-year bond yields rose 0.16 percentage point to 7.14 percent and the yield premium to German debt widened to 4.03 percentage points, the most since before the euro was introduced in 1999.

How bad is it? CDSs on Greece are now trading above terrorist levels:

Swaps tied to Greece rose to 415 basis points today while those on Iceland traded at about 400 basis points, according to Markit data. The North American Markit index climbed the most since March 22 amid investor concern that contagion from a Greece default could spread to other assets, said Gavan Nolan, an analyst at Markit Group in London.

Remember Jim Kelsoe, proud portfolio manager of the worst bond fund in the history of the universe (so far)? He was last mentioned on PrefBlog on May 9, 2008. Now the SEC is alleging that his fund returns were, in fact, overstated:

The SEC’s Division of Enforcement alleges that Morgan Keegan failed to employ reasonable procedures to internally price the portfolio securities in five funds managed by Morgan Asset, and consequently did not calculate accurate “net asset values” (NAVs) for the funds. Morgan Keegan recklessly published these inaccurate daily NAVs, and sold shares to investors based on the inflated prices.

“This scheme had two architects — a portfolio manager responsible for lies to investors about the true value of the assets in his funds, and a head of fund accounting who turned a blind eye to the fund’s bogus valuation process,” said Robert Khuzami, Director of the SEC’s Division of Enforcement.

William Hicks, Associate Director in the SEC’s Atlanta Regional Office, said, “This misconduct masked from investors the true impact of the subprime mortgage meltdown on these funds.”

According to the Commission’s order instituting administrative proceedings, the SEC’s Enforcement Division alleges that James C. Kelsoe, Jr., the portfolio manager of the funds and an employee of Morgan Asset and Morgan Keegan, arbitrarily instructed the firm’s Fund Accounting department to make “price adjustments” that increased the fair values of certain portfolio securities. The price adjustments ignored lower values for those same securities quoted by various dealers as part of the pricing validation process. The Enforcement Division further alleges that Kelsoe actively screened and manipulated the pricing quotes obtained from at least one broker-dealer. With many of the funds’ securities backed by subprime mortgages, Kelsoe’s actions fraudulently prevented a reduction in the NAVs of the funds that otherwise should have occurred as a result of the deterioration in the subprime securities market.

Lots of winners and losers on a volatile day of continued heavy volume in which selling pressure on PerpetualDiscounts eased off a bit … they were down only 2bp today which, considering recent returns, is practically a win! It is interesting to speculate that the buying came from switches out of FixedResets, as they were down 16bp on the day to take yields up to 3.74%. FixedResets again scored a shut-out on the volume table.

PerpetualDiscounts now yield 6.30%, equivalent to 8.82% interest at the standard equivalency factor of 1.4x. Long Corporates continue their insouciance towards whatever it is that’s causing the current paroxysm in the preferred share market, having returned +8bp (total return) on the month-to-date and are now yielding about 5.7% (maybe a bit over?). Thus, the pre-tax interest-equivalent spread (also called the Seniority Spread) stands at about 310bp, rocketting upwards from the +285 bp reported March 31 and pushing well over what had been until recently the one-year high in the low 290s.

HIMIPref™ Preferred Indices
These values reflect the December 2008 revision of the HIMIPref™ Indices

