One of the most popular exchange-traded funds is the iShares S&P US Preferred Stock Index (PFF). It's net asset value is about $11.8 Billion with a yield of 5.78%.
The Nuveen Quality Preferred Income Fund (JTP) is a closed-end fund that seeks a high level of current income by investing at least 80% of its net assets in preferred securities and up to 20% in debt securities, including convertible debt securities and convertible preferred stock. All of its assets at the time of investment are investment grade quality (BBB/Baa or better), but some securities may subsequently fall in rating.
Both of these securities have fallen in price over the last few weeks as the 10 year bond yield has increased. But I believe that JTP is now a much better buy than PFF. For someone who is holding PFF at a loss in a taxable account, this is a good time to swap the PFF for JTP, realizing the tax loss. I would also recommend this trade in an IRA account, but there is no tax advantage in that case.
Since PFF is an exchange-traded fund, an arbitrage mechanism normally causes it to trade close to its net asset value. Currently the discount to NAV is -0.1%.
JTP is currently selling at a discount to NAV of -8.62% compared to the 6 month average discount of -2.81%. The 1-Year Z-Statistic is -3.02. This means the current discount to net asset value is three standard deviations below the mean. One year standard deviation for JTP's discount is 2.13%, so if JTP merely returns to its normal discount, you could see a 6% excess return relative to the NAV return.
What is the likelihood JTP can raise its monthly dividend?
To determine this, I look at the Average Earnings/Current Dividend Ratio. This ratio tells you whether or not a fund is earning its current dividend. If the value is well above 100%, it means the fund can easily afford to raise its distribution rate.
For JTP, the average earnings as of May 31 is $0.0536, which is higher than the recently monthly payout of $0.05. The Average Earnings/Distribution ratio is now 107.20% which is one of the highest ratios for Nuveen fixed income CEFs. This means that JTP may soon be increasing its monthly distribution.
There is also a high positive value for "Undistributed Net Investment Income" or UNII. This is the life-to-date balance of a fund's net investment income less distributions. For JTP, the UNII per share is +0.1536 which provides a nice cushion of more than three months of dividends to protect the monthly payout.
JTP has several "sister" funds at Nuveen that also invest in preferred securities - JPS, JHP and JPI. These funds also sell at attractive discounts, but have somewhat lower Average Earnings/Distribution ratios and UNII per share:
Data as of May 31, 2013:
Earnings per share
UNII per share
How much leverage is used, and what is the preferred share asset coverage?
In 2008, some leveraged closed-end funds got into trouble because they violated the Investment Company 1940 Act when their asset coverage for the preferred shares went below 200% and they were forced to liquidate portions of the fund at a bad time. JTP currently uses modest 28.01% effective leverage. The preferred asset coverage ratio is currently 357.01% which provides a large margin of safety.
JTP has significant interest rate sensitivity, since over 70% of the portfolio is invested in preferred securities maturing in 30+ years. For this reason, it is important to diversify JTP with other investments with lower duration (e.g. floating rate securities). But the current yield spread over Treasuries is quite generous and already discounts additional moderate increases in interest rates.
Portfolio Management Team
The fund is managed by Spectrum which is one of the leading managers of preferred securities. Spectrum is led by two principals with a combined 50 years of preferred securities experience. Spectrum uses a value-oriented approach which emphasizes research to identify appropriate companies, sectors and market opportunities.
Asset Allocation (as of 05/31/2013)
Debt & Convertibles
20- 29 Years
Ticker: JTP Nuveen Quality Preferred Income
- Total Net Assets= 830.6 MM Total Common Assets= 595.7 MM
- Annual Distribution Rate= 7.26%
- Dividend Frequency= Monthly
- Current Monthly Distribution= $0.05 per share ($0.60 per year)
- Baseline Expense ratio= 1.29% (before interest expense)
- Discount to NAV= -8.62% 6 Month Avg. Discount= -2.81%
- Portfolio Turnover rate= 21%
- Effective Leverage= 28.01%
- Average Cost of Leverage= 1.20% (from semi-annual report Jan. 2013)
- Average 3 Mos. Daily Trading Volume= 170,000 shares (about $1.4 Million)
Overall, I think JTP is an excellent purchase at current levels for someone with extra cash. I would also recommend it as a swap trade from PFF. The distribution yield is attractive and there is a good chance of a dividend increase in the near future. The recent intermediate term performance record of JTP is considerably better than that of PFF: