13 New Preferred Stocks Provide 6.2% With Increased Principal Protection

by: Doug K. Le Du

New preferred stocks are being introduced at almost twice the pace as last year [1]. Beginning with ALL-B from Allstate Corp. (NYSE:ALL) on January 3, there have been 31 new issues so far this year (through February). That's almost sixteen new issues per month compared to an average of about nine new issues per month during 2012.

While this bumper crop affords an increase in choices to consider, some preferred stock investors are concerned about potential future price decreases eroding their principal. There are several strategies for adding a layer of principal protection to a preferred stock investment but purchasing for the lowest possible price is a common thread.

Strategies for Principal Protection

Many preferred stock investors, investing purely for the dividend income, view a period of falling prices as a time to add more dividend paying shares to their holdings. But in any case, the lower your purchase price, the more time you will have to consider whether you should sell before your invested principal is affected or buy more shares for an even better price.

One short-term approach to principal protection is to purchase shares of a preferred stock that is highly likely to be redeemed soon for a price that is below the redemption value of the security. The article "Another Principal Protection Strategy For Today's Preferred Stock Investors" uses ProLogis (NYSE:PLD) preferred stocks as an example where we were able to purchase shares of PLD-S for a price well below the price that shareholders would receive in the event of a call (or collect more dividend income if the expected call does not materialize).

A second principal protection strategy is to purchase shares during the early days of a dividend quarter. This approach takes advantage of the "time value of money" that says that a preferred stock that is closer to its dividend pay day takes on more value than one that is further away. Put another way, market prices of preferred stocks are often lower during the early days of a dividend quarter when the next dividend is still relatively distant.

Buying Wholesale

A third principal protection strategy for preferred stock investors is particularly applicable right now since it typically works best during a period when rates are relatively low and prices are relatively high. Prior articles (September 2012, June-July 2012) have explained how preferred stock investors are able to use the Over-The-Counter (OTC) stock exchange to purchase shares of newly issued preferred stocks for wholesale prices so I won't repeat the details here.

To summarize, when a new preferred stock is introduced to the marketplace, a group of "underwriters" pools their cash and purchases the new shares from the issuing company. An application is filed with the NYSE (typically) at this time for a new trading symbol, a process that usually takes a couple of weeks. The underwriters receive a discount off of par, typically paying about $24.25 per share (this discounted price is published on page 1 of the prospectus; see PSA-W's prospectus for an example).

Anxious to get their cash back (and not at all interested in waiting until someone at the NYSE gets around to assigning a new symbol), the underwriters usually sell the new shares to dealer/brokers using a temporary trading symbol [2] on the OTC stock exchange for about $24.50 per share. The dealer/brokers, now out the cash, are looking for buyers - any buyers - and will frequently accept buy orders below par (but above $24.50) as speed is critically important at this point in the process.

It is during this wholesale distribution of the new shares on the OTC exchange that you are usually able to make purchases at a discounted price, essentially taking part of the original $0.75 per share underwriter commission and putting it into your own pocket.

January, February Results

Of the 31 new issues introduced so far this year eleven are exchange-traded debt securities (ETDs). ETDs are very similar to preferred stocks but can offer the investor lower risk than the same company's preferreds since ETDs are actually bonds that trade on the stock exchange (see "Preferred Stock Investors: 'Exchange Traded Debt Securities' Offer Same Reward, Lower Risk"). ETDs, as bonds, move directly to the New York Stock Exchange when introduced and are not assigned a temporary OTC trading symbol.

Of the remaining 20 newly issued preferred stocks, thirteen (65%) were distributed to the marketplace using temporary trading symbols on the OTC exchange [3]: PSA-W from Public Storage (NYSE:PSA), KFN- from KKR Financial (KFN), VNO-L from Vornado Realty (NYSE:VNO), SCE-G from Edison International's (NYSE:EIX) Southern California Edison, FHN-A from First Horizon National (NYSE:FHN), FMCP from FirstMerit (NASDAQ:FMER), ABR-A from Arbor Realty (NYSE:ABR), JPM-A from JP Morgan (NYSE:JPM), ZB-G from Zions Bancorporation (NASDAQ:ZION), GGP-A from General Growth Properties (NYSE:GGP), ARR-B from ARMOUR Residential REIT (NYSE:ARR), CFR-A from Cullen/Frost Bankers (NYSE:CFR) and PRE-F from PartnerRe Ltd. (NYSE:PRE).

For each of these thirteen new preferred stocks, the yellow diamond on this chart shows the opening OTC market price while the gray diamond shows today's price (March 15, 2013).

Principal Protection from OTC Preferred Stock Buying

With three minor exceptions, notice how the yellow diamond is lower than the gray diamond. The average opening OTC wholesale price was $24.79 per share for these thirteen new preferred stocks. The current market prices of these shares, all now trading on the retail NYSE, have increased by an average of $0.30 per share and are providing an average yield of 6.18%.

$1.00 per Share of Principal Protection for 2012 Investors

The article titled "Principal Protection For Preferred Stock Investors During A Low Rate Environment" presents the results of this principal protection strategy for each month during 2012. As itemized in that article, preferred stock investors were able to use this strategy to purchase shares for an average price of $24.91 last year during wholesale OTC distribution, shares that are now selling for an average retail price of $26.00.

Average market prices would have to drop by over $1.00 per share before the average principal invested by this group that used the OTC exchange last year is affected.

Using the Over-The-Counter stock exchange to take advantage of wholesale prices often allows savvy preferred stock investors to add a layer of principal protection to your investment. Purchasing for wholesale prices can provide the cushion of time needed downstream to take appropriate action (sell or buy more shares) in the event of a future drop in prices.


[1] Source for all preferred stock data in this article: CDx3 Notification Service database, Preferred Stock Investing, Fourth Edition (PreferredStockInvesting.com) and TDAmeritrade. Disclosure: The CDx3 Notification Service is my preferred stock email alert and research newsletter service and includes the database of all preferred stocks and exchange-traded debt securities traded on U.S. stock exchanges used for this article.

[2] Sources for OTC trading symbols: the CDx3 Notification Service (my subscription research service) provides OTC trading symbols via email alerts for new preferred stocks and exchange-traded debt securities; QuantumOnline's site (quantomonline.com, requests a fee on the honor system) does not provide email alerts, market prices, ex-dividend dates or downloadable data but frequently lists OTC symbols for do-it-yourselfers.

[3] How easily you are able to participate in OTC trading depends on the breadth of your broker's contracts with "market makers," of which there are about a dozen. While the process is invisible to you, market makers manually coordinate trades since the OTC exchange is less automated than other trading venues. Most online brokerage systems (e.g. TDAmeritrade, E*Trade and most others) allow you to place trades for new preferred stock shares using the OTC trading symbol just like any other stock trade.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: Securities identified within this article are for illustration purposes only and are not to be taken as recommendations.