Values are provisional and are finalized monthly
Index Mean
Current
Yield
(at bid)
Median
YTW
Median
Average
Trading
Value
Median
Mod Dur
(YTW)
Issues Day’s Perf. Index Value
Ratchet 2.63 % 2.67 % 55,865 20.78 1 -2.4091 % 2,105.2
FixedFloater 4.92 % 3.04 % 48,473 20.10 1 -0.3157 % 3,212.9
Floater 1.91 % 1.66 % 46,075 23.43 4 -0.0605 % 2,421.2
OpRet 4.88 % 3.57 % 107,784 1.11 10 0.0733 % 2,312.2
SplitShare 6.37 % -2.63 % 135,348 0.08 2 -0.1097 % 2,141.8
Interest-Bearing 0.00 % 0.00 % 0 0.00 0 0.0733 % 2,114.3
Perpetual-Premium 5.86 % 3.14 % 33,377 0.64 2 -0.3511 % 1,840.7
Perpetual-Discount 6.26 % 6.30 % 188,334 13.51 76 -0.0210 % 1,700.9
FixedReset 5.44 % 3.74 % 422,758 3.68 43 -0.1569 % 2,182.3
Performance Highlights
Issue Index Change Notes
BAM.PR.E Ratchet -2.41 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2040-04-07
Maturity Price : 21.80
Evaluated at bid price : 21.47
Bid-YTW : 2.67 %
IAG.PR.E Perpetual-Discount -2.08 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2040-04-07
Maturity Price : 23.35
Evaluated at bid price : 23.51
Bid-YTW : 6.43 %
IAG.PR.A Perpetual-Discount -1.89 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2040-04-07
Maturity Price : 18.20
Evaluated at bid price : 18.20
Bid-YTW : 6.38 %
HSB.PR.E FixedReset -1.68 % YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-07-30
Maturity Price : 25.00
Evaluated at bid price : 27.50
Bid-YTW : 4.16 %
HSB.PR.C Perpetual-Discount -1.68 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2040-04-07
Maturity Price : 20.50
Evaluated at bid price : 20.50
Bid-YTW : 6.28 %
PWF.PR.H Perpetual-Discount -1.57 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2040-04-07
Maturity Price : 21.81
Evaluated at bid price : 22.28
Bid-YTW : 6.45 %
HSB.PR.D Perpetual-Discount -1.33 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2040-04-07
Maturity Price : 20.02
Evaluated at bid price : 20.02
Bid-YTW : 6.30 %
GWO.PR.G Perpetual-Discount -1.20 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2040-04-07
Maturity Price : 20.56
Evaluated at bid price : 20.56
Bid-YTW : 6.38 %
CU.PR.A Perpetual-Discount -1.15 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2040-04-07
Maturity Price : 23.73
Evaluated at bid price : 24.03
Bid-YTW : 6.11 %
TRP.PR.A FixedReset -1.13 % YTW SCENARIO
Maturity Type : Call
Maturity Date : 2015-01-30
Maturity Price : 25.00
Evaluated at bid price : 25.31
Bid-YTW : 4.36 %
MFC.PR.C Perpetual-Discount 1.02 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2040-04-07
Maturity Price : 17.90
Evaluated at bid price : 17.90
Bid-YTW : 6.36 %
SLF.PR.E Perpetual-Discount 1.14 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2040-04-07
Maturity Price : 17.71
Evaluated at bid price : 17.71
Bid-YTW : 6.41 %
BAM.PR.R FixedReset 1.34 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2040-04-07
Maturity Price : 23.11
Evaluated at bid price : 25.03
Bid-YTW : 5.13 %
SLF.PR.D Perpetual-Discount 1.45 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2040-04-07
Maturity Price : 17.55
Evaluated at bid price : 17.55
Bid-YTW : 6.40 %
MFC.PR.B Perpetual-Discount 1.59 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2040-04-07
Maturity Price : 18.57
Evaluated at bid price : 18.57
Bid-YTW : 6.33 %
RY.PR.C Perpetual-Discount 1.77 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2040-04-07
Maturity Price : 18.95
Evaluated at bid price : 18.95
Bid-YTW : 6.17 %
SLF.PR.C Perpetual-Discount 1.85 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2040-04-07
Maturity Price : 17.60
Evaluated at bid price : 17.60
Bid-YTW : 6.38 %
CL.PR.B Perpetual-Discount 1.92 % YTW SCENARIO
Maturity Type : Limit Maturity
Maturity Date : 2040-04-07
Maturity Price : 24.09
Evaluated at bid price : 24.40
Bid-YTW : 6.45 %
Volume Highlights
Issue Index Shares
Traded
Notes
TD.PR.S FixedReset 404,505 Nesbitt crossed 400,000 at 25.80. Nice ticket!
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2013-08-30
Maturity Price : 25.00
Evaluated at bid price : 25.76
Bid-YTW : 3.96 %
TD.PR.G FixedReset 216,205 Nesbitt crossed 200,000 at 27.50.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-05-30
Maturity Price : 25.00
Evaluated at bid price : 27.58
Bid-YTW : 3.53 %
TD.PR.K FixedReset 130,956 Nesbitt crossed 100,000 at 27.61.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-08-30
Maturity Price : 25.00
Evaluated at bid price : 27.65
Bid-YTW : 3.56 %
RY.PR.P FixedReset 124,140 RBC bought 25,000 from anonymous at 27.48, then crossed 37,400 at 27.50.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-03-26
Maturity Price : 25.00
Evaluated at bid price : 27.50
Bid-YTW : 3.78 %
TD.PR.I FixedReset 122,598 Nesbitt crossed 100,000 at 27.61.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-08-30
Maturity Price : 25.00
Evaluated at bid price : 27.63
Bid-YTW : 3.58 %
TRP.PR.A FixedReset 120,075 RBC bought 33,300 from anonymous at 25.51; Scotia bought 13,000 from anonymous at 25.50. RBC crossed 28,400 at 25.51.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2015-01-30
Maturity Price : 25.00
Evaluated at bid price : 25.31
Bid-YTW : 4.36 %
SLF.PR.F FixedReset 108,165 RBC bought 15,000 from anonymous at 27.10; RBC crossed two blocks of 30,000 each at 27.20; Desjardins crossed 20,000 at 27.20.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2014-07-30
Maturity Price : 25.00
Evaluated at bid price : 27.17
Bid-YTW : 3.88 %
BMO.PR.P FixedReset 101,068 Scotia crossed blocks of 58,300 and 30,000 at 26.55.
YTW SCENARIO
Maturity Type : Call
Maturity Date : 2015-03-27
Maturity Price : 25.00
Evaluated at bid price : 26.55
Bid-YTW : 4.16 %
There were 69 other index-included issues trading in excess of 10,000 shares.

11 Responses to “April 7, 2010”

  1. mega56 says:

    hello,

    I’m new to preferred shares and I was wondering if you can point me to the general direction for more information. More than a general definition but less than an in depth analysis (here).

