PrefBlog

Industrial Alliance Insurance and Financial Services Inc. has announced:

that it does not intend to exercise its right to redeem all or any part of its currently outstanding Non-Cumulative 5-Year Rate Reset Class A Preferred Shares Series G (the “Series G Shares”) (TSX: IAG.PR.G) on June 30, 2017. As a result and subject to certain conditions set out in the short form prospectus dated April 29, 2011 as supplemented by a prospectus supplement dated May 25, 2012 and a prospectus supplement dated June 20, 2012 (collectively, the “Prospectus”) relating to the issuance of the Series G Shares, the holders of the Series G Shares have the right, at their option, to convert all or any of their Series G Shares into Non-Cumulative Floating Rate Class A Preferred Shares Series H of Industrial Alliance (the “Series H Shares”) on June 30, 2017 on a one-for-one basis. Holders of Series G Shares are not required to elect to convert all or any of their Series G Shares into Series H Shares. Holders who do not exercise their right to convert their Series G Shares into Series H Shares on such date will continue to hold their Series G Shares, unless automatically converted in accordance with the terms of the Series G Shares as summarized in the Prospectus and below.

The foregoing conversion right is subject to the conditions that: (i) if Industrial Alliance determines that there would be less than 1,000,000 Series H Shares outstanding after June 30, 2017, then holders of Series G Shares will not be entitled to convert their shares into Series H Shares, and (ii) alternatively, if Industrial Alliance determines that there would remain outstanding less than 1,000,000 Series G Shares after June 30, 2017, then all remaining Series G Shares will automatically be converted into Series H Shares on June 30, 2017 on a one-for-one basis. In either case, Industrial Alliance will give written notice to that effect to the registered holder of Series G Shares on or before June 22, 2017.

With respect to any Series G Shares that remain outstanding after June 30, 2017, holders of the Series G Shares will be entitled to receive fixed non-cumulative preferential cash dividends, as and when declared by the Board of Directors of Industrial Alliance, payable on a quarterly basis and subject to the provisions of An Act respecting Insurance (Québec). The dividend rate for the five-year period from and including June 30, 2017 to but excluding June 30, 2022 will be 3.777% per annum or $0.2360625 per share per quarter, being equal to the five-year Government of Canada bond yield as at May 31, 2017 plus 2.85%, as determined in accordance with the terms of the Series G Shares as summarized in the Prospectus.

With respect to any Series H Shares that may be issued on June 30, 2017, holders of the Series H Shares will be entitled to receive floating rate, non-cumulative, preferential cash dividends, as and when declared by the Board of Directors of Industrial Alliance, payable on a quarterly basis and subject to the provisions of An Act respecting Insurance (Québec). The dividend rate for the floating rate period from and including June 30, 2017 to but excluding September 30, 2017 will be 0.85169% (3.379% on an annualized basis) and the dividend for such period, if and when declared, will be $0.2129225 per share, being equal to the three month Government of Canada Treasury Bill yield plus 2.85% (calculated on the basis of the actual number of days elapsed in such quarterly period divided by 365), as determined in accordance with the terms of the Series H Shares as summarized in the Prospectus.

The Series G Shares are issued in “book entry only” form and all rights of holders of Series G Shares must be exercised through CDS or the CDS participant through which the Series G Shares are held. Beneficial owners of Series G Shares who wish to exercise their conversion right should communicate as soon as possible with their broker or other nominee to obtain instructions for exercising such right on or prior to the deadline for exercise, which is 5:00 p.m. (Montreal time) on June 15, 2017.

An application will be made to list the Series H Shares on the Toronto Stock Exchange (“TSX”).

IAG.PR.G is a FixedReset 4.30%+285 that commenced trading 2012-6-1 (and was, unusually, re-opened on 2012-6-19) after being announced 2012-5-24. It has been a member of the FixedReset subindex since inception.

As this issue is not NVCC compliant, it is analyzed as having a Deemed Retraction.

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., IAG.PR.G 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).

The market appears to have a distaste at the moment for floating rate product; most of the implied rates until the next interconversion are lower than the current 3-month bill rate and the averages for investment-grade and junk issues are both well below current market rates, at +0.07% and -0.33%, 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 IAG.PR.G 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. Therefore, it seems likely that I will recommend that holders of IAG.PR.G continue to hold the issue and not to convert, but I will wait until it’s closer to the June 15 notification deadline before making a final pronouncement. I will note that, given the apparent cheapness of the FloatingResets, 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.

This entry was posted on Thursday, June 1st, 2017 at 8:05 pm 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.