Preferreds Get Crushed Again

One asset class that has reared its ugly head again is the preferred market. While the credit markets seem to have stabilized a bit, preferreds have gotten crushed over the past couple of weeks. As shown below, the ETF that tracks an index of all preferred stocks in the US (PFF) has dropped sharply from its recent peak, falling 27% since January 6th.

The ETF that specifically tracks financial sector preferreds (PGF) has not surprisingly gotten hit even harder. PGF has fallen all the way back down to its November lows, and it is down 36.5% since January 6th. Unfortunately, the November lows are now a not-too-distant memory for preferred holders.

Comments

[elliot_mllr:]

In answer to everybody's comments I suspect that the author does not set forth the reason for the decline in preferreds or how to deal with it, because, like the rest of us, he hasn't a clue as to either..

Jan 25 12:20 PM

[Dr.Jackpot:]

One reason could be that banks have the right to suspend preferred dividends for 5 years without your permission. However they must pay at the end of that time all back interest. Another is fear that GOV will demand no preferred payments for their help they're giving. Other than that, there are some great yields right now.

Jan 25 12:34 PM

[Steve Ward:]

Could be the preferreds are anticipating inflation and higher interest rates and pricing in future risks of both for a fair return.

Jan 25 01:42 PM

[Steve Ward:]

All of investing is based on 3 mega trends: Inflation, Deflation and Quantum Shifts due to inventions, ala Henry Ford, Bill Gates etc. Preferreds, if issued by a solid company are inflation or deflatioary expectations. Conversion factors on preferreds really don't matter in this scenario.

Jan 25 01:45 PM

[Rob Viglione:]

My guess is markets are slowly warming to the idea of inflation. Most economic commentaries I've read over the last few months seem to converge on the idea that we can anticipate near term asset price deflation with consumer and commodity price inflation in the 1-2 year time horizon.

On another note, American financials are a dying asset class, which happens to comprise the bulk of preferred shares for any of these ETF's. With talks of nationalizations and further deleveraging, no wonder why this asset class is getting clobbered.


On Jan 25 01:42 PM User 213076 wrote:

> Could be the preferreds are anticipating inflation and higher interest
> rates and pricing in future risks of both for a fair return.

Jan 25 02:19 PM

[pickaroonwyo:]

Bill Gross is front running the Fed and Tarp.

An interesting alternative is Calomos closed end convertible funds.

Check etfconnect.com

Jan 25 02:54 PM

[pickaroonwyo:]

Oops.....that Calamos....

Jan 25 03:11 PM

[Timmothy Posey:]

I'm a buyer at these levels. The index will just probably rebalance is RBS doesn't continue to pay their preferreds (unlikely).

~15% Yield.

Jan 25 06:03 PM

[secmaven:]

Supply and demand. Insurance companies are the biggest buyers of preferred stock and the big insurers, Pru, Met, etc. are hoarding cash right now in anticipation of policy cancellations that cut cash flow and policy loans that require capital.

Jan 25 06:09 PM

[vaughn:]

Banks are insolvent which means all common, equity and subordinated debts of banks are worthless. Banks are being kept alive on the Fed liquidity-ZIRP and monetize scheme.

Don't know what Geithner and Obaba will do next. If they shall choose to go the right route by forcing the senior debt holders of banks to become the new common holders while simultaneously wiping out all common,preferred and sub debt owners, then the banks can resume lending very quickly. Or more likely, they will choose to lie and pretend the banks are not insolvent and keep the Zombie banks going while using the ZIRP to nurse banks into healthy. Then all the private capital will wait on the sideline and we shall see this economy sinking for a long term while simultaneously sealing Obama's fate of one term presidency.

My money is that politicians will choose to lie and kick the can down the road.

Jan 25 06:35 PM

[bsharvy:]

The majority of preferred shares are issued by financial companies. So, preferreds got clobbered last week because the financial sector got clobbered. It's not really worth an article in its own right, nor would it have been hard for the author to point that the explanation is obvious rather than mysterious.

Jan 25 07:13 PM

[Fred Swartz:]

85% of PFF is in financials according to the iShares info, and if the financial preferred shares are TARPed, . . .

Jan 26 12:08 AM

[budfox2008:]

obviously, everyone thinks that C and BAC are going to be nationalized and their preferreds are going to get wiped out just like FNM and FRE. Its pretty straight forward.

Jan 26 12:23 AM

[rogerlig:]

A lot of the preferreds in the index funds are bank issues. There's a strong fear that, as part of the TARP, the gov't will restrict dividends, including those on preferred stock. Hence, the big decline.


On Jan 25 08:41 AM dealjunkie wrote:

> These charts are interesting, b ut they do not demonstrate that preferreds
> have been hurt more than any other asset class. IF this is true,
> is there a plausible explanation?

Jan 26 06:41 AM

[prairiedog555:]

Don't quote Bill Gross for a recomendation. I followed some of his calls and sank.
He has no clue just like the rest of us.
Whatever guru status he once had is gone.

Jan 26 09:01 AM

[Steve Ward:]

Gross is as smart and gutsy as they come. But we are in a 1 percent world where all the scenarios do not come to pass, only scenarios that under normal circumstances would only have a 1 percent chance of occuring.

Gross is in a 1 percent world but does he realize it? does Buffett realize it? In the depression of the 30's smart guys went under.

Jan 26 11:59 AM

[shootpar2001:]

Are not these companies that have issued prfs', organizations that have large cash flows? Yes, they have been pinched; but they are still making the payments.
Risk/Reward is how I look at it.

Disclosurers: (PSY).



On Jan 25 09:09 AM Boubou wrote:

> These facts are only too well known to preferred holders and others.
>
> What would be more useful is some background and suggestions as to
> why this is so. Anyone think this is another buying possibilty like
> last november?

Jan 26 12:20 PM

[shootpar2001:]

Yes, preferreds are majority financials; but not all. GE's preferreds should be considered safe (shouldn't they?).
Blackrock's preferred (PSY) also has some private (144a) shares for further diversification.
No risk (treasuries), no return or risk with some return (prfd's, corps.).
That is the individuals question before investing.

Disclosurers: (PSY).



On Jan 25 02:19 PM Rob Viglione wrote:

> My guess is markets are slowly warming to the idea of inflation.
> Most economic commentaries I've read over the last few months seem
> to converge on the idea that we can anticipate near term asset price
> deflation with consumer and commodity price inflation in the 1-2
> year time horizon.
>
> On another note, American financials are a dying asset class, which
> happens to comprise the bulk of preferred shares for any of these
> ETF's. With talks of nationalizations and further deleveraging, no
> wonder why this asset class is getting clobbered.

Jan 26 12:30 PM

[shootpar2001:]

Which means holding the preferreds for a while, may not be the worst idea in the world. I did not say for the 'long' term. I am thinking of a year to 18 months. Expecting an upside on share prices and dividends as well. I'll be honest, I do not know how long will be optimal. I just see an over reaction to the downside.

Disclosurers: (PSY).



On Jan 25 06:35 PM vaughn wrote:

> Banks are insolvent which means all common, equity and subordinated
> debts of banks are worthless. Banks are being kept alive on the Fed
> liquidity-ZIRP and monetize scheme.
>
> Don't know what Geithner and Obaba will do next. If they shall choose
> to go the right route by forcing the senior debt holders of banks
> to become the new common holders while simultaneously wiping out
> all common,preferred and sub debt owners, then the banks can resume
> lending very quickly. Or more likely, they will choose to lie and
> pretend the banks are not insolvent and keep the Zombie banks going
> while using the ZIRP to nurse banks into healthy. Then all the private
> capital will wait on the sideline and we shall see this economy sinking
> for a long term while simultaneously sealing Obama's fate of one
> term presidency.
>
> My money is that politicians will choose to lie and kick the can
> down the road.

Jan 26 12:36 PM

[Boubou:]

The comment below is clearly true as far as it goes, but if we assume preferred holders are interested in income over and above speculating on price, then preferred values are not expected to be as volatile as ordinaries. This is new. i can only assume that the expectation of div deferrement is high. And many of them are not cumulatative and dividends will not be made good after deferrement.
In such a case, the deferred stock is nearly worthless.


On Jan 25 07:13 PM bsharvy wrote:

> The majority of preferred shares are issued by financial companies.
> So, preferreds got clobbered last week because the financial sector
> got clobbered. It's not really worth an article in its own right,
> nor would it have been hard for the author to point that the explanation
> is obvious rather than mysterious.

Jan 26 02:13 PM