    For example, fixedResets are perpetual by nature so does that mean unless the company calls, the funds are locked in indefinitely?

    Thanks

  2. jiHymas says:

    I was wondering if you can point me to the general direction for more information.

    I will immodestly point you toward my own articles, linked on the right hand panel of this blog. The green boxes are are links to various articles I have written on various aspects of the preferred share market and were intended for beginners.

    Also, have a look at the Finiki page on Preferred Shares, the product of Financial WebRing and (if you’re brave!) the Financial Webring Forum.

    fixedResets are perpetual by nature so does that mean unless the company calls, the funds are locked in indefinitely?

    That is exactly what is meant by the term perpetual. One of the green boxes referred to above points to an essay, Perpetual and Retractible Preferred Shares, focussing on just that issue.

  3. mpisni says:

    I know James won’t mention it but the PreLetter is an excellant source of information , analysis and recommendations

  4. mega56 says:

    Hi James,

    I’ve read some of the articles you’ve written (Perpetual and Retractible Preferred Shares, Why Preferred Shares and preferred and GICs). Very informative and answered most of questions I had. Thank you.

    Couple of things that came up that may be in other articles (I’ll continue searching);

    1. Under what circumstances will a company issue a new preferred?

    2. Under what circumstances will a company redeem a preferred share?

    3. Regarding perpetuals and rising interest rates. I’ve read in many places that perpetuals are risky during a phase where rates are rising, stay away. When I’m looking at the numbers, I don’t see it.

    Example: CM.PR.E currently sits at 22.43 @$1.40
    a. if it gets called (worst), you’ve got a nice gain @25.00
    b. if price drops with rising rates, you still get the dividend

    I’m missing the downside here

    thank you!

  5. jiHymas says:

    Under what circumstances will a company issue a new preferred?

    Banks and insurers will issue prefs to boost their Tier 1 Capital (see http://www.prefblog.com/?cat=24&s=tier. Utilities and other players seek to improve their debt ratios.

    Under what circumstances will a company redeem a preferred share?

    Usually when the market changes to the point where they can refinance at a cheaper rate.

    I’m missing the downside here

    If you have to sell when it’s down, you feel very sad. That’s why prefs should be part of a fixed income portfolio, not the whole thing. I recommend that prefs be no more than 50% of a diversified fixed income portfolio.

    Also, a declining price can be (but usually isn’t) a sign of deteriorating credit quality. Nortel and Quebecor World defaulted and pref holders got nothing.

    Also, remember that inflation is the great enemy of long term debt. If inflation should suddenly and permanently increase to – say – 6%, PD holders will be very sad.

    But you’ve got the right idea. See Shut Up and Clip Your Coupons!

  6. mega56 says:

    The Shut Up and Clip Your Coupons! article was excellent. One should be ‘ok’ if they went with a bank perpetual? At least from credit risk.

    Regarding the following statement:
    Usually when the market changes to the point where they can refinance at a cheaper rate.

    I’m noticing that most the fixedResets are trading above par value, wouldn’t this be an ideal situation for calling?

    I’m looking at the YTW on the the fixedResets and comparing those with bond yields (example below), the latter would be the better choice if one had to purchase today. Even more so if it was in a TFSA or RRSP. This wouldn’t be the case if one bought the fixedResets last year however.

    Short Description: ReOpening of Provincial Bonds
    Maturity: December 18, 2019
    Coupon: 4.10 % per annum
    Accrued interest of approximately $13.03 (per $1,000 face value) will be added.
    Price: $98.619 CDN per $100 par value.
    Yield to Maturity: 4.27% semi-annual ; 4.32% annual
    Settlement: April 13, 2010.

    thanks again

  7. jiHymas says:

    I’m noticing that most the fixedResets are trading above par value, wouldn’t this be an ideal situation for calling?

    I can’t remember whether I’ve said so on PrefBlog, but certainly in PrefLetter I’ve pointed out that the issuer’s decision to call will be based on the reset spread, rather than the yield as calculated today.

    Say, for instance, we had a FixedReset issued with a 10% initial fixed rate, with a reset spread of +50bp This will have a very high yield to call, but a low probability of being called, and the YTW will be based (almost certainly) on the yield assuming a reset to about 3.1% and existence to perpetuity.

    The curious case of BAM.PR.R was discussed in the last PrefLetter.

  8. like_to_retire says:

    It’s not often I need to google two words in one sentence, but you scored a winner in todays blog James.

    Paroxysm and insouciance are doozies for sure.

    ltr

  9. mega56 says:

    thanks James,

    It’ll take me a while to digest that last paragraph!

    I’ll take advantage of the PrefLetter after learning the basics (may take a while)

  10. […] interest-equivalent spread is now about 295bp, down substantially from the peak of 310bp reported April 7 though still wider than the 285bp reported at […]

  11. […] of the worst bond fund in the history of the universe (so far), was last mentioned on PrefBlog on April 7, 2010. Now he’s been barred from the industry: According to the SEC’s order, through his actions […]

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